# Fundamental Analysis

> > **Skill:** Fundamental Analysis | **Domain:** trading | **Category:** research | **Level:** intermediate

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- Category: Research & Search
- Author: mahmoud20138 (https://skillmd.com/u/mahmoud20138)
- Updated: 2026-09-17
- Page: https://skillmd.com/skills/mahmoud20138/fundamental-analysis

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> **Skill:** Fundamental Analysis  |  **Domain:** trading  |  **Category:** research  |  **Level:** intermediate
> **Tags:** `trading`, `research`, `fundamental`, `financials`, `valuation`, `moat`


# Fundamental Analysis

## Reference Files

Load these when needed — do not pre-load all of them:

| File | Load When |
|------|-----------|
| [references/financial-statements.md](references/financial-statements.md) | Analyzing income statement, balance sheet, cash flow, FCF, working capital, red flags |
| [references/valuation-methods.md](references/valuation-methods.md) | Computing or comparing valuation ratios, running DCF, comps, DDM, profitability/liquidity/leverage/efficiency ratios |
| [references/macro-industry.md](references/macro-industry.md) | Economic indicators, central bank policy, intermarket analysis, Porter's Five Forces, economic moats |

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## Quick Ratio Reference

### Valuation Ratios

| Ratio | Undervalued | Fair | Expensive | Notes |
|-------|-------------|------|-----------|-------|
| P/E (trailing) | < 10 | 10–20 | > 30 | Compare to sector & growth rate |
| P/E (forward) | < 12 | 12–18 | > 25 | More predictive than trailing |
| PEG | < 1.0 | ~1.0 | > 1.5 | P/E ÷ EPS growth rate |
| P/S | < 1.0 | 1–3 | > 5 | Sector-dependent; SaaS can be 8–20× |
| P/B | < 1.0 | 1–3 | > 5 | Banks/financials: fair at 1–2× |
| EV/EBITDA | < 8 | 8–12 | > 15 | Best for capital-intensive businesses |
| EV/Revenue | < 1 | 1–3 | > 5 | Pre-profit companies |

### Profitability Ratios

| Ratio | Poor | Good | Excellent | Notes |
|-------|------|------|-----------|-------|
| ROE | < 10% | 15–20% | > 20% | Beware high leverage inflating ROE |
| ROA | < 2% | 5–8% | > 10% | Banks: 1–2% is normal |
| ROIC | < WACC | WACC+5% | > 15% | Value creation only if ROIC > WACC |
| Gross Margin | Sector low | 40%+ (tech) | 60%+ | Highly sector-specific |
| Operating Margin | < 5% | 10–20% | > 25% | Sector-adjusted |
| Net Margin | < 3% | 8–15% | > 20% | Sector-adjusted |

### Liquidity & Leverage Ratios

| Ratio | Weak | Acceptable | Strong | Notes |
|-------|------|------------|--------|-------|
| Current Ratio | < 1.0 | 1.5–2.0 | > 2.5 | < 1 = liquidity risk |
| Quick Ratio | < 0.7 | 1.0–1.5 | > 2.0 | Excludes inventory |
| Cash Ratio | < 0.3 | 0.5–1.0 | > 1.0 | Most conservative |
| Debt/Equity | > 2.0 | 0.5–1.5 | < 0.5 | Sector-adjusted |
| Debt/EBITDA | > 4× | 2–3× | < 2× | > 5× = distress risk |
| Interest Coverage | < 2× | 3–5× | > 5× | < 1.5× = danger zone |

### Efficiency Ratios

| Ratio | Poor | Good | Excellent |
|-------|------|------|-----------|
| Asset Turnover | < 0.5 | 0.8–1.5 | > 1.5 |
| Inventory Turnover | < 4 | 6–12 | > 15 |
| DSO (Days Sales Outstanding) | > 60 | 30–45 | < 30 |
| CCC (Cash Conversion Cycle) | > 90 days | 30–60 | < 30 (or negative) |

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## Financial Statement Structure Overview

```
Income Statement       →  Profitability (what was earned)
Balance Sheet          →  Financial position (what is owned/owed)
Cash Flow Statement    →  Liquidity (actual cash movement)

Key linkages:
  Net Income (IS) → Retained Earnings (BS) → Operating CF (CFS)
  CapEx (CFS)     → PP&E change (BS)
  D&A  (IS)       → Added back in Operating CF (CFS)
  FCF = CFO - CapEx  (the purest measure of cash generation)
```

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## Valuation Method Selection Guide

| Situation | Best Method | Why |
|-----------|-------------|-----|
| Stable, predictable FCF | DCF | Intrinsic value based on fundamentals |
| Profitable, comparable peers exist | Comps (EV/EBITDA, P/E) | Market-derived, fast |
| Dividend-paying, mature company | DDM (Gordon Growth) | Dividend stream = value |
| Pre-profit high-growth | EV/Revenue, EV/ARR | No earnings yet |
| Asset-heavy (banks, real estate) | P/B, P/TBV, P/FFO | Assets = value driver |
| Acquisition / M&A context | EV/EBITDA + DCF | Enterprise-level view |
| Cyclical industry | EV/EBITDA on normalized earnings | Avoid peak/trough distortions |

> **Rule**: Always triangulate — use 2–3 methods and compare implied price ranges.

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## Red Flags Checklist

### Earnings Quality
- [] Revenue growing faster than cash from operations
- [] Accounts receivable growing faster than revenue (channel stuffing)
- [] Gross margin declining while revenue rises
- [] Frequent non-recurring "one-time" charges
- [] Auditor changes or going-concern opinion
- [] Earnings beat only due to tax rate or share count changes

### Balance Sheet
- [] Goodwill > 30% of total assets (acquisition risk)
- [] Inventory buildup without revenue growth
- [] Rising short-term debt to fund operations
- [] Pension obligations understated (check footnotes)

### Cash Flow
- [] Persistent CFO < Net Income (low earnings quality)
- [] FCF negative for 3+ years without clear growth investment story
- [] Heavy reliance on asset sales in investing CF
- [] Dividends paid from debt, not earnings

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## Analytical Workflow

1. **Screen** → Use ratio table above to flag outliers
2. **Understand the business** → Revenue model, customers, competitive position
3. **Read financial statements** → See `references/financial-statements.md`
4. **Compute ratios** → See `references/valuation-methods.md`
5. **Value the company** → DCF + comps + sector-specific multiples
6. **Assess macro/industry** → See `references/macro-industry.md`
7. **Form a view** → Bull/base/bear scenario with margin of safety

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## Related Skills

- [Market Intelligence](../market-intelligence.md)
- [Equities Trading](../equities-trading.md)
- [Cross Asset Relationships](../cross-asset-relationships.md)



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