EQUITY RESEARCH

Q.1 TOP DOWN AND BOTTOM UP APPROACH

TOP DOWN APPROACH

Fundamental analysis can be either top-down or bottom-up. An investor who
follows the top-down approach starts the analysis with the consideration of
the health of the overall economy.

By analyzing various macroeconomic factors such as interest rates, inflation,

and GDP levels, an investor tries to determine the overall direction of the
economy and identifies the industries and sectors of the economy offering the
best investment opportunities.

Afterward, the investor assesses specific prospects and potential opportunities

within the identified industries and sectors. Finally, they analyze and select
individual stocks within the most promising industries.
BOTTOM UP APPROACH

Alternatively, there is the bottom-up approach. Instead of starting the analysis

from the larger scale, the bottom-up approach immediately dives into the
analysis of individual stocks. The rationale of investors who follow the bottom-
up approach is that individual stocks may perform much better than the overall
industry.

The bottom-up approach is primarily concentrated on various microeconomic

factors such as a company’s earnings and financial metrics. Analysts who use
such an approach develop a thorough assessment of each company to gain a
better understanding of its operations.
Q.2 TYPES OF EQUITY RESEARCH

MEANING:
An equity research report is a document prepared by an Analyst that provides
a recommendation on whether investors should buy, hold, or sell shares of
a public company. Additionally, it provides an overview of the business, the
industry it operates in, the management team, its financial performance, risks,
and the target price.

TYPES OF EQUITY RESEARCH

1.BUY SIDE
The term buy side means a firm involved in the purchasing of stocks, bonds,
derivatives and other securities from a sell-side bank/dealer. As the name
implies, these institutions manage the money that’s being invested in markets.
A buy side analyst will typically research and make recommendations
about profitable investments.
It is in the best interest, naturally, for a firm to retain any information and
advice provided by a buy-side analyst, so that the fund can remain competitive .

2.SELL SIDE
 A sell side analyst is an equity research analyst who works for
an investment bank or brokerage firm and produces investment
research which is circulated to the firm’s clients.
 A sell side analyst usually issues a rating for a stock, such as
“Overweight”, “Hold”, “Buy”, “Strong Buy”, or “Sell”. The ratings are also
sometimes accompanied by a price target.
Q.3 TYPES OF REPORT

 Initiating Coverage – A long report (often 50-100+ pages long) that is

released when a firm starts covering a stock for the first time.
 Industry Reports – General industry updates about a few companies in a
sector.
 Top Picks – A list and summary of a firm’s top stock picks and their
targeted returns.
 Quarterly Results – A report that focuses on the company’s quarterly
earnings release and any updated guidance.
 Flash Reports – Quick 1-2 page report that comments on a new release
from the company or other quick information.

Q.4 Main Differences Between IPO and FPO

1. IPO Vs. FPO: Who is the issuer?

Through an Initial Public Offering, previously unlisted companies can go public

and issue shares through subscription. IPO is the first step before shares of a
company are officially listed for trading on stock exchanges.

A Follow-on Public Offering is a sale of shares by a publicly trading company for

the second or third time or consecutive time.

2. IPO Vs. FPO: Performance

Yet another difference between IPO and FPO is how much an investor knows
about the company before buying allotted shares. In case of an IPO, all that
investors have to go by is the company’s red herring prospectus. Here
investors may want to subscribe to an offering based on market interest in the
company, performance outlook, management, debt on the books, among
other factors. Here investors have no previous guidance or track record.
Though, there are some companies or traditional family businesses that have
stayed profitable, stable and reputed whose IPOs are highly awaited by the
markets.

In this case of an FPO, investors have some track record of how the previous
public issues have performed and what the market interest was like, which
may or may not be the best indicators of how the issue will perform this time
around. Previous sales of equity stakes can be a good indicator of whether or
not the stock is liquid.

3. IPO Vs. FPO: Objective

Difference between an IPO and FPO may also have to do with whether the
fresh capital raised is used for expansion or dilution of promoters’ stake.

The objective of an IPO is capital infusion by way of opening up ownership of

shares in the company to the public. Companies can either raise funds by
borrowing and increasing debt on their books or by selling ownership stake
through an IPO.  After an IPO, as the company grows, it may need more funds
for expansion and be rightly in the position to dilute ownership further. That’s
when an FPO is issued.

The objective of an FPO is to diversify public ownership. FPO may also be

issued to dilute the shareholding of the promoters.

