Evaluating Company Management in Fundamental Analysis

Evaluating Company Management in Fundamental Analysis
BY STOCK RESEARCH PRO • APRIL 21ST, 2009

When evaluating a stock, many investors will look at the strength and effectiveness of company management as part of the due diligence process. The corporate scandals of recent years have reminded all of us of the importance of having a high-quality management team in place. The role of the management team, as far as investors are concerned, is to create value for the shareholders. While most investors see the significance of strong management, assessing the competence of an executive team can be difficult.

The Role of Company Management
A strong management team is critical to the success of any company. These are the people who develop the ongoing vision of the company and make strategic decisions to support that vision. While it can be said that every employee brings value, it is the management team that “steers the ship” through competitive, economic and the other pressures associated with running a company. In measuring the effectiveness of the management team the investor is able to determine how well the company is performing relative to its industry competitors and the market as a whole.

Assessing Management Performance
Some of the metrics a fundamental investor might use in measuring the effectiveness of company management might include:
Return on Assets: The ROA provides an indication of company profitability in relation to its total assets. Part of effective company management is the efficient leverage of company assets to produce earnings.

A Return on Assets Calculator

Return on Equity: The ROE measures net income as a percentage of shareholders equity. For shareholders, the ROE provides a means of measuring company profitability against how much they have invested. The ROE is best used to compare the profitability of the company (and company management, by extension) with other companies in the industry.

A Return on Equity Calculator

Return on Investment: The ROI measures the effective use of debt for the benefit of the company. Skillful use of debt resources by company management can play a significant role in the growth and prosperity of the company.


http://www.stockresearchpro.com/evaluating-company-management-in-fundamental-analysis

Bullbear Stock Investing Notes
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Dupont Return on Equity Model (Graphic)

Return on Equity and Invested Capital (Graphic)

http://yahoo.brand.edgar-online.com/EFX_dll/EDGARpro.dll?FetchFilingHTML1?SessionID=s0MYW0RaIQfzvKB&ID=5187822

Why Return on Equity Is Important

Historically, one of the best ways to grow wealthy has been to own businesses that generate high returns on equity with little or no debt, paying a fair or low price for your stock. It's been an easy way to shower your family with torrents of cash.


Why Return on Equity Is Important
A business that has a high return on equity is more likely to be one that is capable of generating cash internally. For the most part, the higher a company's return on equity compared to its industry, the better. This should be obvious to even the less-than-astute investor If you owned a business that had a net worth (shareholder's equity) of $100 million dollars and it made $5 million in profit, it would be earning 5% on your equity ($5 ÷ $100 = .05, or 5%). The higher you can get the "return" on your equity, in this case 5%, the better.

Return On Equity (ROE): Find Explosive Momentum Stocks With This Financial Ratio

June 4th, 2009 

Green Mountain Coffee Roasters produced a return of over 113% this year alone. When powerful momentum stocks are charging upwards, it can be difficult to know when to get on board.

But it’s not as difficult as you would believe.

If you want the inside track on the best momentum stocks with ultra-explosive gains, throw on your “x-ray glasses” and focus on one of the most useful financial ratios around.

It’s called return on equity (ROE), but in many ways it tells us so much more.

ROE is one of the best measures of a corporation’s profitability. It shows you how much profit the company generates with the money shareholders have invested. Let me show you how to easily pull this number out – and how profitable it can be.

How to Calculate Return On Equity (ROE)

You calculate return on equity (ROE) by dividing net income by a shareholder’s equity. The higher the number, the more effective a company is at turning its assets and employees into piles of money for investors.

For instance, between 1998 and 2003, Dell Computer’s highly efficient direct sales and high profit-margin strategy paid off in terms of strong earnings growth and a double-digit ROE of 46%. During that same period Dell shares soared 91.95% raining money on shareholders.

ROE explains why Green Mountain Coffee Roasters (Nasdaq: GMCR) posted a 92.86% return while the S&P500tanked, -34.37%, over the last year. It’s been a horrific time for most investors, but GMCR shareholders have had lots to smile about as management skillfully squeezed out a 27.85% return on equity.

It’s made Green Mountain one of the few really safe harbors for the investors to ride out the market’s “storm of the century.”

The ROE ratio looks like this:

The only way this ratio can stay high or increase is by maintaining or increasing the bottom line net income through good management. If executives try to hose investors by sucking profit away – issuing more shares through a seasoned equity offering – you’ll catch them by the drop in this ratio.

Other investors who solely focus on net income won’t know the jig is up, because it will stay the same. That’s why ROE is a much better indicator of management effectiveness at bringing home the bacon.

How to Track Return On Equity (ROE)

Return on equity (ROE) is easy to track through many free financial websites – I like to use Yahoo! Finance. First, type the stock symbol of the company you’re looking for into the “Get Quotes” form on the upper left part of the web page.

When the page for the company’s information comes up, click on the “Key Statistics” link. Then on the same page in the “Management Effectiveness” section you’ll see the value for “Return on Equity (ttm).” This tells you how well management is generating profits for shareholders.

Just look at how their shares have soared…

We can also pull up the amount of institutional shareholders of this company. One of the other interesting things we can access on Yahoo! is the amount of institutional ownership of GMCR. Today it’s almost 27.85% of the company shares.

Institutions are some of the biggest drivers of price movements on the markets and a low institutional ownership means that this stock could have much more to go. By comparison, Starbucks has an institutional ownership of 66% – and a ROE of 3.47%.

Return On Equity (ROE) – How Well Is Management Doing?

Quite simply, a higher return on equity (ROE) number tells us how well management is doing, and if a company is undervalued.

