TechnoFunda Analysis of a Company's Stock [Basics of Stock Market Investing]

TechnoFunda Analysis of a Company's Stock 
[Basics of Stock Market Investing]

Technofunda Analysis of a Company

First of all, we must know why we do Fundamental and Technical Analysis?

Fundamental analysis is done to select a company in which we can invest our surplus capital for a long period of time.

Technical analysis is done to make entry in the stocks selected as per our fundamental analysis.

There are a many points which we must consider while fundamental and technical analysis of stocks.

First of all, we start with fundamental analysis and after that technical analysis is done.

Key points while fundamental analysis of Stocks

1. Promoters Background and past record

We must closely observe the promoters behaviour and their past records.

Positive indicators

- Stable or increasing promoters holding

- Past track record in awarding shareholders like dividend payments, bonus issue etc.

- Past successful ventures

- Promoters attitude and behaviour in tough times

Negative indicators (Red Flag)

- Frequent decrease in Promoters shareholding

- Buying and selling of own securities

- Legal issues

- Aggressive risk-taking and over-leveraged position

- Past failed ventures

- Promoters pledge their shares

2. Sector in Which Company Operates

The most important point we must keep in mind about the sector in which company operates. We can create huge wealth by investing in sunrise sector but investing in sunset sector we can lost our entire capital

Sunrise Sector are:

- Technology – AI

- Renewable Energy

- Electric Vehicles

- Waste management

- Water management

- Natural Gas

- Tourism

- Manufacturing Especially Electronics equipments

- Healthcare and Insurance

Sunset Sector:

- Petroleum (Oil and Gas)

- Coal

- Paper

- Textiles (Due to high competition)

3. Shareholding Pattern (FII and DII Holding)

Shareholders of a Company are divided into four main categories which are:

- Promoters

- FII

- DII

- Retailers

Shareholders other than retailers have more insider information about the company.

If FIIs and DIIs are continuously increasing stake in any company, it indicates something big is going to happen in that particular company.

How to Check FII and DII Activity?

- Check new shareholding pattern at the end of every quarter from NSE and BSE website

- Check daily block and bulk deals

- Also you can check Price-Volume Action from the website Screener.

4. Cash Efficiency of the Company:

A cash rich and cash efficient company is good for long term investment.

To check a cash efficient company, we must look into two points:

a) Cash flow statement

b) Cash conversion cycle

Cash flow statement is divided into three parts. These are:

a) Cash flow from operating activities

b) Cash flow from investing activities

c) Cash flow from financing activities

We must deeply observe cash flow from operating activities. If it is positive, then it is a good sign.

Analysis of Cash flow statement:

1. Positive cash flow from operating activities – Better if it is more than sum of negative cash outflow from investing and financing activities.

2. Negative cash flow from operating activities – It can be disastrous for company but we must find out the reasons.

3. Negative Cash flow from investing activities – It is good because it indicates company is investing for expansion. But we must find out where investment is made.

4. Positive cash from investing activities – We must look into whether positive cash flow generated due to sale of core or non-core asset. Sale of core asset is a cause of concern.

5. Negative cash flow from financing activities – It is a good sign because it indicates company may be repaying its debt or paying regular dividend or buying back its shares.

6. Positive cash flow from financing activities – It need detailed analysis because it is not good if it is caused by increase in borrowings. But we must check whether borrowings are for expansion purpose or to pay its existing debt.

Cash conversion cycle:

The cash conversion cycle (CCC) is a metric that expresses the number of days it takes for a company to convert its inventory into cash flows.

Ideally, a cash cycle averages between 30 to 45 days. However, these cycles can vary significantly between industries.

It is calculated as:

Cash Conversion Cycle = DIO + DSO – DPO

Where: DIO stands for Days Inventory Outstanding. DSO stands for Days Sales Outstanding. DPO stands for Days Payable Outstanding.

Or

You can check it directly from Screener website.

5. Inventory Turnover Ratio (ITR):

The inventory turnover ratio is the measure of the number of times inventory is sold or used in a particular time period.

 A good inventory turnover ratio is between 5 and 10 for most industries, which indicates that a company sell and restock its inventory in every 1-2 months. 

While analysis, ITR must be interpreted in the context of industry norms and company-specific factors, such as production cycles or demand fluctuations.

With ITR, Inventory turnover days must also be studied.

Increase in ITR and decrease in Inventory turnover days over the year is a positive sign for the company.

6. Debt Service Coverage ratio:

The Debt Service Coverage Ratio measures how easily a company's operating cash flow can cover its annual interest and principal obligations.

Debt service capacity of a company can be measure with the help of two ratios:

a) Interest coverage ratio

b) Debt equity ratio

a) Interest coverage ratio (ICR)

The ICR is a metric that indicates a company's ability to pay off its interest using operating profits.

It is a metric used for determining the number of times a company can pay off its interest obligation with its current earnings before interest and tax (EBIT).

It is calculated as EBIT/ Total annual interest expenses.

High ICR say more than 3 is considered to be very good.

But, low ICR say less than one shows company’s present earning is not sufficient to cover its annual interest expenses.

b) Debt equity ratio

Debt to Equity ratio is a financial and a liquidity ratio that indicates how much debt and equity a company uses.

It is calculated by dividing a company's total outsider’s liabilities by its shareholder equity.

Debt equity ratio should not be more than two but debt equity ratio interpretation is different for different sectors.

For example, Debt equity ratio is normally very high in case of Power generating companies, Banking and finance companies, real estate companies.

But, in FMCG and It companies it is normally very low or nil.

7. Operating Profit Margin (OPM)

It is the ratio of net income derived from a company’s core business.

Higher operating profit margin indicates high profitability of the company and low operating profit margin indicates that the company or sector is risky.

