Course 202: Analyzing a Company
Second Quality Check: Profitability
In this course
1 Introduction
2 First Quality Check: Growth
3 Second Quality Check: Profitability
4 Third Quality Check: Financial Health
5 Fourth Quality Check: Valuation
6 Put Them through the Wringer

More important than rapid growth is high profitability--and that doesn't just mean positive net profits. Rather, it's the return on capital a company generates that matters over the long run. For every $1 invested in a company, how much does the company earn? That is the key question. A company that earns only $0.05 on each dollar invested year after year is a pathetic company; after all, better returns are available in money-market funds--with less risk. The figure to emphasize in assessing a firm's true profitability is return on equity, or ROE. This is the percentage a company earns on the money shareholders have invested in it. Microsoft MSFT, for example, earns more than $0.25 on each $1 of shareholders' equity, and it does so just about every year. That's an excellent return. But most companies have a bad year now and then, so it's a good idea to focus on average ROEs over several years rather than just the most recent ROE.

Next: Third Quality Check: Financial Health >>

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