Prospective financial analysis

Obviously, equity analysis has to take into account the company's profit prospects.

The historical evolution of the business does not tell all in that respect, as things
can change
, sometimes drastically.

So what are the possible changes?

To foresee them is tricky. Here are a few research paths to help meet that challenge.

   Many factors may change
      a firm's prospects upside-down

From time to time, a big novelty in people tastes, or in technologies, or in geopolitics,
creates deep changes in a given field of activity.

OK, everybody knows that, where is the surprise?

Well, what is surprising is that threatened firms in the old industry,
even the best ones, often neglect to exploit it
.

pi-arrig.gif This leaves an open playing ground for others.

Those unnoticed invaders take advantage of the siesta of the king.

They are either iconoclast pioneers, or players who just work in a parallel industry.

Composite materials, ignored by steelwork firms, became the realm of
chemical firms.

Why those ex-champions' myopia?
Why are they prisoners of their own "roots" and unable to adapt
to changes?

* It can be a simple lack of information, of attention, of curiosity, an "indifference"
    cocktail that makes underreact to "weak signals".

    It is true that the new realities seem like minor blips on the radar screen, are
    not directly visible as rather underground, and that the attackers are just
    annoying mosquitoes that don't seem worthy of interest.

* There are objective hurdles: those old stars are prisoners of their know-how, 
    not fully depreciated equipments and other sunk costs.They might privilege short
    term results to long term ones,

Also, and maybe above all, here is a small reminder of behavioral finance, 
     they are held up by mental commitments and anchoring.

- They are enclosed in habits and traditional schemata

- They hide their denial of reality / cognitive dissonance behind rationalizations
    (biased reasoning).

- They help them pretend that they still have a bright future just by keeping
   doing, with marginal changes, what they were good at.

  A table that should appear in any financial analysis (*)

just before the valuation sheet, itself based on future scenarios.

(*) See Analysis presentation page.

Also a "SWOT analysis" (Strengths, Weaknesses, Opportunities, Threats)
covering the areas below could help build the table

Which evolutions in pi-arrig.gif
May have a decisive
impact on

Technology

Society

Economy

Geo-
politics

Others

1) Sales

         

2) Production

         

3) Prices

         

4) Costs

         

List of new (or existing) factors

that will have the most impact

In a few months

In a few years

On the geographical zones of activity

   

On the industrial sector

   

On the firm

   

This takes into account that the prevailing wind pushing forward or backward may
change several times
:
in very unstable industries, a mutation may happen the next
months, then another one,or several
others, in the next years.

Example:

Let us take an aluminum producer, a firm very sensitive to the "business cycle".

To add hot pepper to the game, let us suppose it has sizeable debts.

In the short term, if we have a period of economic recovery, its sales, its
prices,its profits, could enjoy the leverage and soar dramatically (sometimes
to reach a top later, after believing that we had here a growth stock, the
marketis so mischievous!)

But, in the medium tern, a decisive factor could menace it, for example
(aside an economic climate pullback) a rise in electricity costs bigger than
for its competitors located in countries where the juice is pouring.

And, in the long term, what about the benefits of a possible conversion
of the car industry to aluminum? Or on the contrary, a competition from
titaniumor composites?

In the stock market, we can thus, paradoxically:

For example, the next year economic climate would briefly slow down its
brilliant
record ahead of the class, and affect its stock price if it went above
the limits of reason.

  That can lead to make two valuation sheets
     (or several scenarios):

The first sheet,

to use without waiting, like extra-
fresh
eggs,
will be made in accordance
with what
the market may anticipate
in the
near future.

The second sheet,

that looks further ahead, is put in the
fridge to use it later,
just before the
market notices the mistake itmade on
the short term.

This is insulting market efficiency and value analysis,

It is political and opportunistic, it is underhand, sly and vicious...

…But also common sense (see rational mimetic expectations)

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 This page last update: 11/06/14
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