Qualitative Factors – The Industry
Each industry or sector has differences in terms of their customer base, market share among firms, industry-wide growth, competition, regulation and business cycles.
Learning about how the industry works will give an investor a greater
understanding of a company’s financial health.
Qualitative Factors – The Industry IS THE SECOND PART OF THE QUALITY FACTOR . TO UNDERSTAND PART 1 READ THIS
Some companies serve only a couple of consumers , while others serve millions.
In general, it is a red flag (a negative) if a business relies on alittle number of customers for an outsized portion of its sales because the loss of every customer could dramatically affect revenues. for instance , consider a military supplier who has mainly 100% of its sales with the INDIAN government. One change in government policy may wipe out all of its sales. For this reason, companies will always disclose in their 10-K if anybody customer accounts for a majority of revenues.
Understanding the company’s present market share can tell you the volumes about the company’s business. the very fact that a corporation possesses an 85% market share tells you that it’s the most important player in its market far and away .
Furthermore, this might also suggest that the corporate possesses some kind of “economic moat,” in other words, a competitive barrier serving to guard its current and future earnings, along side its market share. Market share is vital due to economies of scale. When the firm is greater than the remainder of its rivals, it’s during a better position to soak up the high fixed costs of a capital-intensive industry.
The one way of examining a company’s growth potential is to examine whether the amount of consumers within the overall market will grow. This is often crucial because without new customers, a corporation has got to steal market share so as to grow.
In some markets, there’s zero or negative growth, an element demanding careful consideration. for instance , a producing company dedicated solely to creating audio compact cassettes may need been very successful within the ’70s, ’80s and early ’90s. However, that very same company would probably have a rough time now thanks to the arrival of newer technologies, like CDs and MP3s. The current marketplace for audio compact cassettes is merely a fraction of what it had been during the height of its popularity.
Simply watching the amount of competitors goes an extended way in understanding the competitive landscape for a corporation . Industries that have limited barriers to entry and an outsized number of competing firms create a difficult operating environment for firms.
One of the most important risks within a highly competitive industry is pricing power. This refers to the power of a supplier to extend prices and pass those costs on to customers. Companies operates in the industries with few alternatives have the ability to expire costs to their customers. an excellent example of this is often Wal-Mart.
They are so dominant within the retailing business, that Wal-Mart practically sets the price for any of the suppliers eager to do business with them. If you would like to sell to Wal-Mart, you’ve got little, if any, pricing power.
Certain industries are heavily regulated thanks to the importance or severity of the industry’s products and/or services. As important as a number of these regulations are to the general public , they will drastically affect the attractiveness of a corporation for investment purposes.
In industries where one or two companies represent the whole industry for a region (such as utility companies), governments usually specify what proportion profit each company can make. In these instances, while there’s the potential for sizable profits, they’re limited thanks to regulation.
In other industries, regulation plays very less role in affecting industry pricing. for instance , the drug industry is one among most regulated industries. And for good reason – nobody wants an ineffective drug that causes deaths to succeed in the market. As a result, the U.S. Food and Drug Administration (FDA) requires that new drugs must pass a series of clinical trials before they will be sold and distributed to the overall public. However, the consequence of all this testing is that it always takes several years and many dollars before a drug is approved. Confine mind that each one these costs are above and beyond the millions that the pharmaceutical company has spent on research and development.
All in all, investors should get on the lookout for regulations that would
potentially have a cloth impact upon a business’ bottom line. Investors should keep these regulatory costs in mind as they assess the potential risks and rewards of investing.
Introduction to Financial Statements
The massive amount of numbers during a company’s financial statements are often bewildering and intimidating to several investors. On the opposite hand, if you recognize how to analyze them, the financial statements are a gold mine of data .
Financial statements are the medium by which a corporation discloses information concerning its financial performance. Followers of fundamental analysis use the quantitative information gleaned from financial statements to form investment decisions. Before we jump into the specifics of the three most important financial statements – income statements, balance sheets and cash flow statements – we’ll briefly introduce each financial statement’s specific function, along side where they will be found.
The Major Statements
The Balance sheet
The balance sheet represents a record of a company’s assets, liabilities and
equity at a specific point in time. The record is known as by the very fact that a business’s financial structure balances within the following manner:
Assets = Liabilities + Shareholders’ Equity
Assets represent the investment that the business owns or controls at a given point in time. This includes items like cash, inventory, machinery and
buildings. the opposite side of the equation represents the entire value of the financing the corporate has wont to acquire those assets. Financing comes as a result of liabilities or equity. Liabilities represent debt (which in fact must be paid back), while equity represents the entire value of cash that the owners have contributed to the business – including retained earnings, which is that the profit made in previous years.
The income Statement
While the balance sheet takes a snapshot approach in examining a business, the income statement measures a company’s performance over a selected time frame. Technically, you’ll have a record for a month or maybe each day , but you will only see public companies report quarterly and annually.
The earnings report presents information about revenues, expenses and profit that was generated as a results of the business’ operations for that period.
Statement of Cash Flows
The statement of money flows represents a record of a business’ cash inflows and outflows over a period of your time . Typically, a press release of money flows focuses on the following cash-related activities:
Operating income (OCF): Cash generated from day-to-day business operations. Cash from investing (CFI): Cash used for investing in assets, also as the proceeds from the sale of other businesses, equipment or long-term assets. Cash from financing (CFF): Cash paid or received from the issuing and borrowing of funds.
The income statement is vital because it’s extremely difficult for a business to manipulate its cash situation. there’s plenty that aggressive accountants can do to manipulate earnings, but it’s tough to fake take advantage the bank. For this reason some investors use the income statement as a more conservative measure of a company’s performance.
10-K and 10-Q
Now that you simply have an understanding of what the three financial statements represent, let’s discuss where an investor can set about finding them. In the United States, the Securities And Exchange Commission (SEC) requires all companies that are publicly traded on a serious exchange to submit periodic filings detailing their activities of finance , including the financial statements mentioned above.
Some other pieces of data that also are required are an auditor’s report,
management discussion and analysis (MD&A) and a comparatively detailed description of the company’s operations and prospects for the upcoming year.
All of this information are often found within the business’ annual 10-K and quarterly 10-Q filings, which are released by the company’s management and may be found on the web or in physical form. (For more information, see Where am i able to find a company’s annual report and its SEC filings?)
The 10-K is an annual filing that represents a business’s performance over the course of the financial year . additionally to finding a business’s financial statements for the foremost recent year, investors even have access to the business’s historical financial measures, along side information detailing the operations of the business. This includes tons of data , like the amount of employees, biographies of top management, risks, future growth plans, etc.
Businesses also release an annual report, which some people also ask as
the 10-K. The annual report is actually the 10-K released during a fancier
marketing format. it’ll include much of an equivalent information, but not all, that you can find within the 10-K. The 10-K actually is boring – it’s just pages and pages of numbers, text and legalese. But simply because it’s boring doesn’t suggest it is not useful. there’s tons of excellent information during a 10-K, and it’s required reading for any serious investor.
You can consider the 10-Q filing as a smaller version of a 10-K. It reports the
company’s performance after each fiscal quarter. annually three 10-Q filings are released – one for every of the primary three quarters. (Note: there’s no 10-Q for the fourth quarter, because the 10-K filing is released during that time). Unlike the 10-K filing, 10-Q filings aren’t required to be audited. Here’s a tip if you’ve got ,you can think “Q” for quarter.
Other Important Sections Found in Financial Filings
The financial statements aren’t the sole parts found during a business’s annual and quarterly SEC filings. Here are another noteworthy sections: