The five-step framework to Company Analysis:
- Understand the Purpose and Context of Analysis
- Data Collection
- Process Data
- Analyse/Interpret Data
- Follow Up
1. Understand the Purpose and Context of AnalysisWhen we decide to go on a vacation, we don’t just pack our bags and leave. We have a rough plan of where and when will we travel. Similarly, prior to doing company analysis, you must understand the purpose of the analysis.This helps us decide what kind of data we need to collect. It gives us an idea about the approach we will follow and the tools we will use to draw a final conclusion.Ask the following questions:
- What is the purpose of your investment?
- How long are you willing to stay invested? - Short term or long term
- Is your purpose to analyse the best company in a sector or to analyse a particular sector?
- If you had all the information you are looking for, what conclusion would you be able to draw? What question would you be able to answer?
- What has been the relative growth rate of the companies?
- What has been their relative profitability?
- Will ratio analysis be enough to understand their positions in the industry?
2. Collecting DataCollecting data to analyse used to be difficult earlier. But today, financial data is available on our fingertips. Here are a few primary and secondary sources from where you can collect data.a. Annual ReportCompany-specific information can be easily collected from their annual reports. Annual Reports includes a summary of important activities a company has undertaken during the year. They are like report cards of the company. Every listed company has to report its performance every year to the public.Learn how to read and analyse an annual report. Annual Reports are useful in understanding a company’s financial position and in assessing their future. Annual Report also includes financial statements.b. Financial StatementsThis is where you will find all the numbers! A financial statement consists of a You will find these statements in the company’s annual report. There are two categories of financial statement –
- Standalone Financial Statement
- Consolidated Financial Statement
- Earnings calls
- Quarterly meetings
- Investor updates
- Any call with investors
- Project progress updates
- Business development calls
3. Process DataAfter obtaining the required information, the next step is to process the data. We can use various analytical tools to do this.a. Ratio AnalysisThere are many financial ratios that help us analyse and evaluate a company. It is one of the most important tool for company analysis. We can evaluate a company’s past and current performance trends with it. We can even draw comparisons with its peers.Financial ratios can be broadly divided into three main categories. Let’s understand their meaning and functions.Profitability RatioAt what rate is the company’s profit growing? How much profit is the company able to earn on its capital employed? This ratio helps us understand a company’s profitability. Compare the company’s last five-year gross and net profit margin. Is it growing or declining? Your next step is to compare the same with its peer companies. Who is performing the best?Some important profitability ratios include -
- Return on Equity (ROE)
- Return on Asset (ROA)
- Return on Capital Employed (ROCE)
- Current ratio
- Quick Ratio
- Debt to Equity Ratio
- Interest Coverage Ratio
- Competition in the industry
- Threat from new entrants
- Power of suppliers
- Power of customers
- Threat of substitute products