Below are the 6 Important Steps to Explore Best Stocks for Investment

Step-1: Find out how the company makes money

Step-2: Do a Sector Analysis of the Company

Step-3: Examine the recent & historical performance of the Stock

Step-4: Perform competitive analysis of the firm with its Competitors

Step-5: Read and evaluate company’s Financial statements

Step-6: Buy or Sell

Step-1: Find out how the company makes money

Before you decide to invest in a company’s stock, find out how the company makes money. This is probably the easiest of all the steps. Read company’s annual and quarterly reports, newspapers and business magazines to understand the various revenue streams of the firm. Stock price reflects the firm’s ability to generate consistent or above expectation profits/earnings from its ongoing/core operations. Any income from unrelated activities should not affect the stock price. Investors will pay for its earnings from its core operations, which is its strength and stable operation, and not from unrelated activities. Thus, you need to find out which operations of the firm are generating revenues and profits. If you do not know that you are bound to get a hit in future.

Warren Buffet once said that “if you do not understand how a company makes money, do not buy its stock- you will always end up loosing money”. He never invested even a single penny in technology stocks and yet made billions and billions of dollars both during tech bubble and bust.

Step-2: Do a Sector Analysis of the Company

First is to figure out which sector the stock is in. Then, figure out what all factors affect the performance of the sector. For example, Infosys is in IT services sector, NTPC is in Power sector and DLF is in Real Estate sector. Half of what a stock does is totally dependent on its sector. Simple rule-Good factors help stocks while bad factors hurt stocks.

Let’s take an example of airlines industry. The factors that affect it are fuel prices, growth in air traffic and competition. If fuel prices are high, tickets would be expensive and hence fewer people will fly. This will hurt the airlines sectors and firms equally. This would make the sector less attractive because there would be less scope for growth of the firms.

The idea is to find out the good and bad factors for the sectors and figure out how much they will affect the stock and how. What we are really looking at are reasons that will make stock price good or bad or a company look more or less valuable, even though nothing about the company changes. This will give you a broader view whether the stocks will do well or poorly in the future.

Step-3: Examine the recent & historical performance of the Stock

By performance we mean both operational and financial performance of the company. Take out some time to find out how the company has done in its business over the years. Were there issues with its operations such as labor strike, frequent breakdowns, higher attrition or lagging deadlines? If any company has a history of serious problems, it does not make a good buy because chances are high it may have similar problems again. History is a good predictor of future! It is also extremely important to find out the historical financial performance of the company – growth in revenues, profits (earnings), profit margins, stock price movements etc.

Step-4: Perform competitive analysis of the firm with its Competitors

This is most important step in analyzing a stock. Unfortunately, most of the retail investors do not bother to do this. It takes time to do this step but it worth trying if you don’t want to loose your money. Many investors buy a stock because they have heard about the company or used the products or think companies have excellent technologies. However, if you do not evaluate or compare those features of the company with other similar firms, how will you figure out whether the firm is utilizing them effectively or is better/worse than others? We also need to find out whether company is growing rapidly or slowly or has no growth. We would like to cover couple of financial ratios here in brief and explain how to use them to figure out a good stock.

P/E: Price-to-earnings ratio is the most widely used ratio in stock valuation. It means how much investors are paying more for each unit of income. It is calculated as Market Price of Stock / Earnings per share. A stock with a high P/E ratio suggests that investors are expecting higher earnings growth in the future compared to the overall market, as investors are paying more for today's earnings in anticipation of future earnings growth. Hence, as a generalization, stocks with this characteristic are considered to be growth stocks. However, P/E alone may not tell you the whole story as you see it varies from one company to another because of different growth rates. Hence, another ratio, PEG (P/E divided by Earnings Growth rate) gives a better comparative understanding of the stock.

PEG = Stocks P/E / Growth Rate

We do not want to go into the calculation part as values for P/E are available on internet for most of the companies.

A PEG of less than 1 makes an excellent buy if the company is fundamentally strong. If it is above 2, it is a sell. If PEG for all the stocks are not very different, one with lowest P/E value would be a great BUY.

Step-5: Read and evaluate company’s Financial statements

This is the most difficult part of this process. It is generally used by sophisticated finance professionals, mostly fund managers who can understand different financial statements. However, there are few things that even you should keep in mind. There are three different financial statement- balance sheet, income statement and cash flow statement. You should focus only on balance sheet and cash flow statement.