It’s imperative you watch closely how ROE changes over time – ideally you want it to increase. Print off and save the Yahoo Finance web page for “Key Statistics” each week and you’ll see for yourself how return on equity is changing. If return on equity is double-digit and increasing you might want to consider buying the stock.

If a momentum stock like Green Mountain keeps on increasing its ROE, the stock should continue rising as well. So watch for the new ROE numbers for GMCR on June 28.

It all starts with education,

Dr. Scott Brown
Investment U

http://jutiagroup.com/2009/06/04/return-on-equity-roe-find-explosive-momentum-stocks-with-this-financial-ratio/

Reasons to dislike excess cash on a company's balance sheet.

5 Stocks That Are Cheaper Than You Think

By Matt Koppenheffer 
July 13, 2010

There are a lot of reasons to dislike excess cash on a company's balance sheet. The simple fact is that most CEOs are not Warren Buffett and so capital allocation is probably not one of their foremost skills.

As a result, bad things can happen when companies start building huge stockpiles of cash. One of the worst possibilities is that the CEO decides it's time to take over the world and shareholder value gets kneecapped as the head honcho negotiates a bunch of large, overpriced acquisitions. Also potentially damaging are big share buybacks. Though these are typically pitched as shareholder friendly, management teams often end up throwing big bucks around when the company's stock is anything but cheap.

More innocuous, but suboptimal nonetheless, is allowing the cash to sit around gathering dust. Particularly with safe, secure investments yielding next to nothing these days, cash that a company has no plans for really does absolutely nothing for shareholders.

However, gobs of cash on the books may also obscure the true value and performance of a company. For investors who dig into the numbers, that may create opportunities others are overlooking.

Cash, the master magician
There are two primary areas where cash might throw investors off the scent of a good investment: valuation and return on equity.

The value of a company with a ton of cash should be calculated in two separate pieces: the value of the excess cash and the value of the operating business. For obvious reasons, the cash should be valued dollar for dollar, while the operating business can be valued any number of ways.

Any investor who assumes the valuation reflects the operating business alone and tries to calculate, say, a price-to-earnings ratio based on the full price tag will end up thinking that the market is giving the business a much heftier valuation than it actually is.

Meanwhile, a company's return on equity is meant to reflect the returns that a business can generate in relation to the capital that's been invested in the business. Extra cash that a company keeps around is capital that hasn't been invested in the business and yet still inflates the company's equity. That drags down the company's overall return on equity.

So with a wave of its hands and a tap of its wand, the illusionist Excess Cash can simultaneously make a company look more expensive and less profitable.

A cash-rich quintet
There are a lot of companies sitting on a ton of cash right now. Here are five that might look a lot more appetizing to investors if they unloaded their cash hoard.

Company	Net Cash	Current P/E	Ex-Cash P/E	Current ROE	Ex-Cash ROE
Google (Nasdaq: GOOG)	$26.5 billion	21.6	18.4	18.4%	58.2%
Cisco (Nasdaq: CSCO)	$23.9 billion	19.4	16.1	15.8%	34.3%
eBay (Nasdaq: EBAY)	$4.5 billion	10.9	9.2	17.2%	25.0%
Dell (Nasdaq: DELL)	$6.2 billion	17.0	12.0	25.2%	NM*
Western Digital (NYSE:WDC)	$2.4 billion	5.5	3.7	29.7%	65.0%

Source: Capital IQ, a Standard & Poor's company, and author's calculations.
P/E = price-to-earnings ratio.
*NM = not meaningful; Dell's net cash exceeds its equity value.

It's hard to classify Google's ex-cash P/E as "cheap," but when we consider the amount of cash the company is holding, the valuation definitely looks more reasonable. What's more striking, though, is how much of an impact Google's cash has on its equity returns. Without the drag from its cash, Google's capital-light, highly profitable business model is shown in high relief.

Stripping out Cisco's cash, we actually end up with a below-market multiple on what I consider one of the very best tech companies, if not one of the very best companies, period. Cisco may be a different story than the rest of the companies here, though, since it's one of a select few companies -- Oracle (Nasdaq: ORCL) being another -- that has made great use of acquisitions to grow and prosper. So it may actually behoove investors if the company keeps some cash available for takeovers.

While Google and Cisco are largely looked at as currently successful companies, the valuations for both eBay and Dell reflect the market's perception that both businesses are facing tough times. With brutal competition from the likes of Hewlett-Packard (NYSE: HPQ)in what's become largely a commodity business, I find it hard to get too excited about Dell. eBay, however, not only carries a lower valuation than Dell, it also packs more excitement -- particularly when it comes to the PayPal-driven payments side of its business.

But perhaps the most intriguing stock here is Western Digital, which isn't exactly a growth company working in an exciting, new technological field. In fact, it's quite the opposite. The market sees flash and other solid-state storage from companies like SanDisk as a mortal threat to WD's core disk drive business.

However, when we strip out the cash that WD already has on its books and consider the extremely healthy cash flow that the company is producing, I come to the same conclusion my fellow Fool Eric Bleeker reached when looking at WD competitor Seagate: It may just be too cheap to pass up.

Now it's your turn to chime in. Do you think cash-hoarding companies are throwing investors off the scent of good investments? Head down to the comments section and share your thoughts.

While these cash-rich companies may have piqued my interest, my first love will always be companies that pay healthy dividends.

Fool contributor Matt Koppenheffer does not own shares of any of the companies mentioned. 

http://www.fool.com/investing/general/2010/07/13/5-stocks-that-are-cheaper-than-you-think.aspx?source=ihpsitas0000001&lidx=3