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Level 6 of 13 · Fundamental analysis

Fundamental Analysis: How to Find Good Companies

By the end you will: evaluate companies.

"How do I know whether a company is financially strong or weak?" That is the question this level answers. Fundamental analysis means studying a company’s business and numbers (sales, profits, debt, cash) to judge its quality and whether its share price is reasonable. Every ratio here is shown on real stock pages in MojoStox’s Financials card, so open Infosys or HDFC Bank as you read.

Start with 6.1: What is EPS (Earnings Per Share)?
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Important financial ratios

A ratio compares two numbers to make companies of different sizes comparable. Learn what each one says, and what it hides.

  1. 6.1What is EPS (Earnings Per Share)?EPS is the company’s net profit divided by its number of shares. It tells you how much profit belongs to each share.
  2. 6.2What is the P/E ratio?The Price-to-Earnings (P/E) ratio tells you how many rupees investors are paying for every ₹1 of the company’s yearly profit.
  3. 6.3What is the P/B ratio?The Price-to-Book (P/B) ratio compares the share price with the company’s book value per share (its net worth on paper).
  4. 6.4What is ROE (Return on Equity)?ROE shows how much profit a company makes with the shareholders’ money.
  5. 6.5What is ROCE (Return on Capital Employed)?ROCE measures profit before interest and tax compared with all capital used: equity plus debt.
  6. 6.6What is the Debt-to-Equity ratio?Debt-to-Equity (D/E) compares how much the company has borrowed with how much the owners have put in.
  7. 6.7What is the Current Ratio?The current ratio compares what the company owns that turns into cash within a year (current assets) with what it owes within a year…
  8. 6.8What is Dividend Yield?Dividend yield is the yearly dividend as a percentage of the share price.
  9. 6.9What is the PEG ratio?PEG adjusts the P/E ratio for expected profit growth.
  10. 6.10What is Book Value Per Share?Book Value Per Share (BVPS) is the company’s net worth divided by the number of shares.
  11. 6.11What is Operating Profit Margin?Operating margin shows how much profit the core business keeps from each ₹100 of sales, before interest and tax.
  12. 6.12What is Net Profit Margin?Net margin is the final profit kept from each ₹100 of revenue after all expenses, interest and taxes.
  13. 6.13What is Return on Assets (ROA)?ROA measures profit compared with everything the company owns (total assets).

Understanding company financial statements

Companies publish three main statements. Think of them as a health report: the balance sheet is a photo, the P&L is a movie of the year, and the cash flow statement shows where actual money went.

  1. 6.14What is a Balance Sheet?A balance sheet is a snapshot, on one date, of what a company owns (assets), what it owes (liabilities) and what belongs to the owners…
  2. 6.15What is a Profit and Loss Statement?The P&L statement (income statement) shows revenue, expenses and profit over a period (a quarter or year).
  3. 6.16What is a Cash Flow Statement?The cash flow statement shows actual cash coming in and going out, split into operating, investing and financing activities.
  4. 6.17What are assets?Assets are things the company owns that have value: cash, buildings, machines, inventory, money owed by customers, patents.
  5. 6.18What are liabilities?Liabilities are what the company owes others: loans, bonds, bills to suppliers, salaries due, taxes due.
  6. 6.19What is shareholders’ equity?Shareholders’ equity (net worth) is what belongs to owners: assets minus liabilities. It includes money invested by shareholders plus…
  7. 6.20What is revenue?Revenue (sales, top line) is the total money earned from selling goods and services before any expenses.
  8. 6.21What is operating profit?Operating profit (EBIT) is profit from the core business: revenue minus operating costs, before interest and tax. EBITDA also adds back…
  9. 6.22What is net profit?Net profit (PAT, profit after tax, the bottom line) is what remains after all expenses, interest and taxes.
  10. 6.23What is free cash flow?Free cash flow (FCF) is cash from operations minus money spent on new assets (capex). It is the cash truly "free" for dividends, buybacks,…
  11. 6.24What are quarterly results?Listed companies in India must publish financial results every quarter (3 months), within 45 days of quarter end (60 days for the year-end…
  12. 6.25What is annual financial performance?The annual report summarises the full year: audited financial statements, management discussion, risks, and the auditor’s report.

Company evaluation

  1. 6.26Finding companies with consistent revenue growthLook for revenue that rises steadily year after year, ideally faster than inflation plus GDP growth (say 10%+ a year), across 5–10 years.
  2. 6.27Finding companies with consistent profit growthLook for net profit and EPS growing steadily, ideally at least as fast as revenue (meaning margins are stable or improving).
  3. 6.28Finding companies with manageable debtCheck D/E (below 1 for most businesses), the interest coverage ratio (EBIT ÷ interest, ideally above 3–5×), and whether debt is rising…
  4. 6.29Finding companies with strong cash flowLook for positive operating cash flow every year, CFO roughly equal to net profit, and positive free cash flow.
  5. 6.30Finding companies with competitive advantages (moats)A moat is a lasting advantage that protects a company from competitors, like the water around a castle.
  6. 6.31Finding companies with good managementGood management is honest, capable, treats minority shareholders fairly and allocates capital wisely.
  7. 6.32Finding companies with sustainable business modelsA sustainable business sells something people will keep needing, earns profit without constant fundraising, and can adapt to change.
  8. 6.33Financial red flags to avoidWarning signs that a company may be weak, risky or even dishonest.