Getting Started: Fundamental Analysis

Depending on what metric you're looking at, performance can be measured in a number of different ways. If you want to look at a company as a whole, then its ability to generate a profit is a sensible measure to review (see earnings ). However, if you want to be more specific in your assessment, you can be. For example, if you want to check the performance of certain assets , then you would want to look at a metric like return on assets (ROA).

There are several numbers and ratios that can be used to gauge a company's performance. Metrics like the price-to-earnings ratio ("Booyah Breakdown: The Ratio King"), earnings per share and gross margin are all useful in determining a company's relative health.

Comparables Rule

When comparing the performance of two companies, it is important to remember that comparisons aren't absolute. For example, looking at a technology company like Google (GOOG Quote), whose P/E on any given day is almost four times as high as that of U.S. Steel (X Quote), won't tell you as much as you'd think. While a lower P/E is generally more favorable (suggesting that a company with a given stock price takes in greater profits), U.S. Steel is in the basic materials sector, which as a group doesn't trade with a P/E comparable to the tech sector.

So how should you, the burgeoning analyst, approach metrics? Like this: Use ratios and comparisons only among comparable companies in comparable industries or sectors ("Industries vs. Sectors: What's the Difference?"). For example, while eBay's (EBAY Quote) fundamentals might make it look like a pig (a bloated and overvalued stock) compared to The Bank of New York's (BK Quote) fundamentals, the two aren't in comparable fields, so the intrinsic value of each stock is no clearer for your comparative effort.

(More suitable comparisons for eBay would be Amazon.com (AMZN Quote) or Yahoo! (YHOO Quote), while JPMorgan Chase (JPM Quote) or Bank of America (BAC Quote) would work for the Bank of New York.)