The 6 Metrics to Choose Stocks based on Fundamental Analysis

Fundamental analysis is done to measure and determine the stock which has a fair value in the market

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The reason we want to invest our money is to let our money work to get another money. Investment instrument like the stock market, cryptocurrency, mutual funds (Reksadana), and others are not always giving you capital gain unless you know how to determine what we choose will give what we want.

The best investment you can make is an investment in yourself. The more you learn, the more you earn — Warren Buffett

Based on what Buffett said to learn more, I provide six metrics that I always use to get the intrinsic value of the company to choose the stock in my portfolio. They are:

1. Earnings per Share (EPS)
2. Price to Earnings Ratio (PER)
3. Price to Book Value (PBV)
4. Return of Equity (ROE)
5. Debt to Equity Ratio (DER)
6. Dividend Yield

All of these metrics could be found in the annual financial statements from the company that already IPO (Initial Public Offering). What you have to do is to collect the metrics and calculate them. If you invest in the Indonesia stock market, then you can get the financial statement at this link

In these metrics, I will use three stocks (ICBP, MYOR, and UNVR) in the same sector in order to practice which one is the best stock. Disclaimer: This is only an example and there is no recommendation to buy it. Let’s learn!!

Earnings per Share (EPS)

EPS means how big the net profit is obtained in each share. For example, the price is Rp. 918 and we have 1 lot (100 shares), then the part of the net profit of the company on our share ownership is Rp. 91,800.

Formula: Net Profit / Listed Share

Here are the tips to choose the good stocks based on EPS:

• EPS keeps increasing
• EPS growth around 10–20% per year
• The bigger EPS is better if the number of shares is constant
• EPS minimum 10% from share price in the market (optional)

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Price to Earnings Ratio (PER)

PER means the comparison ratio between the price of shares in the market with the net profit per share (EPS). For example, if we invest in a company that has PER 4.5x, then our money will get back at 4.5 years (assuming the profit is steady).

Formula: share price / EPS

Tips of good stock based on PER:

• Generally, PER under 10x is good stock with the cheaper price.
• If EPS grows, then PER will get lower which is good.
• Company with great quality (Big Caps) has higher PER

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Price to Book Value (PBV)

PBV means the comparison ratio between the price share in the market with the book value of a company. For example, if we can buy the stock at Rp. 500 for the stock with price at Rp. 1,000 (we called PBV 0.5x).

Formula: share price / Book Value

The tips of good stock based on PBV:

• PBV < 1 (undervalue which is good) and PBV > 1 (overvalue)
• Lower PBV must be followed by good company performance
• Ideally, the investor type like value investing, choosing the PBV minimum 0.4x
• Generally, big caps have PBV < 2 is still considered cheap

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Return of Equity (ROE)

ROE means how the performance of the company to generate net profit with net capital. For example, Unilever has ROE 135.8% which means every 1 million that Unilever invests can generate 1,35 million at that time.

Formula: Net Profit / equity * 100%

Here are the tips to choose the good stocks based on ROE:

• Better ROE is more than 15%
• ROE grows every year show company has good performance
• ROE in the banking sector is healthy more than 12%
• ROE is used for the last five years and compares with the existing ROE

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Debt to Equity Ratio (DER)

DER means the debt that a company has against its capital. For example, Unilever has DER equal to 0.3x which means Unilever has a debt of 0.3x from its equity.

Formula: Total Liabilities / equity

Here are the tips to choose the good stocks based on ROE:

• DER < 100% is good debt
• In the banking sector, DER 500–700% is common, because customer funds are counted as debt
• In the manufacture sector, DER < 100% is common
• Finding the reason why a company has debt whether the company use the debt to generate income or to pay another debt

Dividend Yield

The dividend yield is the ratio between dividend per share with the share price in the market. Here are why you choose stocks based on dividend yield:

• A dividend yield around 3% with the performance of a company is good
• Commonly, the dividend yield is used for the type of investor like value investing
• If there is a case such as Covid-19, dividend may not be distributed as long as the company grows

Conclusion

As the title in this article that we do something is because we know the fundamental of what we do (buy or sell) especially in the stock market. Not many people get the capital gain just because of luck, some of them are not lucky enough to get the capital gain. Therefore, we use this method first to analyze the stocks then we decide to buy at the appropriate time. I hope this article helps you to get capital gain. If you are interested to analyse the stock data in the Business Intelligence tool, you can enjoy reading my other articles here. Follow me on LinkedIn and see you in my next article.