UNIT- III FUNDAMENTAL ANALYSIS

Economic Analysis – Economic forecasting and stock

Investment Decisions – Forecasting techniques.
Industry Analysis : Industry classification, Industry
life cycle – Company Analysis Measuring Earnings
– Forecasting Earnings – Applied Valuation
Techniques – Graham and Dodd's investor ratios.
Concept
 Fundamental analysis is the process of looking at
a business at the basic or fundamental financial
level
 Micro level analysis-if only one scrip is analyzed
 Macro level-Whole market securities are
analyzed
Objectives
 To make a projection on its business performance
 To evaluate its management
 To calculate its credit risk
 To conduct a company stock valuation
Approaches to the security analysis

Economic analysis

Fundamental analysis
Approaches to
the security Industry analysis
analysis
Technical analysis

Company analysis
 Fundamental analysis
This is based on the assumption that a share
price is determined by fundamental factors
related to economy, industry and company

It includes economic analysis, industry

analysis and company analysis
 1.Economic analysis
• The share price is determined based on the
performance of industry and economy
• Economy is booming, the company will be
prosperous
• Economy is recession, the company will be far
from satisfactory
2.Industry analysis
The investor will wish to invest in the
securities of specific companies belonging to a
particular industry that is doing well
3.Company Analysis
 It concentrates various aspects of company
such as financial and non-financial aspects
 Economic forecasting and stock
Investment Decisions
I. Agriculture
II. Gross domestic product
III. Savings and investment
IV. Inflation
V. Rates of interest
VI. Research and technological developments
VII.Infrastructural facilities
VIII.Political stability
Economic Analysis
 Economic analysis is process whereby strengths and
weakness of an economy are analyzed
Economic Forecasting
 Economic forecasting is a term used to apply to any
methods that are utilized to predict the future movements
of an economy
Types of economic Forecasting
1.Short Term Forecasting
 Period of 3 years or less
2.Medium Term Forecasting
 3 to 5 years period
3.Long Term Forecasting
 More than 5 years
 Forecasting Techniques
Economic Model Building Trend Analysis Method
Anticipatory Surveys Monetary Indicators
Diffusion Indexes Opportunistic Model Building
1.Anticipatory Surveys
 The method in this category is those on opinions and
attitudes of forecasting or experts involved
a)Expert Opinion
b)Cross – Impact Analysis
 Researchers identify a set of key trends in term of high
importance and high probability
2.Trend Analysis Method
 Based on the time series data of different economic
indicators these method held forecast economic changes
a)Trend Extrapolation
b)Trend Correlation
3.Diffusion Indexes
A diffusion index is an indicator of the
extensiveness or spread of an expansion or
construction
a)Composite Index
b)Component Evaluation Index
4.Monetay Indicators
In recent years the significance of monetary
indicators of the economy growth
5.Econometric Model Building
Econometric explains past economic activity
by deriving mathematical equation that will
express the most probable interrelationship
between a set of economic variables
6.Opportunistic Model Building
a)Hypothesis of Total Demand
b)Test of Consistency and Comparison
Factors affecting Economic Forecasting
1.Gross Domestic Product
GDP represents the aggregate value of the
goods and services produced in the economy
2.Savings and Investments
Savings are distributed over various assets
like equity , deposits , mutual fund , real
estate and bullion
3.Inflation
The demand in the consumer product
industry is significantly affected
4.Interest Rates
A decrease in interest rate implies lower cost
of finance for firm and more profitability
5.Moonsoon and Agriculture
Agriculture is directly and indirectly linked
with the industries
6.Infrastructure Facility
Infrastructure facilities are essential for the
growth of industrial and agricultural sectors
7.Demographic Factors
The demographic data provides details about
population by age , occupation , literacy and
geographic location
8.Fiscal Policy
Fiscal policy is concerned with the spending
and tax initiatives of the government
9.Monetary Policy
Monetary Policy is concerned with the
manipulation of money supply in the
economy
Stock Investment Decision
1.Look for a Stable Company
 Investors always wants to invest in a company that
on good financial ground and that has a good future
forecast
2.Look for a company that can Grow and Prosper
 Always wants continue to improve their profit and
success
3.Look for a company that has Good management and
corporate structure
 Investors need to know that the right people are
leading the company in the right direction
2.Industry Analysis
Industry analysis involves reviewing the
economic, political and market factors
that influence the way the industry develops
Characteristics of Industry Analysis
1.Past sales and Earnings performance
It is a crucial input in forecasting future trends
2.Permanence
Technology developments and government
rule play an important role
3.Attitude of Government towards Industry
Should be aware of various government
policies and regulations
4.Labour Conditions
Should examine labor laws
5.Competitive Conditions
a)Existence of Product Differentiations
b)Absolute Cost Advantages
c)Advantages rising from Economics of Scale
6.Industry Share Prices Relative to its Earnings
 Industry Classification
Reporting Business Industry Input
Agencies Cycle Groups Based

