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Research

Research helps investors to find out the potential of a security before they invest in it. Fundamental Research and Technical Research are two types of research used to firstanalyze and then value a security. All stock market tips are formulated after thorough research by experts.

  • Fundamental
  • Technical
How to know about the potential increase in the value of securities (shares, bonds, etc.)?

Fundamental Research method is used to find the potential increase in the value of your securities.

What is Fundamental Research?

Fundamental Research is a method of valuing securities based on the growth prospects and attractiveness of the underlying business. It involves analyzing the financials, competitive advantages of the business, quality of the management and the competitive environment it operates in, among other factors. The theory of fundamental research revolves around the fact that the market price of an asset may deviate from its fair value in the short term due to extraneous factors such as investor sentiment or market trends, but will tend to move towards its real or intrinsic value' over the long term.

What are the factors that analysts look for while analyzing a company?

Fundamental analysts believe that a firm's fundamental factors are all reflected in the financial statements and are the true indicators of its earning potential and thereby, the future valuation of the securities. Some of the factors analysts may look at are-

  • Industry growth
  • Competitive advantage of the company and ability to gain market share
  • Revenue and Earnings growth
  • Quality of management
  • Financial and valuation ratios such as margins, return ratios, P/E (Price to Earnings Ratio), etc.
What is the significance of valuation in Fundamental research?

Valuation is one of the most vital elements of fundamental research. The difference between a great business and a great investment is ‘price’. A high price even for the best stock in the world will never earn a great return on investment. The price we pay for a stock matters most and fundamental research helps to determine the true intrinsic value a stock should trade at.

KEY RATIOS FOR FUNDAMENTAL RESEARCH

Operating Profit

It is the profit earned from the core operations of the business. It excludes interest expenses, non-recurring items (such as accounting adjustments, legal judgments, or one-time transactions), effect of taxes or profit earned from the firm's investments such as associate companies.

Operating Profit Margin (OPM)

Operating Profit Margin is used to measure company’s pricing power and operating efficiency. It also shows whether fixed costs are too high for production.

Operating Profit Margin = Operating Profit/Net Sales × 100

  • Look For– High, Consistent & Increasing OPM
  • Compare– With its past performance and peers within same industry

Net Profit

Net income is often referred to as "the bottom line" since it is listed at the bottom of the P&L statement. Net profit represents the amount of money remaining after all operating expenses, interest, taxes and preferred stock dividends (but not ordinary stock dividends) have been deducted from a company's total revenue. Net profit is one of the most closely followed numbers in finance, and plays a large role in ratio and financial statement analysis.

Net Profit Margin (NPM)

It is an indicator of overall profitability of the business i.e. how efficiently it is converting its sales into profits based on its pricing power and controlling costs.

Net Profit Margin = Profit After Tax/Net Sales × 100

  • Look For– High, Consistent & Increasing OPM
  • Compare– With its past performance and peers within same industry

Return On Assets (ROA)

Return On Assets = Net Income/Average Total Assets*100

Return On Assets indicates how efficient management is at using its assets to generate profit.

  • Look For– High, Consistent & Increasing OPM
  • Compare– With its past performance and peers within same industry

Industry– Asset based industries such as banking & finance

Return On Capital Employed (ROCE)

Return On Capital Employed = Earning Before Interest & Tax/(Debt + Equity)*100

Return On Capital Employed indicates company’s ability to generate profits from its total capital base. It also gives a clear picture of how the use of leverage impacts company’s profitability

  • Look For– High, Consistent & Increasing ROCE
  • Comparable– With its past performance and within same industry

Industry– Capital intensive industries such as infrastructure, capital goods, power, oil & gas, metals & mining

Return On Equity (ROE)

Return On Equity = (Income – Preference Dividend)/Average Shareholder’s Equity*100

Return On Equity is more than just a measure of profit; it is also a measure of efficiency. It shows how much a company is earning on its shareholder’s equity.

