Last Friday I told you about a shortcut to finding a great investment – ignore all the guff at the start of company accounts and shoot straight to the 5-year summary.
This gives you an excellent snapshot of how well the company has been performing. We saw that the last five years have been quite exciting for Sainsbury’s shareholders.
But you can’t just buy a stock on the strength of a 5-year summary. In fact, there are 3 steps that I take before I buy stock in any exciting company.
The first step is to take a look at the 5-year summary. And taking Sainsbury’s as an example again, I want to show you my second step today.
The second step to finding a great investment
If you want a reminder of the first part of our analysis on Sainsbury’s (LON:SBRY), just finding a great investment. SBRY’s 5 year performance was pretty impressive. But that’s all history now. We need to know what the next couple of years might hold in store.
That’s where the analysts come in. Yes, they have a poor reputation for picking winning trades. But they can be a pretty useful bunch if you know how to use them.
One thing analysts are good at is forecasting key company figures – available from websites such as digitallook.com. That’s because analysts regularly meet company management at presentations and conference calls to see how the business is getting on. Analysts receive guidance on what to expect in the forthcoming year.
And because companies want to cut down on uncertainty, they’ll guide the analysts towards the right figures.
Analysts plug the figures into their forecasting models – models that include other macro-economic data, and a computer spits out a forecast. Here’s SBRY consensus (average of all the analysts) forecasts for the next three years.
Source: digitallook.com
Forecasting three years into the future is a bit of a stretch. I would focus on the first year or two – it’s difficult to know what’s going to happen after that. But that doesn’t stop analysts trying to forecast figures way out into the future -even up to 20 years!
That’s why the analysts’ opinions on the true value of a stock are so diverse. It just depends on their assumptions about the future.
In the year to March this year, analysts expect earnings per share (EPS) growth to come in at 6% and then 11% in 2012. To put that into context, the five-year summary showed average EPS growth of around 25%. So things seem to be slowing down…
Maybe we shouldn’t be too hard on SBRY for that. Shareholders have enjoyed some great growth over the last five years and things were bound to slow down. Analysts reckon we’ll be back to growth of 11% for 2012 – let’s hope so.
The second thing to look at is the p/e and yield. Based on the forecasts, the firm is on a p/e of 15 times and yielding around 3.9% for 2011. Next year p/e drops to 13.7 times with a slightly increased yield of 4.2%.
This all looks like good news – the future p/e tells us the company is getting cheaper and the yield growth looks set to outpace inflation.
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The only thing that concerns me is that the operating margins look set to fall. That’s probably explained by the incredible food price inflation that’s hitting SBRY. If SBRY can’t pass these price increases on to consumers, then margins get squeezed.
Only time will tell how this story pans out – the analysts can all make their assumptions – but ultimately nobody knows. I’ll just stick to the facts and keep an eye on the story…
While a 4% yield isn’t going to make me snap my broker’s hand off to get hold of stock, it’s still a nice return. And given that dividends look set to continue their upward march, SBRY is beginning to look like a nice little yield stock.
And if they can maintain margins – then we could actually see a nice surprise to the upside.
But before we can say SBRY is a buy we need to delve a little deeper.
There’s more work to do
So, we’ve looked at the five-year summary and analysts forecasts. These figures come from the Profit and Loss account. Profits are the most important thing after all, so it stands to reason that we’ve focused our attentions here.
But before we make an investment, it’s paramount that we look at some balance sheet indicators too.
And this is where it gets a bit more complicated. The balance sheet shows us all the company’s assets and liabilities – it allows us to gauge the financial strength of the business.
If you know what you’re looking for, you could even identify some hidden assets that can really add value to the business. And that’s what we’ll be looking at next Friday.
We’ll take a close look at the balance sheet to gauge whether SBRY is fundamentally sound and whether there’s any more value hiding beneath the surface.
Next week we’ll also look at what the surging oil price could mean for your investments… and we’ll catch up on how our gold trade is doing.
These are truly exciting times to be an investor… and speculator. Keep reading The Right Side for more ideas coming your way.
• This article was first published in the free investment email The Right side. Sign up to The Right Side here.
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