Tuesday, December 18, 2007

Fundamental Analysis -Topic 1 Graham Rao Method

Accordng to Graham-Rao stock-selection criteria, the company must have an adequate size (Rs 100 crore sales may be taken as adequate size for Indian companies) and a strong financial condition.

To satisfy this criterion, the current assets should be at least twice that of current liabilities and the total debt-equity ratio should not be greater than 1:1.

The company should have paid dividends and earned profits for the last 10 years (Graham's original prescription was 20 years of dividends).

There should be a growth in earnings per share of 10 per cent per annum over the last seven years (Equal to the growth innominal GDP of the country).

The current price should not exceed 20 times the average EPS in the last seven years for companies with past seven-year growth higher than 20 per cent. For companies with past growth rates between 10 and 20 percent per annum, the multiplier has to be the growth rate itself.

The current price should also not be more than 1.5 times the book value last reported.

These prescriptions require 10-year data to pick stocks. But the method is unambiguous and uses a limited number of ratios.

Investors may complain about the 10-year data requirement; but they have to keep in mind that their hard-earned money has to be protected by committing it to companies with a good past record.

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Articles on the Method


Picking Value Stocks, Article that explains the method
http://docs.google.com/Doc?id=dg3h8m78_3hq8pkpc6

The merit of value investing, Article that shows that valuation criteria identify winners.
http://docs.google.com/Doc?id=dg3h8m78_5gkvsszdf

In Search of Value, is an article that describes application of the full method to Indian Stocks in 2007
http://docs.google.com/Doc?id=dg3h8m78_6hgbrxpd2

1 comment:

Mahendra Naik said...

Hi Mr.Rao,

Nice to see a modification of Ben Graham's theory. Only flaw with this is that it does'nt work in practice. When I started out with investing based on Graham' Intelligent Investor, I picked out many stocks following the principles. However they are still languishing. A better philosophy is that expounded by Phil Fisher or Peter Lynch where due weightage is given to future prospects and the scuttlebutt approach to find potential multibaggers. I have discussed some of these ideas on my blogINVESTMENT IDEAS. I request you to visit my blog and let me know your comments. I would appreciate having a discussion with you on various aspects of investment. I am particularly interested in your views on technical analysis.