We’ve told you how to buy and sell in the stock market and how to manage the biggest risks you might face while investing. But how do you decide what you want to buy and what you want to sell. Fundamental analysis of stocks will therefore be useful in understanding all the aspects of the financial growth, the industrial conditions etc. It is not just about the quantitative value but also the qualitative value of a company and its management.
So let’s start by understanding some of the popularly used financial ratios to judge the health of the company.
1] Earning Per Share or EPS:
While doing analysis financial position of the company, we automatically understand the performance of the company. This performance is understood by measuring the earnings of the company or the profitability of the company. This profitability is thus calculated with the help of ‘earning per share’.
Formula to calculate Earning Per Share or EPS is:
EPS = Profits of The Company / Number of Outstanding Shares
This EPS ratio makes it easy to compare between companies and to understand which company is more profitable and successful.
2] Price of Earnings Ratio:
This ratio is commonly used to know valuation of a stock of the company. It gives us the current share price in the market in reference to its per share earnings.
Therefore, we can calculate the Price of earnings or PE ratio as follows;
PE = Price of Stock / Earnings Per Share
This also helps in comparison between companies. However, it is important for the companies to calculate their EPS first and then carry on with finding out their PE ratio value.
3] Price to Book ratio
Let’s first understand the meaning of book value. Book value is the total value of the company’s assets that the shareholders with theoretically receive If a company were to close down and if you divide the total book values with the total number of outstanding shares in the market. It would give you the book value per share. if this value is closer to the current market price of a stock it indicates that the stock is underpriced according to this parameter and if you divide but current market price with the book value per share it will give you the price to book value or the PB ratio and in this case the issue is below one. It is considered as value investing.
4] Debt to equity ratio
We can examine whether a company is productive or not by understanding if it uses it’s debt in a smart manner or not. Debt is not always a negative term. Every company needs to take loans and debts in order to receive initial finances for its business. But the company should know how to manage these debts and to minimize them.
This can be measured with the help of debt equity ratio, as follows;
Debt Equity Ratio = Total Liabilities / Total Shareholder’s Equity
5] Return on Equity Ratio:
The profitability of a company can be measured by finding out how much profit a company can generate with the money that has been invested by its shareholders. This can be made easy with the return on equity ratio.
Return on Equity Ratio is calculated as follows;
Return on equity = Net Income / Shareholder’s Equity
This ratio is expressed in the form of percentage.