Aug 17 · 4 min read ·
TL;DR — Gradement helps the investor by systematizing the fundamental analysis of public companies. We reduce all the complexities of accounting, and all the information noise that today floods investors, to a series of normalized and easy to use scores covering 24 important aspects of every company financials.
* Courtyard of one of the first Stock Exchanges. Amsterdam, circa 1670.
Investing is not an easy task. Don't believe anyone who tells you that with a couple of courses and books you get to know everything you need to know to start investing. Investment is a complex discipline that still lacks a sound theoretical framework. Gradement helps you in this difficult task of investing by systematizing the fundamental analysis of companies.
There are three fundamental aspects of investing to be analyzed for each company: its profitability, solvency and price. Gradement automates the calculation of these three important variables using what we consider to be the best and state-of-the-art accounting analysis techniques available. All within the frameworks of Value-Investing (mainly for calculating the price fairness score) and the Austrian School of Economics (for calculating the proxy for the natural rate of interest).
Example of the use of the scores
Despite all the complexity involved in the calculation of these scores, their use is extremely simple. All the resulting values have been normalized between 0 and 100.
For example, suppose a company with the following score values in these categories:
- Profitability score = 80
- Solvency score = 90
- Price fairness score = 20
This is a recurring pattern: very profitable and very solvent companies usually are very expensive. Everyone wants to have profitable and solvent companies in their portfolio, which increases their demand on the stock market and increases their market capitalization.
The best companies to invest in will be those that offer high score values in all these three categories. In bull markets you will find fewer of these companies to invest. In bear markets it will be easier to find them. Gradement offers you a screener tool to search for such companies.
The overall grade value
In order to facilitate the analysis, we calculate an overall grade that unifies, in a single number, the value of these three fundamental scores of profitability, solvency and price. The value of this grade has been calculated to be extremely conservative. It will only be investment grade (value greater than 80, or an "A" grade) if all the other scores of each of the other categories are above a certain threshold.
This way you can be sure that, by limiting your investment to high-value grade stocks, you will be investing in great companies from a quantitative point of view.
The risk of insolvency is perhaps the factor that most drastically, and suddenly, affects the quoted stock price. You can minimize the probability of investing in companies with insolvency risk by using our solvency score.
Using this score you can avoid investments in companies like Eastman Kodak, that filed for bankruptcy in 2012, or General Motors, that filed for chapter 11 in 2009. Since 2009 for Kodak and 2008 for General Motors, our solvency score for both companies indicated a value of zero. Long before it became public and evident their insolvency.
The other scores
In addition to the scores and overall grade described above, Gradement calculates twenty-one additional scores per company. These are modified versions of already existing state-of-the-art accounting analysis techniques in different categories, including:
- The Industry barriers score are based on the Bruce Greenwald approach described in Competition Demystified.
- The Solvency scores (static and dynamic) are based in the investigations about solvency of Vicente García Martín and other professors at Malaga University. They have developed one of the most comprehensive solvency analysis framework.
- Valuation scores (the Price fairness scores) are based on the time tested value investing framework. They compare the share price with the balance sheet, the free earnings and the free cash flow.
- The Geographic score calculations are based on the "Economic Freedom Index" published by The Heritage Foundation.
- ... (in the Guides menu you will find a brief information on the use and calculation of each score) ...
To manually compute all these scores for a single company requires time. Gradement automatizes this process for you.
Investor-oriented financial statements
According to GAAP/IFRS accounting standards, the financial statements must present a true and fair view of the company. These financial statements are aimed at a heterogeneous public: future investors, partners, administrators, regulators, clients, suppliers, among others.
Using this GAAP/IFRS statements as a starting point, Gradement generates four new types of financial statements specially oriented to make investment decisions. These non-standard financial statements are:
- Free cash flow statement (FCF Statement): A non standard (non GAAP/IFRS) statement that analyze the free cash available to the firm and equity.
- Balance sheet: Adjusted balance sheet with customized accounts specially designed for solvency analysis.
- Income statement: Customized and standardized accounts that clearly separate the three sources of profits for every company:
- profits arising from its ordinary and regular activities - primary ordinary result
- profits from secondary and non regular activities - secondary ordinary result
- and the unusual profits - extraordinary result
- Indirect cash flow: Standard analysis of cash movements throughout the accounting period.
The free cash flow statement
Current accounting standards allow the definition of certain accounting parameters (amortization periods, provisions, cost calculations,... ) that make the net profit figure as shown in the income statement depend on certain decisions of the company directors, which opens the possibility, in exceptional cases, to accounting manipulations.
The cash flow figure is not subject to so much arbitrariness, so the free cash flow statement is a much more powerful and reliable tool for analyzing the company's earning power than the profit and loss statement.
The Guides menu provide further information on all the scores and financial statements offered by Gradement to help you with the quantitative part of your investment decision making.
Hope you like it and happy investing...