Q & A - Search Undervalued Companies

Date: Friday 09th 2008f May 2008 08:44:45 AM

Q & A - Search Undervalued Companies - 03/20/2008

By: Hari Wibowo

Name: Tsai

Website: N/A

Date posted: Thur, Mar 20, 2008

Question: I wrote to you earlier about how to start investing, you
mentioned to search for undervalued companies? I established a brokers account
with Fidelity, so now what do I do? How do I search for those companies and how do
I read those reports? Their so confusing. (all I want is to start investing for the
long run, I feel like I have to take a class or two about basic fundamentals of
investing) Help me.

Answer:

Hi, Tsai. So, you have taken the first step to open your brokerage account at Fidelity. To buy undervalued companies, you need to understand the concept of fair value. You cannot identify undervalued companies in one glance. You have to read the news, analyze the balance sheet, assess the situation, determine its future earning powers then compare it against current stock price. Therefore, please don't press your buy button now. It will take months for you to analyze a company fully. But as you get better, you can identify it faster.

What we always do for our sample portfolio pick is to analyze its earning power for the foreseeable future. We divide it into: 'Revenue Estimation', 'Gross Profit Estimation', 'SG&A Estimation', 'Interest & Income Tax Expense' and 'Shares Outstanding Estimation'. Out of these items, Revenue Estimation is the most important factor. Please look at this excellent example on how we came up with an answer for Merck's earning per share. You may not collect this much information every time but it is a good guideline nevertheless.

It is a step by step process. But constantly reading the news will help you get going around the industry. I would suggest that you follow one company that you like and use it as a case study. (Don't buy it just yet). Go to their websites, check out their product & services offering, understand their business model, read their annual report. The next step would be to construct pro-forma income statement just like we did with Merck's example above. From there, you can then compare it with the stock price to get its fair value.

If you are really novice in balance sheet, income statement, or cash flow statement, you may take one or two accounting classes that explained about this briefly. Other than that, the calculation involved in investing can be done with a 5th grade math. Alternatively, you can always post any questions you have with us. You can click on this link to view Merck's balance sheet, income statement and cash flow provided by Yahoo! Finance. If you need explanations on each items in a typical balance sheet, income statement or cash flow, please do not hesitate to drop your question to us.

Hari - Novice Investing

END

Hmm, I am confused. And I have questions

I'm fine, thanks. Bring me back to main page

Disclaimer: The sole purpose of this article is educational. This article is merely the opinion of the writer and is not in any way a buy/sell recommendation regarding any securities.

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