As the stock market recovers from its crash, it becomes more and more important to do the
proper analysis of a company so we can predict its future performance.
So today let's go through all the key fundamental checks to apply before you buy any stock on
the ASX.
As I mentioned on my videos before, the best free website to start with is Marketindex.
There's a link in the description.
Let's use the Wesfarmers share as an example.
The share price of any company is most sensitive to any news or announcements.
You can see the price reaction to the announcements by the Show News button.
For Wesfarmers, the latest announcement of the conversion of Target stores into Kmarts
was well received by investors and the price shot up.
You can keep up with the latest news by joining facebook discussion groups like ASX Stock
Tips to get a feel for the upcoming announcements.
Now onto the fundamentals in this block that most people actually ignore.
Lets start with EPS or Earnings per Share.
This is how much 1 share in the company will earn in a year.
So if you buy 1 share of Wesfarmers at $40, it can earn you back about $1.90.
That gives it an earnings yield of 1.9 divided by 40 which is around 4.75% which we can see
in the next line.
Obviously the higher the EPS the better, but also make sure that EPS is growing consistently
every year.
A company with negative EPS, for example Polynovo here, means that it is losing money.
But thats ok, as long as it continues to improve year after year.
Now just because Wesfarmers earned $1.90 with that share, and you own that share doesn't
mean you get that exact amount.
The amount you get is decided by the board of directors and for Wesfarmers, they decide
that they will pay you $1.53 instead, as we can see in the DPS line here.
That leaves them with a difference of around 40 cents per share to keep and reinvest right?
Well that's not quite the case, because if we scroll down, we can see that the shares
are 100% franked, meaning that Wesfarmers has paid the 30% company tax on it already.
So that means to pay a 100% franked dividend of $1.53, Wesfarmers needed to pay 1.53 divided
by 0.7, around $2.18 of dividend per share, as you can see in the Gross DPS line here.
That gives us a Gross Dividend yield of $2.18 divided by $40 per share, which is around
5.4%.
That's around the average for a blue chip stock like Wesfarmers.
Did you notice something strange?
How can the dividend paid per share be higher than the earnings per share?
Are they borrowing money just to pay the dividend?
Well no, and that's actually quite common.
The reason is because the earnings is worked out after all expenses including depreciation
of assets have been deducted.
So their actual cashflow is usually much higher.
Companies can also compensate for lower earnings by cutting dividends, which is what the banks
are doing, or remove it altogether like Sydney Airport have done this year.
So now that we understand the EPS and DPS, lets have a look at some stocks and see if
we can rate them using those figures.
First up is the healthcare giant CSL.
It has an EPS of 6.3 and a gross DPS of 2.9.
That means that they have a very healthy cashflow and can easily afford to pay the dividends
for many years to come.
This is a good sign of re-investment back into the company for its R&D activities which
is critical for Australia's leading healthcare company, and ensures strong growth into the
future.
Lets have a look on the opposite side of the spectrum.
CIM is stock that has struggled through the years and its easy to see why.
With a negative 3.2 EPS and 2.2 Gross DPS, CIMIC would have taken a hit to its cashflow
this financial year and may take some time before it can recover properly.
Now let's have a look at the accounting software company Xero.
It has never paid any dividends and has a very tiny EPS.
So purchasing 1 share at $85 would earn the shareholder only 2.3 cents.
Something like this would warrant further investigation before investing in this company.
If we go and look at their annual report, we can see that they actually gone from a
loss of 27 million to a profit of 3.3 million this year, so we actually caught them right
on the borderline of becoming profitable.
and you can see from the price surge that a lot of investors have are expecting big
things from Xero.
Finally, lets have a look at a small cap company PDI, Predictive Discovery Index.
At first glance, the price chart looks very strange, especially with the double whammy
of negative EPS equating to a loss of 7.7% per year and no dividend payouts.
If we actually click Show News, we can see an announcement right at the bottom of the
price jump that there was a trading halt, followed by news of a new gold discovery in
West Africa.
You can actually see a similar thing happened in June of 2019 with a trading halt, announcement
of gold discovery, and its corresponding price surge.
This is the type of thing that a share like PDI thrives on, rather than following its
EPS performance.
And that's part 1 of my guide to picking the right stock using Marketindex and fundamental
information.
Like and subscribe to get notified when part 2 is released as we dive further into stock
analysis for better and healthier future investments.