  • Look For– High, Consistent & Increasing ROE
  • Comparable– With its past performance and within same industry

Industry– All industries

Debt-Equity Ratio (DER)

Debt-Equity Ratio = Total Debt/Total Equity

Debt-Equity Ratio shows the proportion of assets provided by the borrowers and owners of the company.

  • Look For– Low and decreasing DER
  • Compare– With its past performance and within same industry

Industry– Capital intensive industries such as infrastructure, capital goods, oil & gas, metals

Earning Per Share (EPS)

Earning Per Share = (Net Income – Preference Dividend)/Weighted Average Number of Shares Outstanding

EarningPer Share is that portion of a company’s profit which is allocated to each outstanding share. The earning per share is a useful measure of profitability as investors usually look for companies with steadily increasing earnings per share. Growth in EPS is an important measure of management performance because it shows how much money the company is making for its shareholders.

  • Look For– Increasing EPS
  • Compare– With its past performance

Industry– All Industries

Price to Earning Ratio = Current Share Price/Earning Per Share

Price to Earning Ratio tells how much investors are willing to pay for a stock based on its current earnings. In the absence of capital appreciation (in the amount invested), P/E ratio indicates the number of years it will take for you to get back your initial invested amount in the form of returns.

  • Look For– Low PER
  • Compare– With its past performance and within same industry

Industry– FMCG, IT, Pharma

Book Value Per Share (BVPS)

Book Value Per Share = (Shareholder’s Equity – Preference Stock)/Weighted Average Number of Shares Outstanding

Book Value Per Share indicates the level of safety associated with each common share after removing effects of liabilities. This ratio can also be used to see how much an investor can realize in the event of liquidation. This can also be compared with current stock price to decide about under/over valuation of the stock.

  • Look For– Increasing BVPS
  • Compare– With its past performance

Industry– All Industries

Price to Book Value Ratio (PBR)

Price to Book Value Ratio = Current Share Price/Book Value Per Share

Price to Book Value Ratio is used to measure how many times of its book value, the stock is trading. This ratio can also be used for valuation and comparison purpose between companies with negative earnings.

  • Look For– Low PBR
  • Compare– With its past performance and within same industry

Industry– Asset based industries such banking & finance, capital goods, power, infrastructure

Price to Book Value Ratio (PBR)

Price to Book Value Ratio = Current Share Price/Book Value Per Share

Price to Book Value Ratio is used to measure how many times of its book value, the stock is trading. This ratio can also be used for valuation and comparison purpose between companies with negative earnings.

  • Look For– Low PBR
  • Compare– With its past performance and within same industry

Industry– Asset based industries such banking & finance, capital goods, power, infrastructure

Earning Yield (EY)

Earning Yield = Earning Per Share/Current Stock Price

Earning Yield measures the amount of profit a company has generated compared to its market capitalization. It also shows the percentage return an individual will get for investing in the share at current market price. It should also be compared to prevailing interest rates, such as yield of long term government bonds to determine whether it is over/under valued.

  • Look For– High EY
  • Compare– With its past performance

Industry– All Industries

Dividend Yield (DY)

Dividend Yield = Dividend Per Share/Current Stock Price

Dividend Yield indicates how much a company pays out in dividends each year compared to its share price. In absence of any capital gains and in case of notional capital gains for long term investors, dividend yield is the realized return on investment for a stock.

  • Look For– High DY
  • Compare– With its past performance

Industry– All Industries

FUNDAMENTAL RESEARCH VS TECHNICAL RESEARCH

The basic difference between Technical Research and Fundamental Research is that FA tries to find reasons for a stock to move up or down and based on the reasons predicts the price movements whereas TA is not concerned with the reasons and it believes that the way a stock price moves currently tells you where it is heading for in the future.

Fundamental Research

Study and analysis of reasons for stock market movements using historical data, news reports etc. Financial reports are analyzed with the help of ratios Useful for Investors Uses expectations vs actual outcomes for analysis

Technical Research

Study and analysis of price patterns and share volumes Charts to understand share market trends are used Useful for short-term trader or the ones who switch between short-term and long-term trade Uses trend lines, support and resistance etc. for analysis

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