4. IPO Vs. FPO: Profitability

Because investing in an IPO is relatively riskier, and there are more unknowns,
the investor is sufficiently compensated for the risk when they subscribe to an
IPO.

FPOs are relatively less risky than IPOs since there is more transparency and
information available about the company.

Q.5 Leading vs. Lagging vs. Coincident Indicators: What's the

Difference?

Economists and investors are constantly watching for signs of what's

immediately ahead for the markets and for the larger economy. The most
closely watched of these signs are economic or business statistics that are
tracked from month to month and therefore indicate a pattern. All indicators
fall into one of three categories:
  Leading indicators are considered to point toward future events.
 Lagging indicators are seen as confirming a pattern that is in progress.
 Coincident indicators occur in real-time and clarify the state of the
economy.

 Leading Indicators
Leading indicators are a heads-up for economists and investors who
hope to anticipate trends. Bond yields are thought to be a good leading
indicator of the stock market because bond traders anticipate and
speculate about trends in the economy. However, they are still
indicators, and are not always correct.

 Lagging Indicators
Lagging indicators can only be known after the event, but that doesn't make
them useless. They can clarify and confirm a pattern that is occurring over
time. The unemployment rate is one of the most reliable lagging indicators. If
the unemployment rate rose last month and the month before, it indicates
that the overall economy has been doing poorly and may well continue to do
poor

 Coincident Indicators
Coincident indicators are analyzed and used as they occur. These are key
numbers that have a substantial impact on the overall economy.

Q.6 Cyclical and Defensive

Cyclical Stocks
As the name suggests, these stock prices show a cyclical movement and
susceptible to sporadic price changes. These shares are influenced by
macroeconomic factors, systematic changes, rise and fall of disposable income,
and more. These are the shares from companies/sectors that are influenced by
the shifts in the economy.
Let’s try to understand it better with an example.

When the economy is booming, and people have more disposable income in
their hand, they invest in luxury products to upgrade their lifestyle. Sectors like
the automobile, infrastructure, consumer durable, fashion lines, airlines,
entertainment, thrive during this phase.  Their sales soar and also the prices of
their shares. These sectors follow all the cycles of the economy – expansion,
peak, and fall.

Because of this nature, cyclical stocks are very volatile, but since investors can’t
control economic cycles, they need to adjust their investment practices to ride
the tide better.

Defensive Stocks
On the other side of the spectrum are the non-cyclical or defensive stocks.
These are the shares from companies which produces daily utility products,
FMCG, – sectors which are virtually immune to market changes. Because of
this trait, non-cyclical stocks are also called defensive stocks. Defensive stocks
are steady earners and often outperform cyclical stocks when economic
growth is slow.

One example of a defensive stock is non-durable items. No matter what

economic conditions are, people will continue to buy things like toothpaste,
soaps, and detergent, because these are essential items.

Another example is the utility sector like gas, energy, electricity, and more.
Irrespective of economic condition, defensive stocks grow at a conservative
pace and aren’t susceptible to sudden price changes. These stocks offer a risk
hedge against unexpected market movement but at the same time, aren’t
spectacular earners.

Q.7 Piotroski F Score Factors and G score

CFI’s Piotroski F score calculator can be used to assess a company’s financial

strength by looking at nine factors. A score of either 0 or 1 is rewarded for each
of these factors, depending on whether it has been fulfilled or not. The higher
the score, the more reliable a stock is to invest in. These factors are
categorized into three different sources of financial strength that analysts like
to look at.
Profitability

ROA: Return on assets. Net Income divided by year beginning total assets. F

score is 1 if ROA is positive, 0 otherwise.

CFO: Operating cash flow divided by year beginning total assets. F score is 1 if

CFO is positive, 0 otherwise.

∆ROA: Change in ROA from the prior year. If ∆ROA > 0, F score is 1. Otherwise,
F score is 0.

ACCRUAL: CFO compared to ROA. If CFO > ROA, F score is 1. Otherwise, F score

is 0.

Leverage, Liquidity, and Source of Funds

∆LEVER: Change in long-term debt/average total assets ratio. If the ratio

compared to the prior year is lower, F score is 1, 0 otherwise.

∆LIQUID: Change in current ratio. If the current ratio increases from the prior
year, F score is 1, 0 otherwise.

EQ_OFFER: Total common equity between years. If common equity increases

compared to prior year, F score is 1, 0 otherwise.