Balance Sheet: It summarizes a company’s assets, liabilities (debt) and shareholders’ equity at a specific point in time. A typical Indian firm’s balance sheet has following line items:

• Gross block

• Capital work in progress

• Investments

• Inventory

• Other current assets

• Equity Share capital

• Reserves

• Total debt

Gross block: Gross block is the sum total of all assets of the company valued at their cost of acquisition. This is inclusive of the depreciation that is to be charged on each asset.

Net block is the gross block less accumulated depreciation on assets. Net block is actually what the asset is worth to the company.

Capital work in progress: Capital work in progress sometimes at the end of the financial year, there is some construction or installation going on in the company, which is not complete, such installation is recorded in the books as capital work in progress because it is asset for the business.

Investments: If the company has made some investments out of its free cash, it is recorded under it.

Inventory: Inventory is the stock of goods that a company has at any point of time.

Receivables include the debtors of the company, i.e., it includes all those accounts which are to give money back to the company.

Other current assets: Other current assets include all the assets, which can be converted into cash within a very short period of time like cash in bank etc.

Equity Share capital: Equity Share capital is the owner\'s equity. It is the most permanent source of finance for the company.

Reserves: Reserves include the free reserves of the company which are built out of the genuine profits of the company. Together they are known as net worth of the company.

Total debt: Total debt includes the long term and the short debt of the company. Long term is for a longer duration, usually for a period more than 3 years like debentures. Short term debt is for a lesser duration, usually for less than a year like bank finance for working capital.

One need to ask-How much debt does the company have? How much debt does it have the current year? Find out debt to equity ratio. If this ratio is greater than 2, the company has a high risk of default on the interest payments. Also, find out whether the firm is generating enough cash to pay for its working capital or debt. If total liabilities are greater than total assets, sell the stock as the firm is heading for disaster. This debt to equity ratio is extremely important for a company to survive in bad economy. What is happening now-a-days should make this extremely important. Companies having higher debt ratio have got hammered in the stock market. Look at real estate companies- their stocks are down by almost 90% from all time highs made in 2007 - 2008. This is because they have high debt level which means higher interest payments. In case of liquidity crisis and global slowdown, it would be extremely difficult for such companies to survive. Remember, a weak balance sheet makes a company vulnerable to bankruptcy!

Step-6: Buy or Sell

Follow all the steps from 1 to 5 religiously. It will take time but worth doing it. If you do it, you won’t have to see a situation where you loose more than 50% of stock value in a week! In fact you can expect much better returns than any other asset class in medium to long term. Buying or selling will depend on how your stock(s) perform on the above analysis.

If you find it difficult to follow above steps to explore high quality stocks with strong fundamentals, leave it to us. Simply subscribe to Hidden Gems (Unexplored Multibagger Small Cap Stocks) and Value Picks (Mid Caps with Plenty of Upside Potential) and start building your portfolio of high quality small and mid caps to get rewarded in medium to long term.

The stocks we reveal through Hidden Gems & Value Picks are companies that either under-researched or not covered by other stock brokers and research firms. We keep on updating our members on our past recommendation suggesting them whether to hold / buy or sell stocks on the basis of company's performance and future outlook.

Dear Reader,

Why is a stock that cost Rs. 50 cheaper than another stock priced at Rs. 10?

This question opens a point that often confuses beginning investors: The per-share price of a stock is thought to convey some sense of value relative to other stocks. Nothing could be farther from the truth.

In fact, except for its use in some calculations, the per-share price is virtually meaningless to investors doing fundamental analysis. If you follow the technical analysis route to stock selection, it’s a different story, but for now let’s stick with fundamental analysis.

The reason we aren’t concerned with per-share price is that it is always changing and, since each company has a different number of outstanding shares, it doesn’t give us a clue to the value of the company. For that number, we need the market capitalization or market cap number.

The market cap is found by multiplying the per-share price times the total number of outstanding shares. This number gives you the total value of the company or stated another way, what it would cost to buy the whole company on the open market.

Here’s an example:

Stock price: Rs. 50

Outstanding shares: 5 Crores 

Market cap: Rs. 50 x 50,000,000 = Rs. 250 Crores

To prove our opening sentence, look at this second example:

Stock price: Rs. 10

Outstanding shares: 30 Crores 

Market cap: Rs. 10 x 300,000,000 = Rs. 300 Crores

This is how you should look at these two companies for evaluation purposes. Their per-share prices tell you nothing by themselves.

What does market cap tell you?

First, it gives you a starting place for evaluation. When looking a stock, it should always be in a context. How does the company compare to others of a similar size in the same industry?

