Q&A: Justifiable P/E Ratio, Portfolio Concentration, D/E ratio & Annual Report Queries

Modified on July 2, 2018

The current article in this series provides responses related to:

  • Justifiable P/E ratio for a stock
  • Investing in companies having low growth and questionable governance standards
  • Share premium account and Impact of split/bonus on share capital
  • Portfolio concentration/diversification
  • Calculation of Debt to Equity (D/E) ratio from the annual report of a company
  • Sources of data for production capacity and utilization levels for companies
  • Sources to get historical share price data of a stock
  • Query about credit of dividends in the investor’s account

Query

Vijay sir! I read all of your topics very precisely. Great job Sir!

Please write something about how much minimum P/E a stock will command by simply seeing his net profit, sales growth, or eps growth. To my knowledge, minimum P/E should be equivalent to eps growth YoY.

Please throw some light on – how to determine minimum P/E a stock must command, by seeing his fundamentals.

Some good stocks are available at very high p/e like sequent scintific,8k miles, and they continue to trade at such high p/e like 300 -1400 p/e, and a company with very good fundamentals continue to trade at very low p/e, why it is so?

Author’s Response:

Hi,

Many thanks for your positive feedback. I am happy that you liked the articles on my website.

P/E is a factor that depends on many factors like consistency of earnings, capital structure, general market sentiment, promoter’s perception, company & products’ brand image, liquid float in the market etc.

All these factors are fluctuating in nature. Out of these multiple factors the consistency of earnings, liquid float etc. are the less fluctuating whereas factors like market sentiment, market perception etc. keep fluctuating a lot.

Therefore, assigning or predicting a P/E ratio for stocks is very uncertain. This is one of the reasons that I do not try to assign any target price or intrinsic value to any stock. I prefer to buy good stocks at a low P/E ratio, which provides margin of safety and then trust the markets that they will take the market price higher as the consistent growth in earnings continues in future.

I advise the readers and investor too not to predict the P/E ratio and instead focus on buying fundamentally sound companies at a cheap price i.e. low P/E ratio, which provides good margin of safety:

Read: 3 Principles to Decide the Investable P/E Ratio of Stocks

I also advise readers to avoid investing in high P/E companies as they have a lot of hidden risks, which have high probability of impacting the returns of an investor. You may read about my views on investing in high P/E companies in the following article:

Read: Hidden Risk of Investing in High P/E Stocks

At the same time, I believe that investing in low P/E companies is a good way to create wealth in stock market:

Read: How to Earn High Returns at Low Risk: Invest in Low P/E Stocks

Hope it clarifies your query.

All the best for your investing journey.

Regards,

Vijay

 

Query

Hidden Risk of Investing in High P/E Stocks

Hi Sir. I would request your inputs and views.

(1) am tending to prefer a hero motor or Bajaj over Eicher cos of the established business and comparatively lower valuations; same time (2) am preferring a Kotak/ HDFC bank over PSUs or axis or ICICI because of its track record and long road ahead; same is the case with a Gruh over LIC housing or Indiabulls housing.

If avoiding low-growth and non-governance companies has a cost, then shouldn’t we be taking that cost (not in all cases, but in most cases)? Because that cost in long-run would protect our capital.

Is even looking at low-growth (in foreseeable future) and mis-governance companies, right, considering they are the ones predominantly trading at low PEs now.

Author’s Response:

Hi,

Thanks for writing to me!

I believe that every investor should have her own stock selection strategy as market is a place for different investors to come together and enter into a transaction, which reflected their individual views. There are investors who follow arbitrage, technical, fundamental, low P/E, high P/E, turnaround etc. among many prevalent strategies.

However, I advise investors to focus on companies which have achieved a growth rate of 15% or more over past 10 years, are conservatively financed, managed by competent personnel with integrity and available at a low P/E ratio.

I do not believe in investing in low growth companies. Moreover, companies with governance issues must be avoided whether these are low growth or high growth.

Read: Why Management Assessment is the Most Critical Factor in Stock Investing?

All the best for your investing journey!

Regards,

Vijay

 

Query

Hello Vijay,

Thank you for your support beginners like me. I am getting right direction after gone through your blog.

I have query again. Please clarify. The query is about share capital.

The Company completed its Initial Public Offering (IPO) pursuant to which 4,20,06,038 equity shares of the company of Rs.10 Each were allotted at a price of Rs.47 per equity share.

As per above and balance sheet, share capital will be 4,20,06,038 x 10 = 4,20,060,380. But company is collecting 47 INR from investor in that case share capital should be 4,20,06,038 x 47

What about remaining 37INR? Why we are multiplying with face value?

Also as per my understanding bonus and split will affect share capital, is that correct? Please confirm.

Thank you again.

Author’s Response:

Hi,

Thanks for your feedback & appreciation! I am happy that you found the articles useful!

Here are my views about your queries:

  1. remaining ₹37/- is shown part of share premium account in the section “Reserves & Surplus”
  2. Bonus increases the share capital as the total number of shares increase without any change in face value. Split does not have any impact on share capital as the increase in number of shares is inversely proportional to change in face value.

Read: Understanding the Annual Report Of A Company

Hope it clarifies your queries.

All the best for your investing journey!

Regards,

Vijay

 

Query 

How Many Stock You Should Own in Your Portfolio

Good read. It is mentioned that owning more than 30 stocks wouldn’t benefit the diversification as all the stocks fall equally during crisis. By this aren’t we suggesting that stock performance is bad due to ‘external factors’ (the entire economy doing badly)

Also, it is proposed that we should concentrate our portfolio so that we could benefit from good. But doesn’t that suggest that when a stock rise it is due to ‘internal factor’ (great management, business etc.)

