Although there is no checklist that beginning investors can refer to when it comes to making long-term investment decisions, there are a few standard considerations one should review before investing. While the following 5 key points are nothing near extensive, nor can they guarantee abundant returns, if an investor can answer them in any kind of detail, then they will know whether or not they should make the investment in the first place.
1. How have the last three to five years trended in terms of total revenue and net revenue? By understanding revenue growth trends (or lack thereof) investors will see whether the company is growing. Having an understanding of where the company’s bottom line sits will provide a further understanding in terms of how they are managing their company in terms of expenses, margins, and other initiatives.
2. What is the company’s equity position? How has it changed over the past three to five years? If the company is making money, its equity position should be increasing. If not, then they are using capital for other projects… what are those projects? You should be able to find information about retained earnings in the Notes to the financial statements.
3. What is the stock’s price-to-earnings ratio? The higher the ratio, the more “expensive” the stock is considered to be. However, there is more. Higher P/E stocks are also stocks that other investors have a lot of faith investing in.
4. What is the Dividend Yield, if any? If the company you are consider pays a dividend, how much of an annual dividend is it when compared to the actual stock price? If there is a dividend, how long would it take to recover potential losses? In other words, if the company is paying a 10% dividend based on today’s stock price, it would take five years to recover a devaluation of 50% in the stock price. This means that if you plan on holding the stock in the long-term, then the daily price volatility and fluctuations will have little impact on your long-term goals.
5. Who are the company’s key competitors? Try to find at least three key competitors and differentiate the companies based on their sales, growth, expense, and equity positions. What makes one company stand out from another in terms of future growth prospects, research and development (if applicable) and so on? Understanding the sector as a whole can give an investor insight into whether their particular company has a chance to come out as a market leader or follower.
Again, there is no such thing as a standardized checklist that will allow an investor to make winning investment decision every time they make a trade. However, understanding the five key investment essentials above will allow investors to get a detailed understanding of the companies they invest in and let them sleep much better at night.