The market generally classifies stocks into three categories:

• Small Cap under Rs. 1000 Crores 

• Mid Cap Rs. 1000 - Rs. 10000 Crores

• Large Cap above Rs. 10000 Crores

Some analysts use different numbers and others add micro caps and mega caps, however the important point is to understand the value of comparing companies of similar size during your evaluation. You will also use market cap in your screens when looking for a certain size company to balance your portfolio. Don’t get hung up on the per-share price of a stock when making your evaluation. It really doesn't tell you much. Focus instead on the market cap to get a picture of the company’s value in the market place.

A company worthy of our investment must be able to grow its profits consistently, despite competition and tough economic conditions. We emphasize on competition and tough economic conditions because every company has competitors and sooner or later faces tough conditions. During such times, companies fight harder to win customers which usually lead to a fall in prices and thus margins. Only a company with a wide, unbreachable moat – a competitive edge – can maintain and grow its profits even during tough economic conditions. As Warren Buffet said, “The wider a business moat, the more likely it is to stand the test of time.”

Dear Reader,

We would like to inform you that Hidden Gem - Mar'13 issue was released on 11th Mar'13 and research report of the company will be shared with all Hidden Gems members during this week. Recent on going market correction is giving a good opportunity to our members to accumulate this stock at CMP.

Few facts about the Company which make it a great investment opportunity for long term investors:

1. Industry to which this company belongs to is expected to grow at a healthy rate of 15% per annum for next 5 - 7 years. Unorganized sector accounts for nearly 60% of the total industry bearing testimony of the growth potential of this sector.

2. Annual sales turnover of the company is more than 6 times to the market cap of the company, market cap to sales is as low as 0.16 where as competitors in peer group with better operating margins is having market cap to sales ratio of 1.03.

3. Promoters have increased their share holding to almost 75% which indicate the confidence of promoters in future prospects of the company. Management has rewarded share holders by paying regular & uninterrupted dividends.

4. Sales turnover of the company has doubled in last 4 years, operating margin was improved from 11 to 13.5 and net profit margin was improved from 1 to 4 during 2008 - 2011 period but later it got impacted due to acquisition of another company which has impacted bottom line of the company.

5. With more than 30 years of experience, company is the pioneer in the business it operates and recent acquisition of a loss making company and turning it around to profitable business within 15 months indicates the professional approach and ability of management to drive their business effectively.

6. Looking at fundamentals, dividend yield of the stock is above 2% and trailing PE of the company is below 6 with price to book value of 0.5 which indicates that there is limited down side risk at CMP, whereas company offers huge upside potential in future to long term investors.

Only concern is debt on the balance sheet (due to acquisition of another company in past) which is almost 2 times the market cap and is a major reason of muted bottom line. But our equity analysts believe that debt could be a concern for short term investors but long term investors who can hold this company for next 2 to 5 years can have a potential multibagger in their portfolio. With professional management behind the company, we expect that this could be a dark horse giving returns of 500% to 1000% in next 3 to 5 years.

Strange! How this can is possible?

Option 1: If company retires its debt by 20-30% in next 3 years (possible as company is making profit year after year even after paying almost 40% of its gross profits as interest on its debt) with increase in sales realisation and decrease in interest rates, company's operating margins will improve going forward and hence the valuations of the company will improve significantly.

Option 2: If management decides to raise funds to retires it debt by issuing warrants or via issuing prefential shares by diluting its equity will help company to improve its profit margins and finally the bottom line.

But as you are aware, high rewards come with high risk. Now if we assume that Industry does not grow with 15% and there could be intensive pressure on margins due to other factors like cheap import from China or increase in raw material prices etc can change the overall scenario.

We are confident that stock have the potential to be a dark horse giving returns of 500% - 1000% in next 3 to 5 years with limited downside risk at CMP. We have considered various important factors like Industry growth potential, past performance of the company, management views for driving business growth and their past track record. Morover, we are positive on the company growth prospects considering results of our primary research work done while interacting with dealers and distributors of the company and also taking feed back on company's product from end user i.e. customers.

Do you own this multibagger small cap stock? Simply subscribe to Hidden Gems annual subscription @ INR 7,500 (12 Hidden Gems issues) to receive complete research report of this company releasing during this week.

On activation of your subscription, you will receive one Hidden Gem stock research report on monthly basis for period of one year. We suggest our members to invest equal capital every month taking SIP route in Hidden Gems which not only help them to take exposure in fundamentally strong small cap stocks but also help them to enter into stocks at right point of time and at right price.

Under Hidden Gems annual subscrption, you will also receive below freebies:

1. Saral Gyan eBook - How to Grow your Savings?

2. Research reports of past 3 Hidden Gems for long term investment

3. Saral Gyan Hidden Gem - Flash Back report - Dec'12 issue

Do not miss on going market correction, its an opportunity to invest in fundamentally strong small cap stocks to reap decent returns in long term. For payment options & facilities, click here.

