Chapter 10:Fundamental analysis

Question 1

List seven general factors that should be considered when analysing a particular company and its share

Answer 1

• Management ability
• Retained profits
• Competition
• History
• Input costs
• Prospects for making growth
• Quality products

MR CHIMIP

Question 2

List seven quantitative factors that should be considered when analysing a company and its share

Answer 2

• Financial accounts and accouting ratios
• Dividend and earnings cover
• Profit variability and growth
• Level of borrowing
• level of iquidity
• growth in asset values
• Comparative figures for other similar companies

Question 3

List the 5 external and six internal sources of information about a company

Answer 3

Five external

• Financial press
• Trade pass
• discussions with competitors
• stockbrokers publicatoins
• credit ratings

Six internal

• Company report and accounts
• Press release
• Company visits
• discussions with company managemetn
• Information provided to exchange where listed
• statutory information provided to regulator

Question 4

List the 5 main sources of informaiton within the report accounts

Answer 4

• Balance sheet
• statement of profit or loss
• cashflow statement
• notes to the accounts
• chairman report

Question 5

List three ways of determining whether a share appears to be chear or dear

Answer 5

• Comparing value for share obtained using discounted dividend model with actual share price
• Comparing value for share obtianed using price earnings ratios with actual share price
• Compared some fundamental factor (such as anticipated earnings) with market consensus estimate. If analyst’s estimate better/worse than market’s then share might be cheap/dear

Question 6

Cannons of lending

Answer 6

• Character and ability of the borrower
• Purpose of loan
• amount that is being borrowed
• borrower’s ability to repay
• security offered to the lender
• trade off between risk v reward

Question 7

6 reasons for seeking finance

Answer 7

• Organic growth
• acquisition
• investment in associated company
• capital expenditure
• financing dividend
• financiing share buy back

Question 8

List 3 credit rating issues to consider in relation to the repayment of a loan

Answer 8

• Future cashflow and profit profile
• Possible sales of assets and or business
• refinancing ie raising futher funds in future

Question 9

6 credit rating factors to consider under the heading risks

Answer 9

• Industry analysis and competitive trends
• regulatory enviroment
• sovereign marcoeconomic analysis
• qualititative analysis, eg of management goods and services
• Company’s financial performance - both recent past and projected future
• company’s market position - relative to its competitors

Question 10

List four credit rating factors to consider relating to the structure of the bond

Answer 10

• Structure bond ie term, coupon rate, fixed or variable
• status in terms of ranking
• safeguards, such as security, guarantees and covenants
• Price and yield

Question 11

List five factors that can be used to assess the company’s financial strength

Answer 11

• Operating leverage
• Financial leverage
• asset leverage
• capital structure
• liquidity

Question 12

• 2 factors that must be considered when assessing the operating performance of a company
• four factors that must be assessed in relation to company’s market profile

Answer 12

Operating performance

• Sources of and trends in profitability
• revenue composition

Market profile

• Market risk - risk relating to market sector as whole
• competitive market position within sector
• spread of risk across different markets
• event risk, exposure to specific events eg hurricane for insurance company

Question 13

Descrive the price earnings ratios (PERs) typically vary over the course of the economic cycle for defensive and cyclical companies

Answer 13

• If economy moderately buoyant and profits are fairly stable, defensive and cyclical companies similary rated
• As economy moves in recession, PERs for cyclical companies fall, while those of defensive companies remain stable or rise slightly
• At the bottom of cycle, PERs of cyclical comapnies will probably have risen from their low point as earnings have fallen, but defensive stocks still be more highly rated (ie higher [PERs)
• As economy starts to recover, PERs of cyclical compannies will rise as price increase in anticipation of future earnings growth. PERs of defensive copanies may be below those cyclicals
• As growth continues, earnings of cyclical copanies catch up with share and PERs fall back