What is Fundamental Analysis of Stocks?

When a company is analyzed by analysts based on the fundamental and financial level, it is called fundamental analysis of stock. This analysis takes into account various factors including financial health of the company, management effectiveness and market competition. Based on these factors, the analysts make out whether the company is fundamentally strong or not. They also take into consideration the macro economic conditions as well as industry specific conditions while doing this analysis.

The purpose of doing this complex analysis is to help them decide whether it is advisable to buy, sell or hold the security of that company. The similar type of analysis can be performed on other types of securities such as forex, options, futures etc. This analysis can be done on current or even historical data to arrive at a conclusion. The main aim of doing this whole exercise is to find the intrinsic value of the stock and trying to predict the future growth of the company.

After doing this analysis, the analysts should be able to answer key questions regarding the company such as – is the company’s revenue growing or not, will the company be able to sustain the competition, will the company be able to repay the debts in time, how good is the management doing and is the corporate governance being take care or not, what is the credit risk of the company and many such question.

As mentioned above, the key factors in doing this type of analysis are value, growth GARP, quality and income. The value of the stock is of utmost importance since it determines whether to buy or sell the stock. But, defining the value of a stock is not that easy and different analysts have different meaning of the term “value” in this method. Similarly, growth is an important factor. GARP (Growth at reasonable price) is another concept used by practitioners believing in fundamental analysis of stock.

There are many tools which are used to do fundamental analysis of stocks. Some of these are Earnings per Share (EPS), Price to Earnings Ratio (P/E), Projected Earning Growth (PEG), Price to Sales (P/S), Price to Book (P/B), Dividend Payout Ratio, Dividend Yield, Book Value and Return on Equity. These numbers and ratios are readily available on financial internet sites as well as company’s financial statements. Some of these are considered in conjunction with each other to give some meaningful information. There are some critics of this theory as well. Their argument is that all information required to do this analysis is available to public therefore there is no advantage which one analysts has over another. Another argument is that the terms like value and growth are very relative and may differ from one analyst to another.