Avail attractive discounts with our combo packs, click here for details.

Do write to us in case of any queries, we will be delighted to assist you.

Regards,

Team - Saral Gyan.

Dear Reader,

If we look at major indices of 2 years back, Investors have not made money from stock markets. Major indices like Sensex and Nifty have moved no where. On 1st Dec 2010, Sensex was at 19,850 and today closed at 19445 giving negative returns of -2%. Small Cap Index and Mid Cap Index have seen a deeper cut during the same period.

Moreover, big daddies of dalal street, companies like Reliance, SBI, Infosys and L & T have given negative returns in the range of -15% to -30% to investors who invested in them during Dec'10.
 
We always suggest salaried employees as well as businessmen / entrepreneurs to invest via SIP (Systematic Investment Plan) route. Simply get some savings from your monthly income and Invest in equities for long term. SIP not only allows you to save every month in a disciplined way but also help you ride through ups and downs of stock market.

Invest some portion of your monthly income in good companies without  timing the stock market and you will definitely get rewarded in long run.

Just take care of Basic Principle of Investing in Equities:

1. Invest in stock market with a long term view (3 - 7 years or more).
2. Invest in companies which are fundamentally strong with scalable business.
3. Follow disciplined approach by Investing regularly in equities.
4. Build a diversified portfolio by investing in small & mid cap companies.
5. Avoid frequent buying / selling of stocks, Its trading not Investing!
6. Review performance of your holding companies at least once a year to decide whether to buy / sell or hold.

Lets review how SIP approach have benefited our Hidden Gems members during last 2 years. Below is the table which illustrates value of Rs. 10000 invested (every month) in Hidden Gems (Unexplored Multibagger Small Cap Stocks) vis a vis value of Rs. 10000 invested in BSE Small Cap Index during last 2 years.


We are delighted to share that average returns of Saral Gyan Hidden Gems during last 2 years is 42.2% compared to -1.5% of BSE Small Cap Index. Investment of Rs. 10,000 in Hidden Gems during last 2 years not only allowed you to save Rs. 2.4 lakh but also appreciated your investment giving overall profit of Rs. 1.01 lakh, making your total Hidden Gems stocks portfolio of Rs. 3.41 lakh. However, if you invested the same amount in Small Cap Index, you would be sitting with an average loss of Rs. 3741.

In fact, actual returns of Hidden Gems are much higher as we suggested partial profit booking at higher levels in few of our best performing Hidden Gems and exit in few of non performing companies.

We are delighted to share that 9 Hidden Gems out of 24 during last 2 years have given more than 100% returns to our members. We are hopeful that we will continue to hunt best Hidden Gems from universe of small caps by doing authentic, in-depth and unbiased research work and support our members to make educated investment decision.

Subscribe to Hidden Gems and start investing systematically. Avail attractive Discounts, Freebies and New Year Surprise Gift under our ongoing Merry Christmas & Happy New Year 2013 offer.

To know more about Merry Christmas & Happy New Year 2013 offer, click here. Hurry, offer closes on 31st Dec'12 at 11.59 pm.

Do write to us in case of any queries, we will be delighted to assist you!

Wish you happy & safe investing!


Regards,

Dear Reader,

We will release our 2nd issue of Hidden Gems - Flash Back report in next few hours. We received overwhelming response from our members for 1st issue of Hidden Gems - Flash Back report which we released on 10th Sept'12.

Below is one of the feedback which we received from Mr. Naveen Kumar, Hyderabad for our 1st issue of Hidden Gems Flash Back report (Hidden Gems subscriber since Nov'11):

Dear Saral Gyan Team,

Appreciate your efforts and  your flash back report which will help me to sell unwanted stocks and have more exposure in some of the better performers.

Good Job!

Regards,

Naveen.

The objective of Hidden Gems Flash Back report is to share the past performance of Hidden Gems recommended by our equity research team in last 2 years along with update on stocks, which to hold and which to buy or sell. This report contains update of 24 Hidden Gems research reports published by our equity analysts in last 2 years (from Sept'10 to Sept'12).

Flash Back report covers company's second quarter results, recent updates & development along with Saral Gyan views and recommendation. It will help all our members to rebalance their small cap stocks portfolio by buying or selling previous recommended Hidden Gems stocks. In other words, out of these 24 stocks, you can identify the best seeds which you continue to nurture and the weeds which you can cut down from your equity portfolio.