Operating Efficiency

∆MARGIN: Change in gross margin ratio. If the current year’s ratio minus prior
year’s ratio > 0, F Score is 1, 0 otherwise.
 ∆TURN: Change in asset turnover ratio (revenue/beginning year total assets). If
current year’s ratio minus prior years > 0, F score is 1, 0 otherwise.

G-Score is a fundamental analysis screen which ranks highly valued stocks –

or quot;low book to marketquot; stocks – according to 8 growth criteria. Just
as  the Piotroski F-Score aims to separating winners amongst the value
universe (the quot;dusty gemsquot;), the G-Score seeks to separate out the
winning growth/glamour stocks from the quot;fallen 

Definition / Calculation of the G-Score

Companies which ranks in the bottom 20% of book to market ratios are then
scored 1 or 0 according to the following growth criteria. The total score for a
company in a given year therefore ranges from 0 to 8.

1. Score 1 if Return on Assets is above average for the industry

2. Score 1 if Cash Flow Return on Assets is above average for the industry
– this is added as earnings may be less meaningful than cash flows for early
stage firms, many of which are growth firms
3. 3.Score 1 if cash flow from operations exceeds net income. Research
has shown the importance of accruals by demonstrating that firms with a
greater accrual component in their earnings generally underperform in the
future, potentially because of the lower quality of their earnings.
4. Score 1 if ROA variability over the past five years is below average for
the industry
5. Score 1 if sales growth variability over the past five years is below
average for the industry
6. Score if Ramp;D Intensity (Ramp;D expenditure /  total assets) is above
average for the industry
7. Score 1 if Capital Expenditure Intensity (capital expenditure / total
assets) is above average for the industry
Q.8 DuPont Analysis Model

The basic DuPont Analysis model is a method of breaking down the original
equation for ROE into three components: operating efficiency, asset efficiency,
and leverage. Operating efficiency is measured by Net Profit Margin and
indicates the amount of net income generated per dollar of sales.

Asset efficiency is measured by the Total Asset Turnover and represents the
sales amount generated per dollar of assets. Finally, financial leverage is
determined by the Equity Multiplier.

The equation for the basic DuPont model is as follows:

We can also represent the components as ratios:

 The first two components assess the operations of the business. The
larger these components, the more productive the business is

 For example, a machinery manufacturer is likely to generate a low

turnover of assets and require some heavy investments; thus, this
company will probably see a high profit margin to offset the low
turnover.

On the other hand, a fast-food restaurant is likely to see high asset turnover
but a much smaller profit margin due to the lower prices. The last
component, financial leverage, captures the company’s financial activities.
The more leverage the company takes, the higher the risk of default.

Q.9. CYCLICAL and DEFENSIVE

Cyclical Stocks

As the name suggests, these stock prices show a cyclical movement and flow to
irregular price changes. These shares are influenced by macroeconomic
factors, systematic changes, rise and fall of disposable income, and more.
These are the shares from companies/sectors that are influenced by the shifts
in the economy.

Let’s try to understand it better with an example.

When the economy is booming, and people have more disposable income in
their hand, they invest in luxury products to upgrade their lifestyle. Sectors like
the automobile, infrastructure, consumer durable, fashion lines, airlines,
entertainment, grow during this phase.  Their sales increase and also the prices
of their shares.

 These sectors follow all the cycles of the economy – expansion, peak,
and fall.

 Because of this nature, cyclical stocks are very volatile, but since
investors can’t control economic cycles, they need to adjust their
investment practices to ride the tide better.

Defensive Stocks

 On the other side of the spectrum are the non-cyclical or defensive

stocks.

 These are the shares from companies which produces daily utility
products, FMCG, – sectors which are virtually immune to market
changes. Because of this trait, non-cyclical stocks are also called
defensive stocks.

 Defensive stocks are steady earners and often outperform cyclical stocks
when economic growth is slow.

One example of a defensive stock is non-durable items. No matter what

economic conditions are, people will continue to buy things like toothpaste,
soaps, and detergent, because these are essential items.

Another example is the utility sector like gas, energy, electricity, and more.
Irrespective of economic condition, defensive stocks grow at a conservative
pace and aren’t susceptible to sudden price changes. These stocks offer a risk
hedge against unexpected market movement but at the same time, aren’t
spectacular earners.

 Investing in defensive stocks during economic slowdowns is an excellent

way to avoid losses and hedge against market volatility.