All key figures of my stock valuation (part 1)

Hello all,

Since my question about your interest in such a post got a very positive response, here is the promised presentation of my stock/company valuation with all used key figures. Enjoy!

Disclaimer: This is my personal investment strategy on my own investment horizon. This strategy is not set in stone and can adapt at any time. I hope you can take something useful for your own strategy, but I do not recommend anyone a copy of individual key figures or the like without their own research. Many key figures only make sense in the overall view with other key figures! AVG stands for "Average" in the following. CAGR means "Compound Annual Growth Rate". In addition, not every ratio makes sense for every type of company/sector, which is why I use some ratios and a point system that balances this out somewhat. ⚠️

I really appreciate your feedback, sit back, the post got a bit longer.

To better understand my choice of metrics it first needs a brief Review of my investment philosophyI look for the best companies in my opinion, so-called compounders, with which I would like to outperform the market in the long term. In doing so, I do not rely on unprofitable growth speculations, do not try to chase trends and think relatively little of ETFs. Instead, I look for the most efficient and profitable companies with stable growth and competitive advantage, and deliberately invest only in certain sectors. (More on this in one of my previous posts).

In contrast to the great presentation of his stock picks by @RealMichaelScott (Thanks for the hint@suscimer), my analysis does not start with the "idea" or the business model, but dryly with the key figures. Here, I assign points for each phase and metric, which then result in a score, of which a company must reach a certain number of points to advance to the next phase. In this way, I only take a closer look at a company (phase #3) when the hard facts fit - otherwise, what's the point of dealing with the business model first if the numbers don't fit afterwards 😉

My analysis can be divided into several phases, which I go through after the following overview. Here, I try to convey my approach and the meaningfulness of each metric as simply and compactly as possible. In addition, I have indicated my preferred data source for each key figure.

Phase #1 (Part 1 - this article)

• Margins
• Gross Margin 10Y AVG (Gross Margin)
• Operating Margin 5Y CAGR (EBIT Margin)
• FCF Margin 5Y AVG (Free Cash Flow Margin)
• Profitability or Efficiency
• Debt / Ebitda
• ROIC 5Y AVG
• WACC 5Y AVG
• ROA 10Y AVG
• ROCE 5Y AVG
• Growth
• Revenue 10Y CAGR
• EPS 5Y CAGR
• FCF 5Y CAGR
• Dividends 5Y CAGR

Phase #2 (Part 2 - Coming soon)

• Moat + ESG
• Morningstar MOAT Rating
• Morningstar ESG Risk
• Compounder?
• Gurufocus Profitability Rank
• Mohanram G-Score

Phase #3 (Part 2 - Coming soon)

• Understanding the Business Model
• Comparison with competitors
• Subjective assessment

--> What remains after this: Inclusion in my "Investable Universe

Phase #4 - Evaluation (part 3 - contribution desired?)

• FCF Yield
• Valuation Framework
• Comparison 5Y FCF CAGR with required future 5Y FCF CAGR to achieve market P/E.
• GF Fair Value
• Morningstar Fair Value

Let's start with Phase #1 and the main content of this article.

First, I look at three different metrics related to the "margin" of a company.

The Gross Margin is the percentage of sales that remains after a company's direct costs (i.e., costs of producing or selling the goods or services) have been deducted. It is calculated by dividing gross profit by sales. A gross margin of 60% means that for every dollar of revenue generated, the company keeps $0.6 and the remaining $0.4 goes to costs incurred. The gross margin is an important ratio for evaluating the profitability of a company, which is also highly valued by Terry Smith. The higher it is, the more capital a company retains to use elsewhere. I look at the average over the last 10 years to compensate for major fluctuations and to obtain valid results. Buffett also believes that good companies sustain higher margins because a durable competitive advantage leads to a high gross margin.

