Fundamental Analysis
Fundamental Analysis is the Method of Ascertaining the “Intrinsic Value” of the Stock
Intrinsic value is the value of an investment based on the issuing company’s financial situation and current market and economic conditions.
Fundamental analysts study anything that can affect the security’s value, from macroeconomic factors such as the state of the economy and industry conditions to microeconomic factors like the effectiveness of the company’s management.
The end goal is to determine a number that an investor can compare with a security’s current price to see whether the security is undervalued or overvalued by other investors.
If the fair market value is higher than the market price, the stock shall be considered as Undervalued, and a buy recommendation is given.
If the fair market value is lower than the market price, the stock Shall be Considered as Overvalued, and the recommendation might be not to buy or to sell if the stock is held
The end goal is to determine a number that an investor can compare with a security’s current price to see whether the security is undervalued or overvalued by other investors.
Like : The Intrinsic Value of a Stock is $2000 and the Current Market Price of the Stock on which it trade is $2100 It means the Stock is Overvalued and Vice-a-versa.
Note : The Investment and the Speculation both are different don’t consider Speculation or Trading as Investing
Understanding Fundamental Analysis
The two ways to do Fundamental Analysis
- Top to Bottom (Macro to Micro)
The overall state of the economy
The strength of the specific industry
The financial performance of the company issuing the stock
2.Bottom To Top (Micro to Macro)
The financial performance of the company issuing the stock
The strength of the specific industry
The overall state of the economy
Sources for Fundamental Analysis
Fundamental analysis uses publicly available financial data to evaluate the value of an investment.
The data is recorded on Financial statements such as quarterly and annual reports and filings like the 10-Q (quarterly) or 10-K (annual).
Yahoo Finance, Screener.in , Moneycontrol , S&P Global (paid) etc.
How You can Perform the Fundamental Analysis ?
In order to do fundamental Analysis first you Need the Raw Data which is Available on the Company’s Website (i.e. Financial Statements of the Company ) ,
Then With the Help of that Data you can perform the following to come on to the Intrinsic Value.
- Ratio analysis or Advance Ratio Analysis
- Comparative Analysis of Financial Statement
- Cost of Capital Analysis
- Beta Valuation ,Beta Regression
- Intrinsic Growth of the Firm
- Performing DCF Valuation
After Performing DCF Valuation You can Compare the INTRINSIC VALUE With the Current market price of the Share
Intrinsic Value
One of the primary assumptions behind fundamental analysis is that a stock’s current price often does not fully reflect the value of the company when compared to publicly available financial data.
A second assumption is that the value reflected from the company’s fundamental data is more likely to be closer to the true value of the stock.
For example,
A company’s stock was trading at $200, and after extensive research on the company, an analyst determines that it ought to be worth $240. Another analyst does equal research but decides it should be worth $260.
Many investors will consider the average of these estimates and assume that the stock’s intrinsic value may be near $250. Often investors consider these estimates highly relevant because they want to buy stocks trading at prices significantly below these intrinsic values.
This leads to a third major assumption of fundamental analysis:
In the long run, the stock market will reflect the fundamentals. The problem is, no one knows how long “the long run” really is. It could be days or years.
This is what fundamental analysis is all about. By focusing on a particular business, an investor can estimate the intrinsic value of a firm and find opportunities to buy at a discount or sell at a premium. The investment will pay off when the market catches up to the fundamentals.
Quantitative and Qualitative Fundamental Analysis
The various fundamental factors can be grouped into two categories: quantitative and qualitative.
Quantitative: information that can be shown using numbers, figures, ratios, or formulas
Qualitative: rather than a quantity of something, it is its quality, standard, or nature
Qualitative Fundamental Analysis
There are four key fundamentals that analysts always consider when regarding a company. All are qualitative rather than quantitative. They include:
1.The Business Model
A business model is the plan or framework that outlines how a company creates value, delivers products or services to customers, and generates revenue to sustain its operations. It encompasses key elements such as value proposition, customer segments, revenue streams, cost structure, and more, providing a holistic view of how the business operates and thrives.
