SECURITY ANALYSIS

PART I

CHAPTER I

SURVEY AND APPROACH

Beware of capitalizing hope

Range of Value (nilai stok yang lebih rendah dari intrinsic value meningkatkan presentasi
margin of safety)

Alway find the + average dividen with increasing dividen each year

Intrinsic value vs price

Intrinsic value vs earning power

Always analyse, dont speculate (always try o find biggest safe margin by buying stock that
have lower price than their intrinsic value and find the + cash flow income)
 CHAPTER II

PROBLEM OF ANALYSIS

QUANTITATIVE AND QUALITATIVE FACTOR

Four fundamental element :

1. The security.
2. The price.
3. The time.
4. The person.

1. Principle for the untrained security buyer: Do not put money in a low-grade
enterprise on any terms.
2. Principle for the securities analyst: Nearly every issue might conceivably be
cheap in one price range and dear in another.

Quantitative vs qualitative in analysis

(1) capitalization,
(2) earnings and dividends,
(3) assets and liabilities, and
(4) operating statistics.

Qualitative Factors: Nature of the Business and Its Future Prospects

The Factor of Management.
The Trend of Future Earnings
Trend Essentially a Qualitative Factor.
Qualitative Factors Resist Even Reasonably Accurate Appraisal.
Inherent Stability a Major Qualitative Factor

Summary. To sum up this discussion of qualitative and quantitative factors, we may express
the dictum that the analysts conclusions must always rest upon the figures and upon
established tests and standards. These figures alone are not sufficient; they may be
completely vitiated by qualitative considerations of an opposite import. A security may make
a satisfactory statistical showing, but doubt as to the future or distrust of the management
may properly impel its rejection. Again, the analyst is likely to attach prime importance to the
qualitative element of stability, because its presence means that conclusions based on past
results are not so likely to be upset by unexpected developments. It is also true that he will be
far more confident in his selection of an issue if he can buttress an adequate quantitative
exhibit with unusually favorable qualitative factors.
But whenever the commitment depends to a substantial degree upon these qualitative
factorswhenever, that is, the price is considerably higher than the figures alone would
justifythen the analytical basis of approval is lacking. In the mathematical phrase, a
satisfactory statistical exhibit is a necessary though by no means a sufficient condition for a
favorable decision by the analyst.
 CHAPTER III
SOURCE OF INFORMATION

analyst seeks data regarding:

(1) the terms of the specific issue,
(2) the company, and
a. Reports to Stockholders (Including Interim News Releases).
b. The Income Account. In our opinion an annual income account is not
reasonably complete unless it contains the following items: (1) sales, (2) net
earnings (before the items following), (3) depreciation (and depletion), (4)
interest charges, (5) nonoperating income (in detail), (6) income taxes, (7)
dividends paid, (8) surplus adjustments (in detail).

c.
d. The Balance Sheet.
(3) the industry.
 CHAPTER IV
DISTINCTION BETWEEN INVESTMENT AND SPECULATION

An investment operation is one which, upon thorough analysis, promises safety of principal
and a satisfactory return. Operations not meeting these requirements are speculative. And An
investment operation is one that can be justified on both qualitative and quantitative grounds.

Types of INVESTMENT

Types of SPECULATION
 CHAPTER V
CLASIFICATION OF SECURITIES

1. Sound convertible issues where the conversion level is too remote to enter as a factor in the
purchase. (Similarly for participating or warrant-bearing senior issues.)
2. Guaranteed common stocks of investment grade.
3. Class A or prior-common stocks occupying the status of a high-grade, straight preferred
stock.
 PART II
FIXED-VALUE INVESTMENT
CHAPTER VI
THE SELECTION OF FIXED VALUE INVESTMENT

We have already stated that the fixed-value group includes:

1. High-grade straight bonds and preferred stocks.
2. High-grade privileged issues, where the value of the privilege is too remote to count as a
factor in selection.
3. Common stocks which through guaranty or preferred status occupy the position of a high-
grade senior issue.

I. Safety is measured not by specific lien or other contractual rights, but by the ability of the
issuer to meet all of its obligations.3
II. This ability should be measured under conditions of depression rather than prosperity.
III. Deficient safety cannot be compensated for by an abnormally high coupon rate.
IV. The selection of all bonds for investment should be subject to rules of exclusion and to
specific quantitative tests corresponding to those prescribed by statute to govern investments
of savings banks.

CHAPTER VII
INVESTMENT : SECOND AND THIRD PRINCIPLE

SECOND PRNICIPLE : BONDS SHOULD BE BOUGHT ON A DEPRESSION BASIS

THIRD PRINCIPLE: UNSOUND TO SACRIFICE SAFETY FOR YIELD

CHAPTER VIII
SPECIFIC STANDARDS FOR BOND INVESTMENT

FOURTH PRINCIPLE: DEFINITE STANDARDS OF SAFETY MUST BE APPLIED

CHAPTER XV
TECHNIQUE OF SELECTING PREFERRED STOCK FOR INVESTMENT
 CHAPTER XVI
INCOME BOND AND GUARENTEED SECURITIES
PART III ???
 PART IV
THEORY OF COMMON-STOCK INVESTMENT. THE DIVIDEND FACTOR

Lihat dividend
PART XXVII
THE THEORY OF COMMON STOCK INVESTMENT

Investment in Common Stocks Based on Threefold Concept. We thus see that investment in
common stocks was formerly based upon the threefold concept of: (1) a suitable and
established dividend return, (2) a stable and adequate earnings record, and (3) a satisfactory
backing of tangible assets.

1. The value of a common stock depends on what it can earn in the future.
2. Good common stocks are those which have shown a rising trend of earnings.
3. Good common stocks will prove sound and profitable investments.