The higher the gross margin, the better. In my evaluation, I would like to see at least 50% gross margin (1 point), preferably >60% (2 points) with >70% (3 points) giving the maximum possible score for this metric. [Good source for gross margin: https://www.gurufocus.com/term/grossmargin/ADBE/Gross-Margin-Percentage/Adobe]

For the second metric, operating margin, better known as the EBIT margin or return on sales
(operating margin) I do not look at the average over the last 10 years, but at the growth over the last 5 years, in order to be able to say whether the company has been able to increase its efficiency and better convert sales into profits. If a company loses its competitive edge, the gross margin and EBIT margin usually fall well before sales do - which means that a "value trap" can be avoided if these are closely monitored. Margin expansion, on the other hand, is always a good sign for the company's development. Operating margin measures how much profit a company makes on a dollar of sales after it has paid all variable production costs such as wages and raw materials (before paying interest and taxes), and thus provides information about the efficiency of profit generation. It is calculated by dividing operating profit (EBIT) by sales.

A 5Y CAGR > 0 is therefore a good sign in my model and gives 2 points, a negative margin growth gives between 1.5 and 3.5 points deduction depending on the level. [Good source for EBIT margin growth: https://www.gurufocus.com/term/operatingmargin/ADBE/Operating-Margin-Percentage/Adobe]

A very high priority in my general equity view is free cash flow, which is the amount available to a company after it has paid all its expenses and made its long-term capital investments. There is nothing more important in my opinion.

Thus, the FCF Margin (Free Cash Flow Margin) must not be missing in my model. It compares the Free Cash Flow with the sales of a company (Operating Cash Flow - CAPEX divided by sales). In general, an FCF margin of 10-15% can be seen as a rough boundary between a capital efficient and a capital intensive company. Of course, this does not mean that all companies with low FCF margins are bad, however, I prefer companies with high FCF margins because low capital intensity makes it easier to scale a company.

In my model, an FCF margin >10% gives two points, >15% gives three points, and >20% gives four points. A margin <10% a deduction of one point. [Good source for FCF margin: https://www.gurufocus.com/term/FCFmargin/ADBE/FCF-Margin-Percentage/Adobe]

Let us now turn to the section "Profitability and Efficiency"

Since I wanted to put the ratio Debt / EBITDA into one of the three categories, I put it here, although it gives little information about efficiency. Nevertheless, in my opinion, a consideration of debt is essential. Here I use the current Debt-to-EBITDA ratio. It measures the ability of a company to pay its debts. A high ratio means that a company spends more time paying off its debt. According to Joel Tilinghast, a ratio of more than 4 is considered scary. I see debt in general rather more critical.

Therefore, in my view a Debt / EBITDA > 3 gives a deduction of one point, between 2 and 3 there is one point, between 1 and 2 two points and smaller than 1 three points. [Good source for Debt-to-EBITDA: https://www.gurufocus.com/term/debt2ebitda/ADBE/Debt-to-EBITDA/Adobe]

The ROIC (Return on invested capital) assesses a company's efficiency in allocating capital and indicates how well a company uses its capital to generate profits by reinvesting it. It is calculated by dividing net profit after tax (NOPAT) by invested capital. However, it only makes sense to look at ROIC if it takes into account the weighted average cost of capital (WACC) is compared. A company creates value when its ROIC exceeds its WACC. A ROIC of 50% means that if a company reinvests $1 in one year it will earn $1.5 the following year. So I look at the difference between a company's 5Y AVG ROIC and its 5Y AVG WACC.

The higher this difference, the more likely the company is to create sustainable long-term value.

A ROIC WACC > 15% gives 3.5 points, >10% gives 2.5 points, greater than 5% gives 1.5 points, greater than 0% gives 0.5 points.

[Good data source for ROIC 5Y AVG: https://www.financecharts.com/stocks/ADBE/value/roic, for WACC 5Y AVG (calculate quotient yourself): https://www.gurufocus.com/term/wacc/ADBE/WACC-Percentage]

The ROCE (Return on capital employed) is the next underestimated ratio with similar significance. To save a bit of paperwork, I'm including a super explanation for this in the post by @RealMichaelScott . (https://getqu.in/mNKUXj/wLIvk0/)

ROCE is a killer metric for me. Company with a 5Y Average <15 kommen nicht in mein Depot. Ein ROCE >=15 gives 1.5 points, but preferred ROCE is at least 20 (3 points), even better >25 (3.5 points).

