How to Check Financial Health of a Company

 

When a common man wants to buy the shares of a company, he may have his own way to check financial health of a company. Some common way they use.

1. 5 Years Trend of its Share Price 

2. It has high market capital company. 

If it is upword and high market capital company, normal common man can buy it. There is no problem to see it but Financial Health is different from it.

Because 

1. There is no gaurantee today you see its past upword trend, next 5 years, it may down ward trend of its share price. So, it is not good signal of company's financial health

2. Second when All will buying to see this. This share will over valued. It means, actual assets are less than what is showing its price. 

3. It is not gurantee high capital company will not die in future. 

Following are the Best Way to Check the Financial Health of a Company

1. Trend of Financial Statements

Now it became very easy to compare current financial statements with past 3 to 5 years. 

Compare Income Statement

Compare company's 3 to 5 years income statements

Is its sales decreasing?

Is its expenses increasing?

Is its net profit decreasing?

Is it facing loss

Great Sign 

Company's financial Health is weak

Never buy its share. Never become its owner and takes the responsibility as owner of this company. Because its profit is decreasing or facing loss, it means, how will pay its expenses to operate the business. 

Now second you will see

Is its sales increasing?

Is its expenses decreasing?

Is its net profit increasing?

buy its share. Become its owner and takes the responsibility as owner of this company. Because its profit is increasing , it means, it has ability to pay all its expneses and ability to increase the earning per share (EPS) and when earning per share will increase, it is sure, your share price will increase in future also. 

2. Compare Balance Sheet

By compare balance sheet, you can find, whether debt is increasing or decreasing. Whether assets increasing or decreasing. 

Is its assets decreasing?

Is its debt increasing?

Is its other liabilities increases?

Is it general reserve decreasing 

Great Sign 

Company's financial Health is weak

because if debt is increasing and it is very near to total assets with 

Debt to total asset ratio

it means,

if it is 80%

If 80% money will receive if company insolvant and rest 20% will receive shareholder. It means, you get just Rs. 20 out of you invested in the assets of company

So, go other whose have no debt or very low debt and decreasing day by day.

2. Is Company Buy back its Share 

A company wants to buy back for increasing earning per share and ROI. because less shareholder means more part will come in each share. So, it is good sign that company's financial health good.

It is trusting on itself

It wants to invest self first

but if second company is issuing new shares and getting new IPO. Then, you have to think again. 

Because it will decrease future earning per share and So, check both things. Either it will buyback or issue new shares

3. Are its Employees and Board of Directors Buying its Share

There are getting salaries from same company. Have they trust on own company. If not , it means, its health is not good because they know better from you that company's future is not good 

If they know, company's future is good, then they will surely buy own company shares which is good sign that its health is good. 

4. Check All the Accounting Ratios

All accounting ratio gives lots of information about the strength of fundamental of company. If its current ratio is good 2:1 , its interest coverage ratio is good, its profitability ratio is good, its ROI is good. Its Dividend yield and payout is good. Then its health is good. 

5. P/E Ratio

This is great ratio which tell

Market price of a share will repay your money how much years

Suppose share price of A company is Rs. 100

And earning per share is Rs. 10

P/E = 100/ 10

Price is 10 times of its earning capacity, it means, you will get your money in 10 years if earning will same. 

6. Growth Rate

Growth rate is very important

Growth rate= current net profit - previous year net profit/previous net profit × 100

If we divide by p/e Ratio

Suppose growth rate is 20 and p/ e is 10

Then it is 2 times of p/e this is good health of company 

6. Debt Equity ratio 

If debt is Rs. 10 and equity is 100 , it means only we have 10% outside liability. So, this company health is so good. 

But in unhealthy company, debt is 80% and equity will 20%