1. To buy in times of depression and low prices and to sell out in times of prosperity and high
prices.
2. To diversify holdings in many fields and probably in many countries.
3. To discover and acquire undervalued individual securities as the result of comprehensive
and expert statistical investigations.

Always consider trend earning

PART XXVIII
NEWER CANONS OF COMMON-STOCK INVESTMENT

PART XXIX
THE DIVIDEND FACTOR IN COMMON STOCK ANALYSIS

A NATURAL classification of the elements entering into the valuation of a common stock
would be under the three headings:
1. The dividend rate and record.
2. Income-account factors (earning power).
3. Balance-sheet factors (asset value).

It is considered proper managerial policy to withhold current earnings from stockholders, for
the sake of any of the following advantages:
1. To strengthen the financial (working-capital) position.
2. To increase productive capacity.
3. To eliminate an original overcapitalization.

The dividend rate is the amount of annual dividends paid per share, expressed either in
dollars or as a percentage of a $100 par value. (If the par value is less than $100, it is
inadvisable to refer to the dividend rate as a percentage figure since this may lead to
confusion.)
The earnings rate is the amount of annual earnings per share, expressed either in dollars or as
a percentage of a $100 par value. The dividend ratio, dividend return or dividend yield, is the
ratio of the dividend paid to the market price (e.g., a stock paying $6 annually and
selling at 120 has a dividend ratio of 5%).
The earnings ratio, earnings return or earnings yield, is the ratio of the annual earnings to the
market price (e.g., a stock earning $6 and selling at 50 shows an earnings yield of 12%)

It is to be noted that because Atchison failed to increase its dividend the market price of the
shares failed to reflect adequately the large increase both in earning power and in book value.
The more liberal dividend policy of Union Pacific produced the opposite result.
This anomaly of the stock market is explained in good part by the underlying conflict of the
two prevailing ideas regarding dividends which we have discussed in this chapter. In the
following brief summary of the situation we endeavor to indicate the relation between the
theoretical and the practical aspects of the dividend question.

Summary
1. In some cases the stockholders derive positive benefits from an ultraconservative dividend
policy, i.e., through much larger eventual earnings and dividends. In such instances the
markets judgment proves to be wrong in penalizing the shares because of their small
dividend. The price of these shares should be higher rather than lower on account of the fact
that profits have been added to surplus instead of having been paid out in dividends.
2. Far more frequently, however, the stockholders derive much greater benefits from dividend
payments than from additions to surplus. This happens because either: (a) the reinvested
profits fail to add proportionately to the earning power or (b) they are not true profits at all
but reserves that had to be retained merely to protect the business. In this majority of cases
the markets disposition to emphasize the dividend and to ignore the additions to surplus
turns out to be sound.
3. The confusion of thought arises from the fact that the stockholder votes in accordance with
the first premise and invests on the basis of the second. If the stockholders asserted
themselves intelligently, this paradox would tend to disappear. For in that case the
withholding of a large percentage of the earnings would become an exceptional practice,
subject to close scrutiny by the stockholders and presumably approved by them from a
considered conviction that such retention would be beneficial to the owners of the shares.
Such a ceremonious endorsement of a low dividend rate would probably and properly dispel
the stock markets scepticism on this point and permit the price to reflect the earnings that are
accumulating as well as those which were paid out.

PART V
ANALYSIS OF THE INCOME ACCOUNT. THE EARNINGS FACTOR IN
COMMON-STOCK VALUATION

Keep in mind not to buy stock that at least give 15% rate of return and sell if rate return fall
below 10%
CHAPTER XXXI
ANALYSIS OF THE INCOME ACCOUNT

Wall-Street method of appraising common stocks has been simplified

to the following standard formula:
1. Find out what the stock is earning. (This usually means the earnings per share as shown
in the last report.)
2. Multiply these per-share earnings by some suitable coefficient of quality which will
reflect:
a. The dividend rate and record.
b. The standing of the companyits size, reputation, financial position, and
prospects.
c. The type of business (e.g., a cigarette manufacturer will sell at a higher multiple
of earnings than a cigar company).
d. The temper of the general market. (Bull-market multipliers are larger than those
used in bear markets.)

The foregoing may be summarized in the following formula:

Price = current earnings per share x quality coefficient.
(Quality Coefficient determined by earnings trend)

But from the standpoint of common-stock analysis these audited statements may require
critical interpretation and adjustment, especially with respect to three important elements:
1. Nonrecurrent profits and losses.
2. Operations of subsidiaries or affiliates.
3. Reserves.

General Observations on the Income Account.

Accounting rules permit the management to decide whether to show these operations as part
of the income or to report them as adjustments of surplus. Following are a number of
examples of entries of this type:
1. Profit or loss on sale of fixed assets.
2. Profit or loss on sale of marketable securities.
3. Discount or premium on retirement of capital obligations.
4. Proceeds of life insurance policies.
5. Tax refunds and interest thereon.
6. Gain or loss as result of litigation.
7. Extraordinary write-downs of inventory.
8. Extraordinary write-downs of receivables.
9. Cost of maintaining nonoperating properties.

Profits from Sale of Marketable Securities.

The increase in the earnings per share appeared quite impressive. But a study of the detailed
figures of the parent company alone, as submitted to the Interstate Commerce Commission,
would have revealed that $560,000 of the 1928 income was due to its profits from the sale of
securities.

This happens to be almost exactly equal to the increase in consolidated net earnings over the
previous year. Allowing on the one hand for income tax and other offsets against these
special profits but on the other hand for probable additional profits from the sale of securities
by the manufacturing subsidiary, it seems likely that all or nearly all of the apparent
improvement in earnings for 1928 was due to nonoperating items. Such gains must clearly be
eliminated from any comparison or calculation of earning power.