The Final Checklist
The author mentions some final checklist on stocks before buying it.
The P/E ratio. Is it high or low for the particular company and for similar companies in the same industry?
The percentage of institutional ownership. The lower the better.
Insider Buying: If insiders are buying or the company itself is buying back its own shares are positive for the company.
Growth in Earnings: Check on earnings growth to date and whether the earnings are sporadic or consistent.
Balance Sheet: Whether the company has a strong balance sheet or a weak balance sheet, debt- to-equity ratio and the cash flow position and how it’s rated for financial strength.
The author also has beautifully explained specific pointers to check in different types of companies.
In the case of slow growers, one buys dividends, and what percentage of the earnings are being paid out as dividends. If it’s a low percentage, then the company has a cushion in hard times.
Lynch says that investors must keep a close watch on inventories and should watch out for new entries into the market. If one knows their cyclical, then they have the advantage of figuring out the cycles and thus makes it easier for them to predict an upturn in the cyclical industry than that of a downturn. Anticipate a shrinking P/E multiple over time as business recovers and investors look ahead to the end of the cycle, when peak earnings are achieved.
One needs to check the P/E ratio of a company and must also check for unrelated acquisitions which have a chance of reducing future earnings. An investor must also check for a growth-rate which is long-term and has also maintained momentum in recent years. Lynch says that if someone is planning to hold the stock for a long time, then they must check how the company has performed during prior recessions.
An investor needs to ask if the company can survive raids by creditors and how much cash the company has, alongside how much debt it has, as well. He says that if a company is bankrupt, then an investor needs to ask about what's left of it for shareholders. Lynch propagates that investors need to ask how a company is supposed to be turning around and if it has rid itself of unprofitable divisions. A few more questions that need to be addressed are, if the business is coming back or not, and if costs are cut and if so, what will be its impact.
Investors must investigate whether the product which is meant to enrich a company is a significant part of its business or not. They also need to see if the company has been able to duplicate its success in more than one place, as this proves that expansion is going to work. One should check whether the stock is selling at a P/E ratio at or near the growth rate or not.
Peter Lynch asks his investors to ask questions like what the value is, of the assets and if there are any hidden assets or not. He says that investors also need to ask how much debt there is to detract from these assets and if the company is taking on new debt and making its assets less valuable or not.