Ann: Preliminary Final Report, page-16

Thanks for that insight, so effectively when you first analyse a company you would establish these ratios depending upon the environment the company operates, structure of the company, sector etc. And then if the buisness is operating as "usual" you just plug in the values, and the initial analysis you made does most of the legwork in checking the quality of the most recent result?

Yes, as you will see in the model, the ratios fall into certain broad-brush "categories", to wit:

P&L Drivers
CoGS/Rev
Gross Margin
Cost Element X/Revenue (where relevant)
Cost Element Y/Revenue (where relevant)

Capital Intensity
WC/Sales
Sales/Inventory
OCF/Capex
Capex/Sales
Asset Turnover

Margins
EBITDA Margin
EBIT Margin

Solvency
EBITDA/NI
NIBD/EBITDA, annualised
Net Recepits/Tax
(NR-Tax)/Net Interest

Returns
EBIT/Assets
ROCE
ROE
Return on Tangible Assets

Free Cash Flow
FCF
FCF/Rev
FCF/EBITDA

Accounting Quality
Cash Receipts/Revenue
Cash Payments/Operating Costs
Adjusted EBITDA (for provisioning changes)
Cash Flow Conversion (adjusted for working capital changes)
PP&E/Depreciation
Capex/depreciation
Interest charged /paid
Tax Rate


Those ratios form the basic template, and can - generally - be applied to the overwhelming majority of businesses (the exceptions being banks and insurance businesses, which have their own unique financial reporting protocols).

It warrants mentioning that, in totality, all of the above ratios are probably a bit of an overkill, and that if one was starting from scratch, one would not design a financial model with all of them; probably 90% of the answer in terms of the quality of any financial result can be gleaned from, maybe, 10 of the above list of ratios. The rest are mostly "nice-to-haves" (if not redundant).

Also, each ratio, or set of ratios, might be of a different relevance to each company, so what might be a very impactful metric for one company might be far less so for another company. The ability to discerning the extent of this is, I'm afraid, a function of time and experience.

But, yes, the purpose those diagnostic metrics serve is to do all the "legwork", so that - on plugging in the elements of the financial statements on reporting day - all the calculations, on which the quality of the result is assessed - are done automatically without the need to perform them manually every time.


"Thats one of the main points I feel I am beginning to realise; that financial results are a lot less black and white than I originaly believed, and I guess that makes perfect sense when you have a multitude of moving parts."

Yes, indeed. Not only that, but obtaining a true "feel" for a given set of reported results invariably involves not only assessing them in isolation, but in the context of history.

People say the market is a forward-looking beast, and that is a truism; but for me to be able to form some sort of decent view of what the future financial performance of a business is, I need to draw on the way it has performed historically.

For me to be able to value a business, I need to first understand its "financial pedigree"

And I am unable to "know" the financial pedigree of a company, unless I have observed the natural ebbing and flowing of its financial performance over time.

Which is why I very seldom will buy shares in a company, with any real conviction, if I have been unable to gauge how that company has performed over the course of at least one full business cycle, and preferably several cycles.

And then each financial result gets measured in the context of that precedent financial performance because, for long-term investing success, being able to discern underlying trends in financial performance (be they improving or deteriorating) is far, far more important than whether or not a company's Net Profit figure on any given day "beat", "met" or "missed" consensus expectations.

TME model will be e-mailed to you imminently.