Here are some key points and ratio an investor should keep in mind before making a long term investment decision in a stock.
Investing is different from trading, a trader wants to make gain from the change of price action in a stock or index but when it comes to investor, factors for choosing a right stock to invest in changes a bit.
An Investor is supposed to make gain from growth achieved by the company in which he is investing. So an investor should determine that, is he choosing the best available company to invest in or there are better one’s available in the market? below given points will help you in making an informed decision.
1. Price To Book Value Ratio
First the term “Book Value”, It is the net asset Value of the company. it is, Total Assets minus Intangible assets(copyrights, goodwill, patents) and liabilities.
if divided by the total quantity of equity shares issued, we get Book value per share. This can give you an estimate of the minimum price of the company’s shares.
Now the Price to book value ratio is calculated as:
* This ratio is used to compare a stock’s market value to its book value.
* A lower P/B ratio means that you are getting a stock for cheap or say the lower, the better.
* P/B ratio will also help you judge if the share price is overpriced or under-priced.
* Just keep one thing in mind “The P/B ratio can be an easy way to determine a company’s value, but it isn’t magic!” – by Ben McClure.
2. Earnings Per Share – EPS
It is generally considered to be the single most important variable in determining a share’s price. Earnings per share serves as an indicator of a company’s profitability.
Calculated as:
It is the total profit after tax earned by a company divided by Total quantity of equity shares issued.
* Diluted EPS expands on basic EPS by including the shares of convertibles or warrants outstanding in the outstanding shares number.
3. Price-Earnings Ratio – P/E Ratio
A ratio of current market price of share of a company compared to its per-share earnings.
it is calculated as:
* The P/E is sometimes referred to as the “multiple”, because if a share is trading at a multiple (P/E) of 20, it means the share price is 20 times its earnings.
* If the current P/E ratio is low, as against the future prospects of a company, then the shares make an attractive investment option. But if the company is saddled with losses and falling sales, stay away from it, despite the low P/E ratio.
4. Return On Capital Employed – ROCE
A ratio that indicates the efficiency and profitability of a company’s capital investments.
it is calculated as:
ROCE is the ratio that is – Operating profit / capital employed (net value + debt) To get operating profit, add old taxes paid, depreciation, special one-off expenses, and special one-off income and miscellaneous income to get the net profit. The operating profit is a far better indicator of the profits earned by the company instead of the net profit.
* ROCE should always be higher than the rate at which the company borrows, otherwise any increase in borrowing will reduce shareholders’ earnings.
* This ratio is the better indicator of the general performance of the company and the company’s operational efficiency.
5. Price/Earnings To Growth-PEG Ratio
PEG is an essential and extensively used ratio for calculating the inbuilt value of a share. A ratio used to determine a stock’s value while taking into account earnings growth.
it is calculated as:
It assumes that higher the growth rate of the company, higher the P/E ratio of the company’s shares. It is favored by many over the price/earnings ratio because it also accounts for growth. Similar to the P/E ratio, a lower PEG means that the stock is more undervalued.
* a PEG lesser than 0.5 is a lucrative investment opportunity. However if the PEG exceeds 1.5, it is time to sell.
EMI Calculator – From Moneycontrol.com