Cyclical Defensive Cyclical

Industries Industries Growth
Industries
Small Medium Large
Scale Scale Scale
Units Industries Industries
1.Classification by Reporting Agencies
 RBI classified industries into 32 groups
 Stock Exchange classified into 10 groups
 Economic times classified into 10 groups
 Financial express classified into 19 groups
2.Business Cycle
a)Cyclical Industries
 Purchasing Power
b)Defensive Industries
 Inelastic Demand
c)Cyclical Growth Industries
 Technical and Economic changes
3.Industry Growth
a)Small Scale Units
 Listed should be having a capital of 30 lacs
 Listed in OTCEI
b)Medium Scale Industries
 Capital 5 Crores
 Regional Stock Exchanges like Coimbatore , cochin
c)Large Scale Industries
 Paid up 10 Croes
 Listed in BSE and NSE
4.Input Scale Classifications
 Agro-Based
 Forest Based
 Metal Based
 Marine Based
 Chemical Based
Factors Influencing Industry Analysis
1.Product Line
2.Raw Materials
3.Capacity Utilized
4.Industry Characteristics
5.Government Policy
6.Management
7.Future Prospects
8.Economic Factors
Frameworks of Industry Analysis
1.Industry Life Cycle
2. SWOT Analysis
1.Pioneering / Introduction Stage
 New Product Introductions
 Demand Keep growing
2.Expansion / Growth Stage
 Firm continue to improve financially and
competitively
3.Stagnation / Maturity Stage
 Slow progress
 Social habits , high labor costs , technology changes
4.Decay / Decline Stage
 Result to lead in decline in profit , dividend and
share price
Concentrate Here Keep The Good Work

Take enough Care Diversion

Marketing Finance
Popularity Cost Of Capital
Relative Market Share Funds availability
Quality Image Financial Stability
Service reputation Profitability
Distribution Cost
Sales force
Market Location

Manufacturers Human Resources

Facilities Leadership
Economic scale Management capabilities
Capacity Utilization Worker attitudes
Labor Productivity Skill Development
Manufacturing Cost Adaptation
Raw Material availability Industrial Relations
Technology
3.Company Analysis
It consists of measuring its performance and
ascertaining the cause of this performance
Quantitative - Financial and Operational
indicators
Qualitative – name of the company ,
operational plans for future
Nature and Style of Management
Good management depends on qualities of
managers
1.Ability to get along with people
2.Leadership
3.Analytical competence
4.Industry
5.Judgment
6.Ability to get the things done
Analysis can be carried out on the following ways
1.Background of Managerial Personnel
 Manager age , educational background , levels of
responsibilities and activities
2.Past Year Records
 Past records has to be reviewed
3.Management Skill
4.company’s strength to expand
5.Porper utilization of plant and machinery
6.Management capacity to finance
7.Relationship with employees
Financial Indicators
Financial indicators are those which can be
used to analysis the financial position of the
company
Tools
1.Income Statement
2.Balance Sheet
3.Statement of cash flow
4.Ratio Analysis
Statement should be accurate , complete ,
consistent and comparable
1.Income Statement
 It is not only to assess current management
performance but also assess the company’s future
profitability
 Inventory cost method
 Depreciation
 After tax net income
 EPS
2.Balance Sheet
 Asset side- Dividend in current assets , investments ,
long term assets and intangible assets
 Liability side – Long term debt , other liabilities
income tax and shareholders equity
3.Statement of Cash flows
The statement of cash flows shows how a
company’s cash balance changed from one year
to next
1.Cash flow from Operating activities
2.Cash flow from Investing activities
3.Cash flow from Financing activities
4.Ratio Analysis
Widely used tools of financial analysis
1.Profitablity Ratio
2.Leverage Ratio
3.ROE Ratio
1.Profitablity Ratio
a)Return on Investment = EBIT / Total Asset
b)Net Profit Margin = PAT / Net Sales
c)Return on Equity = PAT- PD / Equity capital +
Reserves
d)EPS = PAT – PD / Out standing Shares
e)Dividend Payout Ratio = EPS / Dividend per
share
2.Leverage Rations
a)Debt Equity Ration = Total Debt / Equity
b) Interest Coverage Ratio = EBIT / Int
3.ROE Analysis ( Return On Equity)
PBT PAT NS TA
ROE = ----- * ----- * ----- * -----
NS PBT TA NW
PAT = Profit After Tax
PBT = Profit Before Tax
NS = Net Sales
TA = Total Asset
NW = Net Worth
Non Financial Indicators
1.Business of the Company
2.Top Management
3.Product Range
4.Diversification
5.Foreign Collaboration
6.R&D
7.Government Regulations
8.Pattern of Shareholding and Listing
 Applied Valuation Techniques
Regression analysis Correlation analysis
Trend analysis Decision Trees
1.Regression Analysis
1.Dependant Variable - single variable
2.Independent Variable – explanatory variable
Regression is the measure of the average
relationship between two or more variables
in terms of the original units of data
2.Correlation Analysis
Correlation is the study of the linear
relationship between two variables
Eg: Relationship between heights and weights ,
demand prices of commodities
3.Trend Analysis
 Trend analysis of often used to predict future
events
Trend analysis is a time series analysis
4.Decision Trees
Decision tress can be used to forecast
earnings and security values