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| Course 202: Analyzing a Company | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
| Second Quality Check: Profitability | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
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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. | ||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||
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| Learn how to invest like a pro with Morningstar’s Investment Workbooks (John Wiley & Sons, 2004, 2005), available at online bookstores. | ||
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