When it comes to analysing equities and their underlying companies, there are countless of different metrics employed by investors.
The most important consideration for investors is not to face information overload. This means studying your investment strategy well and using only relevant metrics. Usually, these metrics are not standalone – a combination of some will enable you to focus on the better stocks on the market.
The list is not exhaustive but it gives a flavor of powerful metrics sub-categorised into Growth, Dividends, Value and Stability.
GROWTH
Sales Growth. The best companies lean towards sales growth which are solid, steady and positive. The key for them is a consistent formula for bringing valued products to new and existing customers. They may not and need not be the fastest growers on the market.
Earnings Growth. The better companies are the ones who are not only selling more (sales growth) but also keeping more (earnings growth). Even more impressive are the ones who are growing their earnings faster than their sales. It means that they are selling more yet spending relatively lesser at the same time. Look out for those with positive earnings growth over time.
Free Cash Flow Growth. Free cash flow is the excess monies available to shareholders after business operation expenses and investment costs. It is an honest view of how much money a company is actually making. Companies with steadily growing free cash flow could be seen as generating more cash to invest, save, or return to shareholders besides the ability to grow their business.
Net Profit Margin. (Net profits ÷ Net sales) x 100 = Net profit margin. It is the percentage of revenue left after all expenses have been deducted from sales and measures how much of each dollar in sales the company gets to keep. The figure should be consistently positive for a sustainable business model. A consistent upward trend often signifies good management and higher possibility of future profit expansion.
DIVIDENDS
Dividend Yield. The dividend yield shows, relative to the current stock price, how much return the dividend will provide. Higher yield usually means more dividend income, but it can also be attributed to the fact that there is lower stock price gains or unsustainable high dividend payout. Highest dividend yields on the market are not necessary the best buy.
Payout Ratio. The payout ratio shows, relative to the company earnings, how much dividends is paid out. It essentially measures dividend sustainability and operating strength of the company. For example, companies with a high dividend yield and low payout ratio are dishing out a lot in dividends, but this is because they can afford it. They are probably making a lot of money from their core business.
Dividend Growth. Companies which are consistently growing tend to see better dividend payouts over time. Dividend non-payers or dividend cutters have fared worst. A positive dividend growth confirms the positive health status of the company, its confidence in its future and commitment to its shareholders on returning value.
VALUE
Price / Free Cash Flow. The ratio takes price of a single share against free cash flow per share. Or, the ratio of market capitalisation against total free cash flow. Companies generating lots of cash relative to the value of their shares in the market tend to have a lower Price / Free Cash Flow ratio. Hence, a lower number suggests the stock is undervalued.
Price / Sales. The ratio takes price of a single share against sales per share. Or, the ratio of market capitalisation against total sales. Similar to Price / Free Cash Flow ratio, the concept of a lower number suggesting the undervaluation of a stock is the same.
STABILITY
Beta. It measures the relative price movement of the stock moves against its benchmark and is a good gauge of the confidence, certainty and stability in the stock.
< 1.0 means that the stock is more stable than the market, > 1.0 means otherwise. In general, lower beta stocks move in more calm and controlled manner during intense times of market instability or economic uncertainty. In short, they tend to perform better than high beta stocks.
Conclusion
To understand how to stock pick, one needs to employ certain metrics to help focus on the higher performing, undervalued and more stable companies and at the same time prevent information overload.
Do you have a list of well-defined investment metrics that you look at?
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