ValuePickr Forum

Investing Basics - Feel free to ask the most basic questions

Another fundamental difference b/w NPV and IRR is that IRR assumes capital is reinvested at IRR value which can be different from cost of capital, whereas NPV assumes reinvestment is done at cost of capital. So for eg cost of capital is 10% and while calculating NPV for a project, implicit assumption is that reinvestment is done at 10% which is CoC. However of for same project if IRR comes at 15%, then it assumes reinvestment done at 15%.

Cheers!
Vikas

Hi ,

Can any one please help me in understanding the leverage concept. Leverage is like a double edge sword. How can I find out if a particular company is using leverage or not in order to increase the profits. Or are they able to take the benefits of leverage successfully. Which components , ratios in Financial statements we should look for.

Basically I want to understand how to know if a company is using leverage or not and if yes are they doing it effectively ?

What are obvious things and how you interpret them when you glance through financial statements, like

  1. Consumer Brand + High Gross Margin => Likely Selling Premium Product/Service
  2. No equity dilution and no debt rise => Growth likely funded by internal accruals
  3. High Dividend Payout ratio => Likely Not much investment in future
  4. Negative Working Capital => Float funded business => Unlikely to face operational challenges
  5. Continuous negative “investment cash flow” => Investment for future => Management likely optimistic of future
  6. Interest cost significant relative to PAT => likely Financial Leverage bet
  7. High Gross Margin + Low Operating Margin => likely Operating leverage bet
  8. Consistently [ Operating Cash Flow > PAT ] => Capital intensive business

Please share your “fast interpretation tricks when you glance through financial statements table”

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Leverage is simply using debt in addition to equity as a part of the capital structure of the company. To know if a company is using leverage, look for debt in liability side of company’s balance sheet. A debt/equity ratio is a good measure of leverage.

If return on equity is higher than return on capital employed then leverage is helping equity owners.

another way is to look at interest cover. if interest cover i.e. earnings before interest divided by interest expense is rising, then leverage is helping because a rising ratio means earnings are rising faster than interest expense so leverage is helping.

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I have 3 questions:

  1. How can you determine a good price to buy and sell a stock?

  2. What exactly are “concalls” which I keep hearing in many of the threads?

  3. How can you tell just by looking at the balance sheet if a company has good management?

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  1. Go through these threads.
    Valuation: Measuring & Managing the Value of Companies
    The ART of Valuation
    Guru Mantra 16- Competitive Advantage: Racing for Uniqueness (The Second Part)

  2. Concalls - A Conference Call is the interaction of a Company’s management with Investors and Analysts to discuss the recently announced results of that company.

  3. Balance sheet on its own can’t give you a complete picture on the quality of the management. Management Quality: Refining our thinking on “Great Managements”

I suppose you are completely new to investing, & I strongly suggest you start off by reading Peter Lynch’s ‘One Up on Wall Street’ & Pat Dorsey’s ‘The Five Rules for Successful Stock Investing’.

Or you could also pick up Basant Maheshwari’s ‘Thoughtful Investor’. I haven’t read it, but he seems to have covered everything a beginner would need to learn about investing…

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How do you guys calculate if a company is paying debts aggressively or not. If they are interested and very much focused on reducing the debt or not ?

If suppose the company holds 100 crore debt at 10 % interest , so it should pay 10 crores as interest expense for this year…but if the management decides to do the pre payment , for ex. they pays 20 crores instead of 10 crores.

So is their any way we can get to know from financial statements that if a company is doing pre payment of loans and is looking to become debt free.

Thanks in Advance

Refer to the Annual report, there is a section showing indebtness of the company:

Refer below Lal Path labs indebtness from their AR:

Also Refer below Kitex indebtness from their AR:

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Is there any website where I can see share holder pattern changes Q on Q ? I am keen to know promoter holding increase/decrease, though it is great to know trusted investors/MF/FPI pattern changes for a given company. I usually follows screener and ratestar. Screener, I could not see the data and ratestar do not have any comparison with last quarter and not able to easily see which year/quarter data is given.

Check here
http://www.bajaar.me

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Is it possible to find customer advances in screener.in?

How do you calculate the size of the opportunity (in order to compare with market cap)? Do you use any source of data?

I have two questions can someone throw some lights

  1. When the experts say earnings will improve, do they mean EPS or anything else.
  2. How is dividend yield calculated and how does it protect the price fall of a stock.

Any pointers would be helpful.

Dividend yield is calculated by dividend per share upon current mkt price . Say a share cmp is 100100 and it declared 2 rs dividend the yield will be 2% .
Dividend yield safeguards the downside risk say a good reputed company yield comes in range of 3.
5% to 5% you can roughly estimate that its downside risk is very limited and invest in it.

One of the things i do is look at the AR and find out the market share of the company if they have mentioned it. Sometimes con calls also mention it. If you know the market share and sales of a company its easy to calculate the rough size of opportunity. If you do this for competitors in the same sector then you get a further sense.

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Thanks @bheeshma. It is quite practical method that you mentioned. One follow up question - when we say opportunity size is it the rough size as of now or does it include future potential as well?

What is RoC , is it same to ROE .
One more question I want to ask , say a company has row of 15 and roce of 35 . Interest outflow is 15% ( which is arrived by interest expense/total debt) can we say company is generating 5% additional revenue after expensing the interest cost and thus it is doing good and can we invest in such a company .

How do you arrive at a decision about liquidity of a stock…Is thier some minimum volume quantity you look for daily…for example 10000 shares trading per day or any other criteria ? How will you get to know that a stock is highly liquid so that it can be Buy/Sell easily at optimum prices.

Thanks in Advance.

Basically, liquidity is subjective. It depends on the buyer and seller. Lets say if you want to buy 100 shares of a company, you would want to see if the stock trades a multiple of that 100 every day, say 10,000 shares on average every day. That means you will be able to sell/buy easily. Now, for a big investor who wants to buy 10,000 shares of teh same company, he may look to see if a few lakh shares are traded everyday.

I look at Bid-Ask spread and impact cost as the best indicators of liquidity. Bid-Ask spread should be less than 1% and impact cost should be less than 1% as well. That’s just my criteria. Larger investors generally require lower spreads and costs.

Having said that, I do not necessarily reject a company just because liquidity is low but I add a liquidity risk premium to my valuation model.

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