Fundamental Analysis Part One - The Numbers Game
Common misspellings: fundmental, funamental, fundametal, fundamenta, fudamental analysis
The investor has many tools at hand when making decisions about which stocks to buy. One of the most useful of these is fundamental analysis –
examining key ratios which show the worth of a stock and how a company is performing.
The goal of fundamental analysis is to determine how much money a company is making and what
kind of earnings can be expected in the future. Although future earnings are always subject to interpretation, a good earning history creates
confidence among investors. Stock prices increase and dividends may also be paid out.
Companies are required to report earnings on a regular basis and stock market analysts examine these
figures to determine if a company is meeting its expected growth. If not, there is usually a downturn in the stock's price.
There are many tools available to help determine a company's earnings and its value on the stock market. Most of them rely on the financial
statements provided by the company. Further fundamental analysis can be done to reveal details about the value of a company including its
competitive advantages and the ratio of ownership between management and outside investors.
Every publicly traded company must publish regular financial statements. These statements are available in printed form or on the Internet. All
statements must include an income statement, a balance sheet, an auditor's report, a statement of cash flow, a description of the business
activities and the expected revenue for the coming year.
The auditor's report is one of the most important sections of the financial statement. The auditor is an independent Certified Public Accountant
firm which examines the company's financial activities to determine if the financial statement is an accurate description of the earnings. The
auditor's report contains the opinion of the auditor concerning the accuracy of the financial statement. A financial statement without an
independent auditor's report is essentially worthless because it could contain misleading or inaccurate information. An auditor's report,
although not a guarantee of accuracy, at least provides credibility to the financial statement.
Another important section of the financial statement is the balance sheet. This is a 'snapshot' as it were, of the financial condition of the
company at a single point in time. The balance sheet shows the relationship between assets (cash, property and equipment), liabilities (debt) and
equity (retained earnings and stock).
The income statement shows information about the revenue, net income, and earnings per share over a period of time. The top line of the income
statement shows the amount of income generated by sales, underneath which the costs incurred in doing business are deducted. The bottom line show
the net income (or loss) and the income per share.
The statement of cash flow is similar to the income statement – it provides a picture of a company's performance over time. The cash flow
statement, however, does not use accounting procedures such as depreciation – it is simply an indicator of how a company handles income and
expenses. A statement of cash flow shows incoming and outgoing cash from sales, investments, and financing. It is a good indicator about how the
company is run on a day-to-day basis, how it handles creditors and from where it receives growth capital.