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Strategies & Market Trends : Technical analysis for shorts & longs -- Ignore unavailable to you. Want to Upgrade?

To: Johnny Canuck who wrote (44975)	9/11/2008 12:37:49 PM
From: Johnny Canuck	Read Replies (1) \| Respond to of 70767

A look at SmallCapReview's return on equity screener. When looking for a company to invest in, what should you look for? One easy-to-calculate tool is return on equity (ROE). ROE looks at the profitability, asset management, and financial leverage of a company. Considering this, ROE helps the investor evaluate the type of return expected, as well as management’s ability to run a company. ROE is calculated by taking a year's worth of earnings and dividing them by the average shareholder's equity for that year. You can find earnings from a company’s SEC filings. There are many methods of coming up with an annual average: (1) Look at the previous annual statement. (2) Use the four most recent quarterly reports. (3) If less than four quarters are available, annualize the available reports. (4) Average a series of annual reports. Try to select the method which best fits the company you are looking at. Is it a new company or has it been around for many years? Has its business model significantly changed recently? Is it a seasonal business? All of these should be taken into account when determining the annual earnings. Shareholders’ equity can be found on the balance sheet and is simply the difference between the total assets and total liabilities. This represents the assets that have actually been generated by the business. A high shareholders’ equity usually represents a sound investment, where investors could see a substantial payback. For example, if there is an ROE of 25% then 25 cents of assets are generated for each dollar invested. The ROE allows you to quickly determine if a company will generate assets or just continue to seek investment dollars to maintain operations. Let's take a closer look at the calculation of ROE and see how it incorporates the profitability, asset management, and financial leverage of a company. (1) Profitability can be determined by dividing one year’s earnings by one year’s sales. Profit margin is the amount remaining after paying all of the costs of running the business. Management that increases profit margins is controlling costs either by squeezing efficiencies out of the business or cutting out unprofitable ventures. Although management can cut costs too far – bleeding out necessary research and development spending, for instance – for the purposes of analyzing the ROE generated by a business, a higher profit margin means a higher ROE. (2) Asset management can be determined by dividing one year’s sales by assets. Asset management is probably one of the factors individual investors have the most difficulty using to evaluate a company. Certainly you can compare various asset management ratios for companies within an industry. How can you tell if so much in sales per dollar of total assets is good or not so good for a given company on more than just a relative basis? Looking at asset management in the context of the total ROE allows the investor to balance a company's asset management ability with its profit margins and the financial leverage employed in order to discern whether the actual business is great or simply mediocre. (3) Financial leverage can be determined by dividing assets by shareholders’ equity. A lot of people want you to believe that financial leverage (debt) is no good. Most of those people apparently buy everything with cash. For the rest of the world, debt is much like anything else – okay in moderation, but overdoing it is not a good idea. As anyone who has ever had a high credit card balance can attest, debt tends to feed on itself, growing to enormous proportions with very little food and watering. When a company takes on debt, it increases the total amount of capital it has at its disposal to finance whatever it is it wanted to finance in the first place. Unlike equity, debt carries a direct cost called "interest" that eats away at a business' profitability. Sure, if you take on $500 million in debt you can suddenly produce 1,200 more widgets a day. However, your profit margins on the extra widgets plummet to 5% from 10% because the interest on the debt costs you 5%, meaning that the additional gain becomes incremental. If you multiply the formulas for profitability, asset management, and financial leverage you are left with: One year's earnings divided by shareholders’ equity, which is return on equity. These three factors are what managing a company is all about. Those who successfully juggle these realize a high ROE, distributing earnings to investors. There are numerous other factors that should be considered before making an investment but since today we are talking about ROE and since we also specialize in the small-cap arena, here are four small-cap companies that currently have an attractive ROE. Knoll Inc. (NYSE: KNL, Stock Forum) has an ROE of 122%. The company operates as a designer and manufacturer of branded office furniture products, textiles, and fine leathers. Tempur-Pedic Inc. (NYSE: TPX, Stock Forum) has an ROE of 83%. The company manufactures and distributes mattresses and pillows. Darling International Inc. (NYSE: DAR, Stock Forum) has an ROE of 34%. It is the largest publicly traded, food processing, by-products recycling company in the United States. Blackbaud (NASDAQ: BLKB, Stock Forum) has an ROE of 37%. It is the leading global provider of software and services designed specifically for non-profit organizations, enabling it to improve operational efficiency, build strong relationships, and raise more money to support its missions.