Fundamentals for Dumb-Me Part 2 (as promised)

Here is the next segment in the fundamentals posts.

Trust yourself and not some goofy sell sider.





When you are valuing a company, you need to have an income statement, or model, as the hedge fund folks call it. (Just a quick sideline here; when I ask my analyst friends what they are doing, they love to say that they are “working on models.” They are all men, of course…the analysts, not the models.)

When I first started in this wacky business, I was working for a hedge fund manager who required me to learn how to create models. I would painstakingly look up the historical numbers for sales, costs, cash flow, debt, etc. on the 10K filings and enter them into an Excel worksheet. I found this to be a tedious and miserable task. I always struggled to see the little cells that I had to put the numbers into. In those days, for whatever reason, we didn’t magnify everything so that it was easy to read and see. I had quite a bit of accounting under my belt, but this frustrated me.

The joy came when we looked at the model/spreadsheet together and made predictions about where the company was going and what its true value was. You can get models already built, of course, from Factset or Reuters but these require costly subscriptions upwards of $9K per year.

Soon thereafter, thehusband also got a job in the biz. For the longest time, after I started trading on my own, I would ask him, my in-house analyst, to provide me with whatever models I needed and I was fortunate that he could easily provide them to me. After a while, however, I found even reading those models to be tedious. They had way more information than I really needed and I started looking elsewhere for the information I wanted. Historical data is perfectly well represented on Google Finance. I can easily double check the numbers and fill in the blanks to be sure I am using the correct data, and for the most part, I find they do a pretty good job with accuracy.


If you are still reading this, you are likely interested enough in valuing companies and including fundamentals in your analysis, but I realize that you may not be familiar with all of the accounting terms herein. If you come across a term that you are not acquainted with, just plug it into the keyword search at Dictionary. I have taken the liberty of linking a few of the terms for you.

Look at an income statement in Google Finance for a particular company and check to see which direction revenue and costs are going. For example, if costs are going up but sales are not, you might consider that the company is expanding or spending for advertising which could allow for greater sales in the long run. If it is a newer company, it may not even have been profitable yet. Companies need to invest money for Manufacturing, Research and Development, Advertising and of course staff, long before they can sell a product or service and become profitable, so again, direction is of the utmost importance.

I present to you an older income statement for $CSUN below. Please note that all dollar amounts are represented in the millions.

One of the things I like here is that as the Operating Expenses grow quarter over quarter and so does Revenue.

In fact, Revenue growth accelerates more rapidly so that the company uses its expenses to earn more money over time resulting in a higher Net Income. This tells me that management is doing their job correctly and costs are being used appropriately; Margins are getting better. I also note that over the five quarters listed, the company seems to have had some cost issues in the fourth quarter of 2009 but managed to correct this in the more recent quarters. This is also good news with regards to the company’s direction.

If I am concerned about the accuracy of these numbers, I can cross check them against the actual filings to be sure that they are accurate…a whole lot less work than looking up the numbers and plugging them into a spreadsheet to begin with.

I would also like to note that while analysts generally only include Research & Development and sales/admin expenses etc in Operating Expenses, Google Finance also includes Cost of Revenue and calls it Total Operating Expenses. This is simply a matter of terminology, but I want to clear that up in case the term Op/Ex gets thrown around and has a significantly different figure from what is included here. Personally, I feel the Total Op/Ex is a more accurate depiction of what it costs to create the revenue.

The other important piece to this puzzle is the Diluted Shares and Diluted EPS which you can and should also cross reference in the company’s latest press release. You will want to be sure that the diluted share count is correct as some companies have been known to withhold warrant or conversion shares from their Basic Share count which can make it seem like they have a higher EPS, and as you know, you cannot value a company without an accurate EPS.

Once you have confirmed these numbers, you can move on to forward valuation. You will want to include the most recent earnings and fill in the blanks for coming quarters. Your best bet is to listen to the conference call so that you can plug in accurate numbers for the current quarter as well as for growth. Doing this as the numbers are released during the call will allow you to make a decision before the stock moves in a particular direction based on the new earnings call. New earnings information will take time to populate so you will want to be on top of it.

Once you have all this information, you can go back and do the work from my first post on fundamentals and can get a fairly accurate valuation of the company you are looking at while knowing that you have crosschecked all the numbers yourself and are not just counting on some analysts point of view.

Note: this information is only for learning purposes; the stock went nowhere in the following year. It stayed flat for entirety of 2010 before going lower in 2011. Had I taken this information for a long term trade, I would have been out of it fairly quickly for lack of movement but that is risk management and right now we are learning valuation, so I digress.


Earnings statement follows:

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