[Good data source for ROCE 5Y AVG (calculate quotient yourself): https://www.gurufocus.com/term/ROCE/ADBE/ROCE-Percentage/Adobe]

The last indicator to evaluate the efficiency of the company is the ROA (Return on Assets) or return on assets. As the name suggests, this looks at profitability in relation to total assets and thus assesses whether a company is using its assets efficiently to generate a profit. A higher ROA means that a company can manage its balance sheet more efficiently and productively. A low ROA is indicative of a poor business model or a highly competitive industry. ROA is the overall view above the two lower ROIC and ROCE and somewhat duplicated :D But duplicated is better - once included I didn't want to remove it, better is ROC. Unlike ROCE and ROIC, the 10Y AVG is looked at to account for a longer time horizon.

For this reason, the ROA 10Y AVG itself only gives 1.5 points at > 20%, 1 point at > 15% and 0.5 points at > 10%. If the current ROA is greater than the 10Y AVG ROA, there is an extra 2 points here, as this indicates that the company is currently in good shape.

[Data source ROA 10Y AVG (Med): https://www.gurufocus.com/term/ROA/ADBE/ROA-Percentage/Adobe]

The last part in phase 1 deals with "Growth" (Growth).

The 10Y CAGR of sales (revenue) should hopefully be known to everyone and needs no further explanation. It must be positive and as high as possible, why should we invest in a company that is losing revenue? A 10Y CAGR > 15% gives 2.5 points, > 12% 2 points, > 8% 1 point and > 5% 0.5 points. [Data Source Revenue 5Y CAGR: https://www.financecharts.com/stocks/ADBE/summary/revenue-ttm-cagr]

The second important and widely known metric is the 5Y EPS CAGR. The average growth of the profit over the last 5 years should be positive as well. A value >15% gives 2.5 points, >12% 2 points, >8% 1.5 points and 5% 0.5 points.

[Data source EPS 5Y CAGR: https://www.financecharts.com/stocks/ADBE/income-statement/eps-diluted-cagr]

A slightly less used metric in evaluating a company's growth is the 5Y FCF CAGR, which is the 5-year average free cash flow growth. Since I believe FCF is the most important attribute of a company and the stock price follows FCF/Share over the long term FCF growth is an important part of the valuation.

The higher the FCF growth, the better. A growth >18% gives 3.5 points, > 15% 3 points, >12% 2.5 points and >8% 1.5 points.

Now only the 5Y CAGR of the dividend. Here, however, I do not look at the amount of dividend growth, only that the FCF 5 Y CAGR is greater than the Dividend 5 Y CAGR, as I believe a dividend should be paid out of free cash flow. However, as you can see from my investment philosophy, a dividend is absolutely not a must criterion for me, but it is "nice to have". If the company does not pay a dividend, this is also not a problem for me. If the 5Y FCF CAGR > the 5Y dividend CAGR, there is another 1.5 points.

[Data source FCF 5Y CAGR: https://www.financecharts.com/stocks/ADBE/growth/free-cash-flow-cagr]

Result:

At the end of phase #1 I now have a first score, which consists of the sum of the achieved points and can reach a maximum of 35. The points from "Margin" and "Profitability / Efficiency" are still summed up to a "Quality" score.

Phase #2 is reached by all those stocks whose Phase 1 Score is >= 18, whose Quality Score is at least 13 and whose Growth Score is at least 2 (no negative growth).

Phew, that was some input. Since I realized during the writing process, which took much longer than I had originally planned🥵, that I would go beyond the scope if I put Phase 2-4 here I will pack them into separate posts - of course only if this is requested by you 🙂

As an outlook on phase #3 I can recommend you the points 1) and 2) of the already mentioned post of @RealMichaelScott https://getqu.in/mNKUXj/fvH5yO/ warmly recommend to you.

Thanks for your feedback, I hope you enjoyed the post!
❤

(Please forgive me if I sometimes get der/the ROA or similar mixed up I've been around English a lot the last half year. :D)

The Simpson GIF extra for @Simpson

sources (besides the ones mentioned in the text):

https://www.investopedia.com/terms/g/grossmargin.asp

https://www.investopedia.com/terms/o/operatingmargin.asp

https://einvestingforbeginners.com/fcf-margin-formula-roic/

https://www.investopedia.com/terms/r/returnoninvestmentcapital.asp

No investment advice