How to select a stock?

3.1.1 Analyze financial track record of a company

A company is worth investing in, if it is profitable, and is capable of increasing its profitability at a good consistent rate.

To grow its profits, a company must be able to grow its Net Sales year after year. The company can achieve it by increasing capacity in existing infrastructure; & by expanding its business in the long run.

Any kind of expansion will need funds, and company can arrange it by

• Reinvesting a part of its profits in the business
• Issuing new shares, &
• Borrowing money from banks

This investment is reflected by an increase in the Book Value of the company.

Company should utilise its capital efficiently. An investor / shareholder can check it by monitoring the Return on Total Invested Capital.

A good Company should borrow only so much money that it can repay without any serious difficulty. The Debt to net Profit ratio tells us how many years a company will take to repay its debt. If it's very high we need to investigate closely.

Thus, we have 5 necessary and sufficient financial factors that speak about a company's performance.

	Financial Factor	Measure of
1	Net Sales	Revenue generated from sales of products and services
2	ROIC	Efficiency of using money, shareholders' and borrowed
3	EPS	Profit per share
4	BVPS	Reinvestment done to increase its capacity
5	Net Op. Cash Flow	Cash generated from operation
6	Debt/Net Profit Ratio	Number of years a company can take to repay its debt

To know a company's real strength, we need to study the company's performance through a full economic cycle, thro' good and bad times. So, we need to evaluate a company on above factors for a period of 10 years.
The 10 YEAR X-RAY designed by MoneyWorks4me will help to assess a company's financial track record with ease. Click on the link to know more.

This is how the 10 YEAR X-RAY OF A COMPANY on MoneyWorks4me looks-



Let us understand how MoneyWorks4Me has come up with the color coding for the following-

Financial Factor	Assessment of Color Coding
Year-On-Year growth rates of Net Sales, EPS, Net Op. Cash Flow and BVPS	In the last ten years, Inflation in India has been growing at a CAGR of around 6%. So, we put our lower limit as twice that at 12% as good consistent growth and code it green as reflected in the 10 YEAR X-RAY. If the growth rate is 8-12% which just covers the inflation the company is considered somewhat good and is coded orange. A growth rate below 8% is considered not good and is coded red.
ROIC	We must maintain a return on total investment more than that on other investment options. In India, return on a 10-year fixed deposit is 8-10%; so we keep our benchmark for very good ROIC as a minimum 12% every year for 10 years and code it as green as reflected in the 10 YEAR X-RAY. If it is 8-12% which is similar to returns obtained with other Investment options; the company is considered somewhat good and is coded orange. ROIC below 8% is considered not good and is coded red.
Debt/Net Profit ratio	A good company should borrow only so much money that it can repay without any serious difficulty. We think a company should pay all its debt within 3 years. Hence, we keep our benchmark for very good Debt/Net profit between 0-3 for the current year and code it as green. The ratio greater than 3 or less than 0 have been coded as orange; indicating that we need to study the company further.