Author’s Response:

Hi,

Thanks for writing to me! I am happy that you found the article useful.

I would want to clarify that the article mentions that

“The above graph from Financial Analysts Journal, indicates that if an investor adds more stocks in the portfolio beyond 30 stocks, it would not reduce any further risk in the portfolio.”

This is because with each addition of a new stock the diversification benefit reduces as shown in the graph. It is not due to the reason that all stocks would equally.

Concentrating the portfolio makes the portfolio more manageable and easily track able. Continuous tracking would protect the investor from negative surprises in her portfolio as she would be able to spend more time studying each stock in her portfolio.

Hope it clarifies your queries!

All the best for your investing journey!

Regards

Vijay

 

Query

Sir,

Thanks for the quick reply to my previous query. Today I have another query. For Vinati Organics Limited Balance sheet figure, when I check the screener.in site in the year 2014 the total equity is Rs. 310.07 cr. However the debt is shown as borrowings Rs. 161.78 cr and other liabilities Rs 80.93 cr, taking the total debt to equity as (161.78+80.93)/310.07 = 0.78.

However, Sir, as per your calculation the secured Loans are Rs. 88 cr. and unsecured loans Rs. 34 cr making the D/E ratio 0.4.

I am new to these financial ratios. I am trying to learn. My query is how you have arrived at debt figure of Rs. 122 cr. in FY 2014 whereas screener.in shows it to be Rs. 242.51 cr.

I will truly appreciate your explaining the point behind this.

Regards,

Author’s Response:

Hi,

Thanks for writing to me!

In August 2015, the screener website has undergone a change and it has changed the way it presents/classifies the data on its website.

From 2012, the presentation of financial statements had undergone a change on account of change in Schedule VI. From August 2015, screener has updated its data presentation and has factored in the changes in presentation of financial statements from FY2012 onwards. Before August 2015, it seems to be calculating data as per its template which was prepared in the older format of annual reports.

The data presented in the article was taken from screener in December 2014. The changed presentation of data by screener is the reason that you are not able to find debt data of March 2014 as ₹121cr.

If you read Vinati Organics annual report for FY2014 page no. 42, then you would notice that at March 31, 2014, Vinati had shown long term debt of ₹109.9 cr. and short term debt of ₹12.26cr. cumulating to total debt of ₹121cr shown by screener in its previous template and thereby used in the article above. However, the actual data of total debt at March 31, 2014 should also include the current maturity of long term debt of ₹39.34 cr. shown in the annual report at page no. 52 in schedule 8 “other current liabilities. Therefore the actual total debt is 109.9 + 12.26 + 39.34 = 161.5 cr.

Read: Understanding the Annual Report Of A Company

Other liabilities include provisions, customer advances, dividends to be paid etc., which are usually not factored as debt in debt to equity ratio.

An investor would notice that the presentation of data in annual reports keeps on changing over time and there is a time lag with which public sources of data adjust to the new format. As in the current case, it took a lot of time for screener to adjust its template to new debt presentation format of annual report.

Therefore, it is advised that before taking any investment decision, an investor should check the financial figures from the annual report of the company as annual report is the most authentic sources of data.

Hope it clarifies your query!

Regards,

Vijay

 

Query

Read: How to do Business Analysis of Companies

Sir,

I find your articles very informative. I have a query regarding the business and industry analysis. Not all the annual reports of companies provide data for production capacity. So in that case how does one compare sales CAGR with production capacity CAGR?

Author’s Response:

Hi,

Thanks for writing to me!

I agree that now a days, some companies do not publish production capacity and utilization numbers in the annual report. However, most of the companies still provide it.

Alternatively, you may get capacity details from the investor presentations, news articles related to the company, credit rating reports, management interviews etc.

Regards,

Vijay

 

Query

Hello Vijay,

Thank you again. I can say I am very lucky to found your blog.

I have a question again!

Nowadays screener.in is not up to date, values are sometimes wrong. So could you please share with me if you know any similar websites to refer 10 years data other than money control and NSE?

As per your guidance I have created my won excel sheet for analysis the last 10 year data, I almost complete the excel, but I don’t know where to find the average price of the share to calculate each year P/E and PEG ratio so please advise me.

Thank you again for your support.

Author’s Response:

Hi,

Thanks for writing to me!

Congratulations that you have prepared your own excel file and have started to do own analysis. I am happy to hear about it.

Screener & money control are the two most used data sources. Beyond them, I guess one should take data directly from the annual report of the companies.

You may get past data of share price from both NSE and BSE websites, which you may use to calculate the ratios.

All the best for your investing journey!

Regards,

Vijay

 

Query

Hello Vijay,

If I hold some shares and want to receive dividend on it then what is the procedure to receive it and to whom should I intimate?

Author’s Response:

Hi,

Thanks for writing to me!

An investor does not need to intimate anyone. If she owns shares in her demat account on the record date i.e. she has bought it before the ex-date, then the company would automatically deposit the dividend in her linked bank account on its own. Dividends are usually deposited within 3-4 weeks after the record date declared by the company.

Regards,

Vijay

P.S.

 

DISCLAIMER

  • The above discussion is only for educational purpose to help the readers improve their stock analysis skills. It is not a buy/sell/hold recommendation for the discussed stocks.
  • I am registered with SEBI as an Investment Adviser under SEBI (Investment Advisers) Regulations, 2013.
  • Currently, I do not own stocks of the companies mentioned above except Vinati Organics, in my portfolio.

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