How to Analyse Stocks
Learn how to interpret the financial metrics provided by our stock analysis tool.
Understanding the Metrics
Our stock analysis tool provides comprehensive financial metrics to help you make informed investment decisions. Here's how to interpret the key metrics:
Debt Analysis
Summary
In this section, we look at the five most important metrics used when analyzing a company's debt.
Debt to Equity (D/E)
This is the most important metric in debt analysis. It compares a company's debt to its equity. Even Warren Buffett often mentions that he uses it when analyzing companies. It's important to note that by "debt" we mean only long-term debt. A company's equity is the difference between its total assets and total liabilities.
If this ratio turns out negative, we can safely skip analyzing the company—it would mean the company has no equity, i.e., its liabilities exceed its assets.
Target: Below 1, with below 0.5 being optimal
Debt to EBITDA
This ratio shows how many years of earnings before interest, taxes, depreciation, and amortization (EBITDA) would be needed for the company to pay off its long-term debt. A result of 1 would mean the company can pay off all its long-term debt with just one year's EBITDA.
Target: Above 4
Interest Coverage Ratio
This ratio shows how many times a company's earnings before interest and taxes (EBIT) cover its annual interest expenses.
Target: Above 5, with above 10 being optimal
Current Ratio
This shows how many times a company's current assets exceed its current liabilities. A value below 1 indicates that the company has more current liabilities than current assets.
Target: Above 1
Cash to Debt Ratio
This metric shows what percentage of a company's long-term debt is covered by its cash and cash equivalents. It's rare to find companies with a value above 1, as that would mean they have enough cash to cover all their long-term debt.
Target: Values between 0.25 and 0.5 are considered very good
Note: This metric is not a primary factor in the analysis.
📈 Efficiency Analysis
Summary
In this section, we look at key indicators for evaluating a company's business efficiency.
ROIC (Return on Invested Capital)
This is the most important metric to understand how efficiently a company is using its invested capital.
💡 Charlie Munger: "Our expected return is closely tied to the ROIC value"
Target: Above 12% (Warren Buffett's benchmark)
Important: Look at current level AND whether it's stable or growing over time
Profit Margins
We analyze two types:
- Gross Margin
- Net Margin (the most important one)
Goal: Stability or growth over time in profit margins
ROE (Return on Equity)
This measures how much profit a company generates with shareholders' equity.
Target: Above 12% (Warren Buffett's recommendation)
⚠️ Be cautious: Can be misleading if company has very high liabilities compared to assets (artificially inflates ROE)
❌ Negative ROE: Company has no equity (liabilities exceed assets)
ROA (Return on Assets)
This shows how efficiently a company uses its total assets to generate profit.
Target: Above 7% is preferred
💡 Even if below 7%, not necessarily a problem if other metrics are strong
Equity Growth Chart
This is not a single number but a visual representation.
Goal: Growing or stable trend in shareholders' equity
📈 Consistent upward trend = company is growing or maintaining strong financial health
Shares YoY Growth
Again, this is a trend, not a specific number.
Important: Company should NOT increase shares over time
Ideal: Reduce shares → increases each shareholder's ownership stake
⚠️ However: Company should avoid buying back shares if stock is overvalued
Price Analysis
Summary
In this section, we examine the five most important metrics related to the price analysis of a company:
P/E (Price-to-Earnings)
This metric shows how much higher the market price of the business is compared to its net income. As a general rule, a company's P/E is influenced by its growth. The higher the growth, the higher the P/E investors are willing to assign.
To understand what the P/E should be for a given company, we look at its growth—typically in revenue. Based on the P/E, we can also estimate the earnings yield, which indicates the return from the company's profit.
P/E Guidelines by Growth:
• No growth: P/E around 10
• Moderate growth (5-7%): P/E 14-16
• High growth (10-15%): P/E 20-23
Warning: Negative P/E means the company has no net profit
P/FCF (Price-to-Free Cash Flow)
This metric compares the market value of the business to its free cash flow. It's important to compare a company's P/E to its P/FCF.
Target: P/FCF should be similar to P/E or lower
Note: If P/FCF is much higher than P/E, it may suggest earnings manipulation
PEG Ratio
This metric compares a company's P/E to its growth rate. The growth typically refers to the five-year average growth in EBITDA, but revenue growth can also be used. This metric was popularized by investor Peter Lynch and is particularly useful for analyzing fast-growing companies with high P/E ratios.
Target: Below 1 is optimal, below 1.3 is still very good
P/S (Price-to-Sales)
This metric shows how much higher the market price of the business is compared to its revenue. It is not a primary focus, but it's helpful to compare the current ratio to its historical average.
Note: If it deviates significantly without a valid reason, it may indicate an emotional market response rather than a change in business fundamentals.
P/Book Value (Price-to-Book)
This metric shows how much higher the market price of the business is compared to its book value (equity). It's important to note that in investing, both "equity" and "book value" refer to the same concept: the company's net worth.
Analysis tip: This metric is best understood when compared to its historical average.
Understanding Trend Indicators
Many metrics include trend indicators:
- ↑ Improving trend (current value higher than historical average)
- ↓ Declining trend (current value lower than historical average)
- = Stable trend (current value similar to historical average)
Disclaimer
This information is for educational purposes only and should not be considered as financial advice. Always consult with a qualified financial advisor before making investment decisions.