week 19 Analyzing Common Stocks

Flashcards for ECON 1145 Lecture Notes on Analyzing Common Stocks

Security Analysis

Process of gathering information, organizing it into a logical framework, and then using the information to determine the intrinsic value of common stock.

Intrinsic Value

A measure of the underlying worth of a share of stock.

Top-Down Approach to Security Analysis

Economic Analysis, Industry Analysis, Fundamental Analysis

Economic Analysis

Assess the general state of the economy and its potential effects on businesses.

Industry Analysis

Overall outlook for specific industry within which a company operates and the level of competition in that industry.

Fundamental Analysis

Financial condition and operating results of a company, helping investors formulate expectations about the company’s future performance.

Efficient Market Hypothesis

Securities are rarely, if ever, substantially mispriced in the marketplace, so no security analysis can consistently find mispriced securities more frequently than by random chance.

Fundamental Analysis

The study of the financial affairs of a business for the purpose of understanding the company that issued the common stock.

Company Analysis

A historical analysis of the financial strength of the firm, using financial statements of the firm.

Balance Sheet

Statement of what a company owns (assets) and what it owes (liabilities) at one specific time.

Assets

What the company owns (i.e., cash, inventory, accounts receivable, equipment, buildings, land).

Liabilities

What the company owes (i.e. bills, debt).

Stockholders’ Equity

Difference between assets and liabilities, representing the claim held by the firm’s stockholders.

Income Statement

Provides a financial summary of the operating results of the firm over a period of time, showing revenues, expenses, and profit/loss.

Statement of Cash Flows

Provides a summary of the firm’s cash flow and other events that caused changes in its cash position.

Net Cash Flow from Operating Activities

Amount of cash generated by the company and available for investment and financing.

Ratio Analysis

Study of the relationships between various financial statement accounts, used to evaluate a company's financial condition and operating results.

Liquidity Ratios

Measure a company’s ability to meet its day-to-day operating expenses and satisfy its short-term obligations.

Current Ratio

Measures a company’s ability to meet its short-term liabilities with its short-term assets. A higher ratio indicates more liquidity.

Quick Ratio

Similar to the current ratio, but excludes inventory in the numerator, as inventory may be illiquid.

Activity Ratios

Compare company sales to various asset categories to measure how well the company is using its assets; also called efficiency ratios.

Inventory Turnover Measure

How quickly the company is selling its inventory. A higher turnover ratio generally indicates better inventory management.

Total Asset Turnover

Indicates how efficiently a firm uses its assets to support sales. A high figure suggests corporate resources are being well-managed.

Leverage Ratios

Indicate the amount of debt being used to support the resources and operations of the company; also called solvency ratios.

Debt-Equity Ratio

Measures the relative amount of funds provided by lenders and owners. Lower or declining ratio indicates lower risk exposure.

Times Interest Earned

Measures the ability of the firm to meet its fixed interest payments; also called a coverage ratio.

Profitability Ratios

Measure the returns (profits) of a company to its sales, assets, or equity. Higher or increasing measures are preferred.

Net Profit Margin

Indicates the rate of profit being earned from sales and other revenues; the bottom line of operations.

Return on Assets (ROA)

Measures management’s efficiency at using assets to generate profits.

Return on Equity (ROE)

Measures the return to the firm’s shareholders by relating profits to shareholder equity; also called return on investment (ROI).

Price-to-Earnings Ratio (P/E)

Used to determine how the market is pricing the company’s common stock.

Dividends Per Share

The amount of dividends paid out to common stockholders, on a per share basis.

Payout Ratio

Indicates how much of its earnings a company pays out to stockholders in the form of dividends.

Book Value Per Share

Represents the difference between total assets and total liabilities; another term for equity (or net worth).

Price-to-Book-Value Ratio

Relates the book value of a company to the market price of its stock, to show how aggressively the stock is being priced.