Fundamental analysis, at its most basic, involves understanding how a business works. This can be accomplished by observing the various fundamental parameters and indicators. Therefore, if you wish to understand the premise holding the company, fundamental analysis is your best bet.
Most stock investors have a common worry which is overpaying for a stock. Stocks, unlike restaurant dishes and grocery items, don’t have a standard price tag. Stocks are bought based on their current trade market price.
So, how can you know the true value of a stock?
For example, if you purchase company Z’s shares at $2,200, the amount you’re paying, is it less or more compared to the share’s true value? You can use fundamental analysis to find that answer.
Fundamental analysis will examine a businesses’ key ratio to be able to know the businesses’ financial health.
An intricate look at fundamental analysis
Fundamental analysis evaluates a stock’s intrinsic value. This analysis combines external influences and events, industry trends, and financial statements. Remember, a stock’s fair/intrinsic value doesn’t change by the day.
Fundamentals drive prices down and up, thus making it easy for you to understand the fair value. Fundamental analysis utilizes the following data:
- Historical data: used to know past information.
- Publicly known information: This includes announcements made by its management and the company’s public opinion.
- Useful information not available to the public: This includes ways in which crises and situations are handled.
Where to get a company’s fundamental report
Ask an experienced stockbroker if they have a research desk, and chances are, they do. Fundamental analysis analysts can be found in these research desks. Fundamental reports of a stock or company cover the analysis in detail.
The reports are usually about ten pages long and discuss the financial result a company has. They also give data on the historical loss and profit of a company and its balance sheet. You will also see the valuation view. This makes it possible for investors to know the amount they are paying for a stock considering its prospects. Moreover, you will see some graphs and charts in each report.
How to read a company’s annual report
If you wish to conduct a fundamental analysis of a company, begin with its annual report.
Annual reports are yearly publications that are usually available on the company’s stock exchanges and websites. Shareholders also receive this report offline. This report captures annual developments and data for a financial year. As suck, you need to make sure that the annual report you’re reading is the latest before proceeding to see what it said about previous years.
These reports will give you all the indicators you want and need to know. Investors doing a company’s fundamental analysis need to keep the following sections in mind:
- Financial highlights
- Annexures (if any)
- Management analysis and discussion
- A Decade worth of financial highlights
- Corporate governance report
- Director’s report
How is fundamental analysis calculated?
As earlier mentioned, fundamental analysis shows a stock’s true value.
This fair/intrinsic value of a stock/company represents the current value of all future earnings (or cash inflows) from that stock/company.
The fair value is a representation of a company’s potential price. If there is a lower or same market value than the fair value, it’s time to buy stock then wait. A fundamental report will help you see the fair value.
Components of fundamental analysis
The following components aid in providing a deeper understanding of the stock/company:
- Return on equity equals company dividend net income by the shareholder’s equity.
- EPS: The Net profit of outstanding shares’ dividend number.
- P/E: Per share earning price of a stock dividend
- P/B: Book Value price of a stock dividend of company/stock
The rule of thumb is always to remember, purchasing stock at less or its fair value means you could make profits. This is because the market price is always more than that of the fair value. Fundamental analysis will help you see a company’s attributes. You will also have to understand some accounting, business, and mathematics basics to do fundamental analysis.
To top it off, a reasonable amount of common sense is required to be able to understand the workings of a company, that sector/industry, and any other thing that’s imbibed from different documents.