Our Approach To Technology Stock Analysis

We at amigobulls.com specialize in analyzing technology stocks with a special focus on internet industry. Amigobulls was founded by technologists and finance professionals with vast industry experience dating back to the start of internet era in early 90s.

We strive to pick up companies, which have exhibited sound financial performance and strong technology leadership. Every company is analyzed on various financial parameters using the Income Statements, Balance sheets and Cash Flow statements going back 10 years or more. Not only financial performance but we also look for clear technology leadership. We believe in a portfolio approach where in we pick at least 5 companies that we find investment worthy amongst the 100’s of Internet companies listed on NASDAQ.

Our stock selection approach has been back-tested for 10 years where we found it to beat the NASDAQ composite index ranging from 5-100% over a period of 6 months from the date of recommendation.

You can see the latest picks from this approach and the portfolio’s past performance in our Stock Picks.

Amigobulls Approach to Picking Stocks

Our approach starts with rigorous analysis of all Internet companies’ financial statements going back 10 years. We specifically focus on key parameters like

  • Revenue Growth % – The Internet industry still being a strong growth industry, the stock prices are predominantly driven by the company’s revenue growth. We compare and analyze the company’s revenue growth over the past quarter, past year, 3 years and 5 years.
  • Net Income Margin Growth % – While the top line is important, we look for companies that have exhibited consistent profitability.
  • Operating Margin % – is a very important aspect in the IT/BPO business. In fact, companies give guidance on operating margin apart from revenue and EPS.
  • P/E ratio (Price to Earnings) – This is one of the key parameters used by investors to verify if the stock is fairly priced or not. We look for great companies, which are fairly priced. We avoid companies which have shown spectacular growth but are currently over priced and also not so great companies that are available at a cheaper valuation.
  • P/B ratio (Price to Book Value) – is yet another important metric. Although, we allotted lesser weightage than the P/E ratio considering the fact that book value is not of very high importance to technology driven companies whose assets are mostly in intangibles like patents, software and market leadership.
  • P/S ratio (Price to Sales) – When we observed the trend of Internet industry’s stock price movement, it was majorly tracked by the Price to Sales ratio. Being the growth industry for almost two decades now, investors of internet companies have preferred stellar revenue growth even at the cost of lower or no profitability.
  • EV/Revenue (Enterprise Value to Revenue ratio) and EV/EBITDA (Enterprise Value to Earnings Before Interest, Taxes, Depreciation and Amortization) were allotted lesser weightages as compared to the other three as mentioned above.
  • ROIC % (Return on Invested Capital) – The best measure of a business’ cash return on cash invested. It represents the cash flow derived from all capital invested in the business. It is equal to NOPAT divided by Invested Capital. It can also be calculated by multiplying the NOPAT Margin by Average Invested Capital Turns.
  • ROE % (Return on Equity) – For all computational purpose, the DuPont analysis was used. Higher the return on equity, better is the investor returns.
  • Current Ratio – this helps us understand the current liquidity position of the company. Generally, above 2 is considered to be strong.
  • Increase in EPS (Earnings Per Share) to Increase in Sales – If greater than 1, it is a good sign for any value investor.

As a next step, we assign weightages (based on parameters importance) to each of the above ratios. Based on the parameter’s weights and also the individual company’s scoring for that particular quarter, we compute the total score and then pick about top 25 companies. We analyze these companies in great detail for consistency and technology leadership to come up with our most preferred top-5 Internet companies.

We back-tested the past performance of our top picks for 6 months from the end of each quarter. Why six months? We feel six months is a long enough period for correcting any short term market reactions and long enough to exhibit a clear trend in price movement.

Our approach to evaluate the stock selection

For example our top 5 picks during March ending 2012 were compared with prices of the NASDAQ-Composite index’s return for next (March 2012 to September 2012) and along with the average return from these five companies. We found our top stock picks outperforming the Nasdaq index very consistently.

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Neither Amigobulls, nor any members of its staff hold positions in any of the stocks discussed in this post. The author may not be a certified/registered investment advisor, and the opinions expressed should not be treated as investment advice. Buying and selling of securities carries the risk of monetary losses. Readers/Viewers are advised to carry out their own due diligence and consult their investment advisors before making any investment decisions. Neither Amigobulls, nor the author have any business relationship with any of the companies covered in this post.

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