Fundamental Analysis: Comprehensive Guide

1. Key Financial Statements

Financial statements help evaluate a company’s financial health and

performance.

1.1 Income Statement (Profit & Loss Statement)

• Definition: Shows a company’s revenue, expenses, and profit
over a specific period (quarterly or annually).
• Purpose: To understand how much profit a company makes
after covering all costs.
• Key Components:
1. Revenue (Sales): Total income from selling goods or
services.
Example: A company sells products worth ₹1 crore in a year.
2. Cost of Goods Sold (COGS): The direct cost of
producing goods or services.
Example: ₹50 lakhs spent on raw materials and labor.
3. Gross Profit: Revenue - COGS.
Example: ₹1 crore - ₹50 lakhs = ₹50 lakhs (Gross Profit).
4. Operating Expenses: Indirect costs (e.g., rent,
salaries).
Example: ₹10 lakhs spent on salaries and rent.
5. Net Profit: The company’s final profit after all expenses
and taxes.
Example: ₹40 lakhs (Net Profit).
• Key Metrics to Analyze:
• Gross Margin: Gross Profit ÷ Revenue.
• Net Profit Margin: Net Profit ÷ Revenue.

1.2 Balance Sheet

• Definition: A snapshot of a company’s financial position at a
specific date.
• Purpose: To see what the company owns (assets) and owes
(liabilities), and its net worth (equity).
• Key Components:
 1. Assets: What the company owns.
• Current Assets: Easily convertible to cash (e.g., cash,
inventory).
Example: ₹20 lakhs in cash, ₹30 lakhs in inventory.
• Non-Current Assets: Long-term investments (e.g.,
buildings, machinery).
Example: ₹50 lakhs in machinery.
2. Liabilities: What the company owes.
• Current Liabilities: Due within a year (e.g., accounts
payable, short-term loans).
Example: ₹10 lakhs in supplier payments.
• Non-Current Liabilities: Long-term debts (e.g., bonds,
loans).
Example: ₹20 lakhs in long-term loans.
3. Equity: The value remaining after subtracting liabilities
from assets (Net Worth).
Example: Assets ₹1 crore - Liabilities ₹30 lakhs = Equity ₹70 lakhs.
• Key Metrics to Analyze:
• Debt-to-Equity Ratio: Total Liabilities ÷ Equity.
• Current Ratio: Current Assets ÷ Current Liabilities.

1.3 Cash Flow Statement

• Definition: Tracks the inflow and outflow of cash during a
specific period.
• Purpose: To understand how well a company generates cash
to meet obligations.
• Key Components:
1. Cash Flow from Operating Activities (CFO): Cash
generated from core business operations.
Example: ₹50 lakhs earned from selling goods, minus ₹20 lakhs
spent on operations.
2. Cash Flow from Investing Activities (CFI): Cash
spent on or earned from investments (e.g., buying/selling
machinery, acquiring assets).
Example: ₹10 lakhs spent on buying equipment.
 3. Cash Flow from Financing Activities (CFF): Cash
from borrowing or repaying loans, issuing shares, or paying
dividends.
Example: ₹5 lakhs raised by issuing shares.
• Key Metrics to Analyze:
• Free Cash Flow (FCF): CFO - Capital Expenditures.
Example: ₹30 lakhs (CFO) - ₹10 lakhs (CapEx) = ₹20 lakhs (FCF).

2. Overview of Economic Indicators

2.1 What are Economic Indicators?

• Definition: Metrics that show the health of an economy and
can influence stock prices.
• Purpose: Helps investors predict market trends and assess
risks.

2.2 Types of Economic Indicators

1. Leading Indicators (Predict future trends)
• Stock Market Performance: Reflects investor sentiment
about the future economy.
• Manufacturing Orders: High orders signal future growth.
2. Lagging Indicators (Confirm past trends)
• Unemployment Rate: A high rate confirms economic
slowdown.
• Corporate Profits: Reflects business health after a trend has
occurred.
3. Coincident Indicators (Reflect current conditions)
• GDP Growth Rate: Measures economic output.
Example: India’s GDP grows at 7%, indicating strong economic
activity.
• Retail Sales: Higher sales reflect consumer spending power.

2.3 Key Economic Indicators for Investors

1. Inflation (CPI):
• Definition: Measures the increase in prices over time.
 • Impact: High inflation reduces purchasing power, affecting
company profits.
Example: If CPI rises from 5% to 7%, your ₹100 now buys less.
2. Interest Rates:
• Definition: Rates set by central banks for borrowing money.
• Impact: High interest rates increase borrowing costs, slowing
economic growth.
3. Employment Data (Job Reports):
• Definition: Measures job creation and unemployment.
• Impact: Strong job growth boosts consumer spending.
4. Exchange Rates:
• Definition: The value of one currency compared to another.
• Impact: A strong currency makes imports cheaper but exports
expensive.

3. How These Concepts Work Together

Example Walkthrough:

Let’s analyze a company and market using financial statements and

economic indicators:
1. Company’s Financials:
• Income Statement: Revenue is growing, and net profit
margin is strong → The company is profitable.
• Balance Sheet: Low debt-to-equity ratio → The company isn’t
heavily dependent on loans.
• Cash Flow Statement: Positive free cash flow → The
company has cash to reinvest or return to shareholders.
2. Economic Indicators:
• GDP Growth: The economy is expanding at 6%.
• Inflation Rate: Controlled at 4%, supporting stable growth.
• Interest Rates: Low rates → Borrowing is affordable, which
benefits businesses.
3. Conclusion:
 • This is a good time to invest in companies with strong
financials, as the economy supports growth.

4. Memory Techniques
1. Relate Financial Statements to Personal Finances:
• Income Statement: Like your monthly budget (income -
expenses = savings).
• Balance Sheet: A snapshot of your net worth (assets -
liabilities = equity).
• Cash Flow Statement: Tracks how cash enters and leaves
your wallet.
2. Create Mnemonics for Economic Indicators:
• Example: I Eat Rice Everyday → Inflation, Employment,
Rates, Exchange (key indicators).
3. Use Real-Life Examples:
• Pick a company and analyze its financials (e.g., Infosys).
• Track current economic indicators for your country.

Key Takeaways
1. Financial Statements:
• Income Statement: Shows profitability.
• Balance Sheet: Shows financial health (assets vs. liabilities).
• Cash Flow Statement: Tracks liquidity (cash movement).
2. Economic Indicators:
• Leading, Lagging, and Coincident indicators help assess
market conditions.
• Key metrics include inflation, interest rates, and GDP growth