🧵 Ratios can help you a lot to analyze a company.
Do you want to look at the healthiness of the balance sheet, valuation or profitability?
Look at these 12 ratios to improve your investment success ⬇️
Do you want to look at the healthiness of the balance sheet, valuation or profitability?
Look at these 12 ratios to improve your investment success ⬇️
We will split this thread in 5 parts:
1. Healthiness of the balance sheet
2. Capital allocation and intensity
3. Profitability
4. Valuation
5. Growth
1. Healthiness of the balance sheet
2. Capital allocation and intensity
3. Profitability
4. Valuation
5. Growth
Part 1: Healthiness of the balance sheet
As an investor, you want to buy companies with a healthy balance sheet.
A good balance sheet gives flexibility and reduces the risk that a company will have financial problems.
As an investor, you want to buy companies with a healthy balance sheet.
A good balance sheet gives flexibility and reduces the risk that a company will have financial problems.
1. Interest coverage: ratio used to determine how easily a company can pay the interest on its outstanding debt.
The higher this ratio, the better.
Seek for companies with an interest coverage ratio higher than 5.
The higher this ratio, the better.
Seek for companies with an interest coverage ratio higher than 5.
2. Net Debt / EBITDA
Shows how many years it takes for a company to pay off its debt when it would use all EBITDA to pay down debt.
The lower this ratio, the better.
You want the Net Debt / EBITDA to be lower than 4.
Shows how many years it takes for a company to pay off its debt when it would use all EBITDA to pay down debt.
The lower this ratio, the better.
You want the Net Debt / EBITDA to be lower than 4.
3. Goodwill / assets
Goodwill is an accounting metric which shows the difference between the money that a company paid for acquiring a company and its book value.
The higher this ratio, the higher the risk for you as an investor.
Goodwill is an accounting metric which shows the difference between the money that a company paid for acquiring a company and its book value.
The higher this ratio, the higher the risk for you as an investor.
Part 2: Capital allocation and intensity
Capital allocation is the most important task of management.
You want to invest in companies which are capital light and put their money to work in an efficient way.
Capital allocation is the most important task of management.
You want to invest in companies which are capital light and put their money to work in an efficient way.
4. CAPEX/Sales
The CAPEX/Sales ratio measures the capital intensity of a company.
You want to invest in companies which don't require a lot of capital to operate.
Ideally, the CAPEX/Sales is lower than 10%.
The CAPEX/Sales ratio measures the capital intensity of a company.
You want to invest in companies which don't require a lot of capital to operate.
Ideally, the CAPEX/Sales is lower than 10%.
5. Return on Invested Capital (ROIC)
The ROIC is one of the most important financial ratios for investors.
Companies only create value when their ROIC is higher than their WACC.
The higher the ROIC, the better.
Look for companies with a ROIC > 15%.
The ROIC is one of the most important financial ratios for investors.
Companies only create value when their ROIC is higher than their WACC.
The higher the ROIC, the better.
Look for companies with a ROIC > 15%.
Part 3: Profitability
You want to invest in very profitable companies.
Compounding machines are companies that have a very high profitability in combination with a high ROIC.
Those are the companies you are looking for as an investor.
You want to invest in very profitable companies.
Compounding machines are companies that have a very high profitability in combination with a high ROIC.
Those are the companies you are looking for as an investor.
6. Gross Margin
The higher the gross margin of a company, the better.
When a company has a high and consistent gross margin, it is a great indication that the company has a competitive advantage.
The higher the gross margin of a company, the better.
When a company has a high and consistent gross margin, it is a great indication that the company has a competitive advantage.
7. Free cash flow margin
The FCF margin shows how much revenues are translated in pure cash for the company.
The higher, the better.
Seek for companies with a FCF margin > 10%.
The FCF margin shows how much revenues are translated in pure cash for the company.
The higher, the better.
Seek for companies with a FCF margin > 10%.
Part 4: Valuation
You want to buy great businesses.
But obviously you don't want to overpay for them.
That's why you should also take the valuation into account.
You want to buy great businesses.
But obviously you don't want to overpay for them.
That's why you should also take the valuation into account.
8. Price-earnings (P/E)
This ratio shows how much you are paying for a company in terms of earnings.
Prefer to buy companies which are trading below their average P/E of the past 5 years.
This ratio shows how much you are paying for a company in terms of earnings.
Prefer to buy companies which are trading below their average P/E of the past 5 years.
9. Free cash flow yield
The FCF Yield compares the free cash flow per share of a company with its stock price.
The higher this ratio, the better.
In general, the FCF yield is more robust than the P/E ratio.
The FCF Yield compares the free cash flow per share of a company with its stock price.
The higher this ratio, the better.
In general, the FCF yield is more robust than the P/E ratio.
Part 5: Growth
Do you want to buy great businesses?
Focus on companies which managed to grow attractively in the past and still will in the near future.
Do you want to buy great businesses?
Focus on companies which managed to grow attractively in the past and still will in the near future.
10. Historical revenue growth: seek for companies which managed to grow their revenue by at least 7% over the past 5 years.
11. Historical earnings growth: look for companies which managed to grow their earnings per share (EPS) by at least 10% per year over the past 5 years.
11. Historical earnings growth: look for companies which managed to grow their earnings per share (EPS) by at least 10% per year over the past 5 years.
12. Outlook: Take a quick look at the consensus of management and/or analysts.
Usually, companies give guidance about which growth they are expecting in the near future.
You can also look at analysts estimates to get an indication.
Usually, companies give guidance about which growth they are expecting in the near future.
You can also look at analysts estimates to get an indication.
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