L1 - JN - Equity 2024 V1

2024
Equity
V1
Note: Juice notes are updated monthly; download the latest version at www.ﬁntreeindia.com
FinTree © 2024 FinTree Education Private Ltd
FinTree
Equity
LM Name of Reading P.g.
1 Market Organization & Structure 1
2 Security Market Indexes 8
3 Market Efficiency 11
4 Overview of Equity Securities 13
5 Company Analysis: Past and Present 17
6 Industry and Competitive Analysis 22
7 Company Analysis: Forecasting 26
8 Equity Valuation: Concepts and Basic Tools 29
Market Organization and Structure

FinTree Fruit 1 : The Functions of the Financial System
FinTree Fruit 2 : Classifications

FinTree
of Assets and Markets
1
FinTree Fruit 3 : Major types of assets
FinTree
2
FinTree
FinTree Fruit 4 : Financial Intermediaries
3
FinTree Fruit 5 : Positions and Short Positions
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FinTree Fruit 6 : Leveraged Positions
FinTree Fruit 7 : Execution, Validity, Clearing Instructions
4
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FinTree Fruit 8 : Primary & Secondary Market
5
FinTree
FinTree Fruit 9 : Quote, Order & Brokered Markets
6
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FinTree Fruit 10 : Well-functioning Financial Systems
FinTree Fruit 11 : Market Regulation
7
Security Market Indexes

FinTree Fruit 1 : Index Definition
FinTree Fruit 2 : Price FinTree

and Total Return
FinTree Fruit 3 : Choices and Issues
FinTree Fruit 4 : Index Construction
8
FinTree Fruit 5 : Index Weighting - Price and Total Return
FinTree
FinTree Fruit 6 : Index Management: Rebalancing and Reconstitution
FinTree Fruit 7 : Uses of Market Indexes
9
FinTree Fruit 8 : Equity indexes
FinTree
FinTree Fruit 9 : Fixed-income indexes
FinTree Fruit 10 : Indexes for Alternative Investments
FinTree Fruit 11 : Types of security market indices
10
Market Efficiency
FinTree Fruit 1 : The Concept of Market Efficiency
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FinTree Fruit 2 : Market Value versus Intrinsic Value
FinTree Fruit 3 : Factors Affecting Market Efficiency Including Trading Costs
FinTree Fruit 4 : Forms of Market Efficiency
11
FinTree Fruit 5 : Market & Other Pricing Anomalies
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FinTree Fruit 6 : Behavioral Finance
12
Overview of Equity Securities

FinTree Fruit 1 : Characteristics of Equity Securities
FinTree
13
FinTree Fruit 2 : Ownership Characteristics among different equity classes
FinTree Fruit 3 : Private Versus

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Public Equity Securities
FinTree Fruit 4 : Non-Domestic Equity Securities
14
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FinTree Fruit 5 : Risk and Return Characteristics
FinTree Fruit 6 : Role
FinTree Fruit 7 : Equity and Company Value
15
FinTree Fruit 8 : Accounting of ROE and Cost of Equity
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16
Company Analysis: Past and Present

FinTree Fruit 1 : Company and Industry Analysis Framework
FinTree 3.
Forecasting
2.
Industry and
Competitive
Analysis
1.
Past and Present
Company Analysis
FinTree Fruit 2 : Key elements of the Initial Company Research Report

Section Content
Front Matter - Issuer name, symbols, analyst recommendation, target prices

Recommendation - Analysts’ recommendation, key supporting reasons
Company Description - Business model, strategy, charts (e.g., revenue breakdown)
Industry & Positioning - Industry size, growth, key drivers, market share trends
- Competitive analysis (Porter’s Five Forces), PESTLE analysis
- Evaluation of company’s industry position and strategy
Financial Analysis - Key drivers evaluation, forecasts, historical and future statements
Valuation - Company and security value estimates, target price
- Relative and present value approaches, sensitivity analyses
ESG Considerations - Evaluation of ESG indicators, ownership structure, compensation
Risks - Assessment of material risks, impact on financial analysis
FinTree Fruit 3 : Determining the Business Model
Determining Business
Components Models Information Sources
- Products/Services - Common Models - Issuer