2.Competitive Advantage (MOAT)
A company’s long-term success is primarily driven by its ability to maintain a competitive advantage—and keep it. Powerful competitive advantages, such as Coca-Cola’s brand name and Microsoft’s domination of the personal computer operating system, create a moat around a business allowing it to keep competitors at bay and enjoy growth and profits. When a company can achieve a competitive advantage, its shareholders can be well rewarded for decades.
3.Management
The Management is the Top Level management who are the Key Managerial Persons (Director , CEO(Chief Executive officer),CFO(Chief Financial Officer),MD(Managing Director) etc.
Who controls the Affairs of the Company and Make Decisions of the company.
If a companies management is Faulty people would never Invest in that company. In order to Get Higher Return it is very important to Analyse the Management Whether The Management is good or not .
4.Corporate Governance
Corporate governance describes the policies in place within an organization denoting the relationships and responsibilities between management, Director and Stakeholder
These policies are defined and determined in company character, its bylaws, and corporate laws and regulations.
You want to do business with a company that is run ethically, fairly, transparently, and efficiently. Particularly note whether management respects shareholder rights and shareholder interests.
Make sure their communications to shareholders are transparent, clear, and understandable. If you don’t get it, it’s probably because they don’t want you to.
5.Industry
It’s also important to consider a company’s industry: its customer base, market share among firms, industry-wide growth, competition, regulation, and business cycles. Learning how the industry works will give an investor a deeper understanding of a company’s financial health.
Quantitative Fundamental Analysis
Financial statements are the medium by which a company discloses information concerning its financial performance. Followers of fundamental analysis use quantitative information from financial statements to make investment decisions. The three most important financial statements are income statements, balance sheets, and cash flow statements.
The Balance Sheet
The balance sheet represents a record of a company’s assets, liabilities, and equity at a particular point in time. It is called a balance sheet because the three sections—assets, liabilities, and shareholders’ equity—must balance using the formula:
Assets = Liabilities + Shareholders’ Equity
Assets represent the resources the business owns or controls at a given time. This includes items such as cash, inventory, machinery, and buildings. The other side of the equation represents the total financing value the company has used to acquire those assets.
Financing comes as a result of liabilities or equity. Liabilities represent debts or obligations that must be paid. In contrast, equity represents the total value of money that the owners have contributed to the business—including retained earnings, which is the profit left after paying all current obligations, dividends, and taxes.
The Income Statement
While the balance sheet takes a snapshot approach in examining a business, the income statement measures a company’s performance over a specific time frame. Technically, you could have a balance sheet for a month or even a day, but you’ll only see public companies report quarterly and annually.
The income statement presents revenues, expenses, and profit generated from the business operations for that period.
Statement of Cash Flows
The statement of cash flows represents a record of a business’ cash inflows and outflows over a period of time. Typically, a statement of cash flows focuses on the following cash-related activities:
Cash from investing (CFI): Cash used for investing in assets, as well as the proceeds from the sale of other businesses, equipment, or long-term assets
Cash from financing (CFF): Cash paid or received from the issuing and borrowing of funds
Operating Cash Flow (OCF): Cash generated from day-to-day business operations
The cash flow statement is important because it’s challenging for a business to manipulate its cash situation. There is plenty that aggressive accountants can do to manipulate earnings, but it’s tough to fake cash in the bank. For this reason, some investors use the cash flow statement as a more conservative measure of a company’s performance.
In conclusion, fundamental analysis serves as a cornerstone of investing, providing valuable tools and insights to evaluate the intrinsic value of investments. From assessing financial statements to analyzing market trends and competitive positioning, fundamental analysis equips investors with the knowledge to make informed decisions about buying, holding, or selling assets.
By understanding the underlying factors driving a company’s performance and prospects, investors can navigate the complexities of the market with greater confidence and clarity. While no method guarantees success, incorporating fundamental analysis into investment strategies can enhance the likelihood of achieving long-term financial goals.