We will share Hidden Gem - Dec'12 issue will all our active subscribers of Hidden Gems so that they can take necessary action to tune their small cap stocks portfolio.

Its a fact that 9 out of 24 Hidden Gems stocks recommended in last 2 years gave more than 100% returns to our investors. That's not all, another 1 stock is ready to cross 100% returns in next couple of months to take the tally to 10. 

Below is the past performance of Hidden Gems stocks (last 2 years):

Subscribe to Hidden Gems today to receive Saral Gyan - Flash Back report. This report will give you a complete update on 24 Hidden Gems stocks released during last 2 years along with Saral Gyan views and recommendations.

Grab discount of 20%, subscribe to Hidden Gems @ Rs. 7500 6000 ($155 125). 

Now you can save upto 40% subscription cost under our Merry Christmas & New Year 2013 Offer along with Freebies and New Year Surprise Gift.

Hurry! Offer is for limited period and will disappear on 31st Dec 2012. Click here to know more about the offer.

Do write to us in case of any queries, we will be delighted to assist you!

Regards,

Team - Saral Gyan

Saral Gyan Capital Services

(ii) The scale of opportunity must be big:

Multi-bagger stocks are created because they are able to scale the opportunity rapidly. Titan Industries is a great example. In 2003-04, Titan‘s market cap was 500 crores. In 2011-12, it is close to 19,500 crores. The fact that India is a booming marketplace of 120 crores consumers means that most products and services have a head start at trying to scale up their activities.

(iii) Low debt; free cash flows:

We learnt from the great crisis of 2011 that companies with high debt on their books simply get slaughtered. While debt per se is not bad (if the company is able to borrow at a lower rate and deploy it in its business at a higher rate, the operating leverage works in its favour), excessive debt with high interest and repayment obligations can crunch the stock in times of downturn. So, as a long-term investment philosophy, it is best to steer clear of high-debt companies.

(iv) High ROE – Efficient users of capital:

Some company’s management is able to squeeze that little extra of every buck. A ROE of at least 25% is necessary to make into the hallowed list of model portfolio.

(v) No High Capex Requirements – No Serial Diluters of Equity:

We know from (bitter) experience the demerits of investing in stocks like Suzlon & GMR which have an insatiable appetite for more and more capital. To feed their perennial hunger, these companies dilute their equity by making FPOs, GDRs & FCCBs resulting in total destruction of shareholders’ wealth. Companies should be lean and mean requiring minimal capital but generating huge returns there from.

(vi) Reasonable growth expectations:

“If you get a tax-free return of 18% for your portfolio, you must be very happy”. So, stop craving for that overnight multi-bagger. You’ll only end up losing your precious capital that way. Instead, look for well established small, mid and blue chips companies that are growing at a reasonable rate of return (15 – 25%). With time and the magic of compounding, you will have your muti-bagger in your portfolio.

(vii) Valuations:

Most investors are obsessed about valuations, refusing to buy any stock that is “expensive”. However, one must remember that “expensive” is a relative term. If a stock is compounding at 25% on an annual basis, paying a price of 30 times earnings may be very reasonable. A stock like Nestle, for instance, has always been “expensive”. However, if an investor had gone ahead and bought the stock, he would have had an incredible multi-bagger on his hands. On the other hand, in trying to buy a “cheap” stock, one may get saddled with unsavory companies. After all, there is a reason why such stocks are “cheap”.

Of course, one should be careful not to buy in euphoric or bubble times when the pricing may be extravagant and not at all reasonable.

(viii) Concentrated Portfolio:

We like Warren Buffett approach, a believer in the concept of a concentrated portfolio. If you believe in the prospects of a stock you should be prepared to put a substantial chunk of money in it – or nothing at all. There is no point in buying a bit of this and a bit of that because that dilutes your returns.

Of course, we are no match for Warren Buffett and we do not have his conviction levels. So, we’ll stick to 12 stocks to begin with, which means that from 5% to 12% of the wealth will be invested in each stock.

(ix) Diversification:

Last but not the least; a proper portfolio must be diversified across sectors. A bit of Finance, a bit of consumption, some autos, a pinch of chemical etc will make a balanced portfolio.

 

We have given the different allocation to each of the scrips keeping in mind the risk versus returns ratio. We have also fine tuned the portfolio with mid-cap and small cap scrips so that the investors can invest in a complete mix of stocks to balance their portfolio. Saral Gyan Wealth-Builder Portfolio of 12 stocks includes best of Hidden Gems and Value Picks recommended by our equity analyst’s team.

Regards,

Equity Desk,

Saral Gyan Capital Services.