Two points must keep in mind about operating profit margin:

a) A company must maintain consistent OPM

b) OPM must be compared with its peer

If a company earning higher OPM as compared to its peer, its show pricing power of the company.

8. Price Earnings Ratio

The price earnings ratio, also known as P/E ratio, is the ratio of a company's share price to the company's earnings per share. It is a valuation tool and used to find out whether stocks are overvalued or undervalued.

An ideal P/E ratio is ranging from 20 to 28. But it is not applicable in every case.

Key points to remember:

1. A sunrise sector such as Green energy always gets premium P/E valuation say 50 to 100 in bull market.

2. A Sunset sector such as OMCs and Papers companies never gets premium P/E valuation. Check IOC, BPCL, JK Paper P/E ratio.

3. Always compare stock’s P/E with industry P/E

Explore how the price-earnings ratio reflects market sentiment towards the company and compare it with industry peers and historical averages.

9. Return on Capital Employed (ROCE) & Return on Equity (ROE)

Capital Employed is simply the Sum of Equity or Shareholders fund and Long term outsider’s liabilities.

ROCE is profitability ratio which simply indicates what percentage of profit a company is generating for its long term lenders and shareholders.

Normally, 18 to 25 percentage ROCE is considered good if a company is maintaining for consistent basis.

A higher ROCE is generally better, indicating that the company uses its capital more efficiently to generate profits. However, what's considered a "good" ROCE can vary by industry, so comparing a company's ROCE with others in the same sector is always best.

ROE is profitability ratio which simply indicates what percentage of profit a company is generating for shareholders.

Normally, 12 to 15 percentage ROCE is considered good if a company is maintaining for consistent basis.

Like ROCE, a higher ROE is generally seen as better. It shows the company efficiently uses shareholders' money to generate profits. However, an extremely high ROE might indicate that a company is taking on too much debt or not reinvesting enough in the business.

10. Sales Growth and Profit Growth

In present competitive world, one must check recent quarter and yearly sales growth and profit growth while fundamental analysis of stocks.

Sales growth must be checked in both value and volume terms.

One must also take into consideration new products and market share of the company.

11. Market Share and Competitive Position

A company's market share is its total sales in relation to the overall industry sales of the industry in which it operates.

The size of a company's market share impacts its ability to earn attractive profits. A company with a dominant market share has more pricing power compared to smaller competitors.

Key Point: It is now a well-known fact that shareholders are creating huge wealth in those companies who have small market share but it is increasing with the passage of time due to quality management of the company.

12. Order Book

An order book is a list of orders that a company has received for its products or services. A high order book indicates assured revenue and profits to the company.

Two points must be looked into regarding order book:

a) Order processing efficiency of the company – Management track record, ITR etc.

b) New order win as compared to its competitors

13. Dividend Pay-outs and Dividends Yields, Share Buybacks:

Dividend Pay-outs is calculated as total dividends/Net income.

Generally, a dividend payout ratio of 30-50% is considered healthy, but anything over 50% could not be sustainable. Also high dividend payout indicates company is not retaining its profits for expansion and growth of the business.

Dividend yield is calculated as Dividend per share/Market price.

High dividend yield is appealing for those investors who wants to generate regular passive income. Dividend yield above 8 percentages is highly rewarding for shareholders.

But investment cannot be made for dividends only. Investors must also look into growth opportunity in the company.

14. Company’s Concall:

Last but not the least, don’t forget to read Company’s Concall which is updated by companies at regular interval say monthly, quarterly, half-yearly or annually.

It gives a deep information about management's views, present performance updates and future guidance of the company.

Key points while Technical analysis of Stocks

15. EMA (5 and 21)

Exponential moving averages are commonly used short-term and mid-term indicators in technical analysis.

Two Key EMA are: 5 EMA and 21 EMA.

Look for Crossover in EMA.

- Bullish Crossover: 5 EMA moves above 21 EMA

- Bearish Crossover: 5 EMA moves below 21 EMA

These crossover is useful mainly in normal positive market.

16. DMA (50 and 200) – Most Important

Daily Moving Averages (DMA) prices are fundamental tools in stock market analysis. Mainly 50 and 200 DMA use in technical analysis of stocks. In case of negative market or recovery in market these DMA works very well.

- 50 DMA represents short- to medium-term trends.

- 200 DMA highlights long-term trends.

Look for crossover:

- Golden Crossover or bearing crossover: A "Golden Cross" occurs when the 50 DMA moves above the 200 DMA, signalling potential bullish momentum.

- Death Crossover: It happens when the 50 DMA falls below the 200 DMA, indicating bearish sentiment.

50 DMA acts as first support in falling market.

200 DMA acts as a major support in falling market, below this more correction possible.

17. RSI (Relative Strength Index)

The Relative Strength Index (RSI) is a momentum oscillator that measures the speed and magnitude of price movements, oscillating between 0 and 100.

- An RSI above 70 suggests a stock is overbought

- RSI below 30 indicates an oversold condition

But in bull market or bearish market, RSI is not very effective. Always use RSI with RSI crossover as Available in Tradingview Website.

18. Super Trend

The Super Trend indicator is a trend-following tool that provides clear buy and sell signals based on price action and volatility.

- When the stock price closes above the Super Trend line, a buy signal is generated.

- When it closes below, a sell signal is issued.

This indicator works effectively in trending markets but may give false signals in range-bound conditions.

19. Trend Line

Trend lines are simple yet powerful tools in technical analysis. They are drawn by connecting two or more price points, helping to identify the direction of a trend.

- An upward trend line connects higher lows, indicating bullish momentum

- A Downward trend line connects lower highs, signalling bearish sentiment.

Breakouts above or below these lines can indicate potential reversals or continuations of trends.