- Customers - Analyst Focus - Public
- Sales Channels - Proprietary (Third-party)
- Pricing - Proprietary
- Resources (Primary Research)
17
FinTree Fruit 4 : Revenue Analysis
FinTree
Pricing Power and Revenue Drivers:
ƒ Importance: Prices impact revenue; pricing power crucial for setting prices without sales impact.
ƒ Market Types:
• Competitive: Price-takers, returns align with cost of capital.
• Less Competitive: Power from differentiation, barriers, common in branded goods.
ƒ Evaluation: Analysts compare prices; rising profitability signals pricing power.
ƒ Substitutes: Lack of pricing power leads to substitutes, easy customer switching.
ƒ Profitability: Rising profitability signals sustained pricing power and investor value.
ƒ Signs of Power:
• Ability to increase prices despite cost rise.
• Long-term profitability growth.
• Competitors, substitutes don't drive prices down faster than costs.
FinTree Fruit 5 : Top-Down Revenue Analysis
Step 1: Market Identification
Step 2: Segmentation and Substitutes
Step 3: Calculate Market Share
Step 4: Trend Analysis
Step 5: Compare Competitors
Step 6: Insight Generation
Step 7: Strategic Considerations
Step 8: Anomaly Investigation
Step 9: Valuation Integration
18
FinTree Fruit 6 : Operating Profitability and Working Capital Analysis
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• Nature of Costs: Costs related to goods/services, business management, compliance.
• Investing Costs: Linked to long-term assets (tangible/intangible).
• Financing Costs: Include returns to debt and equity investors.
• Cost Significance: Operating costs dominate, shaped by business model and size.
• Cost Categorization: Classified by behavior, nature, or function.
FinTree Fruit 7 : Behavior with Output: Fixed and Variable Costs
Pricing Power and Revenue Drivers:
ƒ Profitability Factors:
• Proportion of fixed to variable costs affects operating profit stability.
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ƒ Components Defined:
• Q: Units of outputs sold., P: Price per unit., VC: Variable operating costs per unit., FC: Fixed
operating costs.
ƒ Profit Equation:
• Contribution margin (P - VC) must be positive for profit.
• Q must exceed FC for profitability.
ƒ Operating Leverage:
• High fixed costs with positive contribution margin yield rapid profit growth.
• Operating profit falls with declining Q due to fixed costs.
ƒ Degree of Operating Leverage (DOL):

• Measures impact of sales change on operating profit change.
• '2/ ǻ2SHUDWLQJ3URILW ǻ6DOHV
ƒ Adjusting Leverage: Firms increase DOL by raising fixed costs and reducing variable costs
FinTree Fruit 8 : Natural and Functional Operating Cost Classifications and Measures of Operating Profitability
Cost Classification - Operating costs: natural or functional based on historical, industry, and entity-specific factors.
Profitability Measures - Gross Profit, EBITDA, and EBIT capture different functional costs.
Variable and Fixed Costs - Cost of sales mainly variable; other expenses (sales, admin, R&D) tend to be fixed.
- Depreciation may be fixed or variable.
- Financial notes offer insights; empirical analysis validates claims (e.g., assessing economies of
Empirical Analysis scale).
Long-Term Cost Drivers - Output growth impacts long-term costs: assets, human capital, and purchased goods.
Cost-to-Revenue Ratio - Expressing operating costs as a percentage aids in industry profitability analysis.
Industry Profitability - Competitive forces and market structure influence industry profitability.
- Lower unit costs with output growth (spreading fixed costs) or more products (leveraging shared
Economies of Scale and Scope costs).
19
FinTree Fruit 9 : Working Capital
FinTree
Working Capital Management: Involves activity ratios - cash conversion cycle and net working capital to
sales ratio.
• Cash Conversion Cycle: Short cycle means less external financing, covering inventory, sales, and payables
time frames.
• Net Working Capital to Sales Ratio: Measures necessary capital relative to sales revenue.
• Minimum Investment: Net working capital is vital for operations, separate from capital investments.
• Negative Net Working Capital: Indicates suppliers fund operations, potentially advantageous.
FinTree Fruit 10 : Sources and Uses of Capital
Sources of Capital Uses of Capital
Cash and investments on hand

working capital (if negative)
Debt issuance Net working capital (if positive)
Equity issuance Capital expenditures and additions to
intangibles
Asset disposals Acquisitions
Debt paydown
Dividends and share repurchases
FinTree Fruit 11 : Degree of financial leverage
20
FinTree
21
Industry and Competitive Analysis

FinTree Fruit 1 : Uses of Industry Analysis
FinTree
FinTree Fruit 2 : Industry Classification
22
FinTree Fruit 3 : GICS, ICB, and TRBC Structures
FinTree
GICS by S&P DJI and MSCI ICB by FTSE Russell TRBC by Refinitiv
11 Sectors 11 Industries 14 Economic Sectors
25 Industry Groups 20 Supersectors 33 Business Sectors
74 Industries 45 Sectors 62 Industry Groups
163 Sub-Industries 173 Subsectors 154 Industries
898 Activities
FinTree Fruit 4 : Limitations of Third-Party Industry Classification Schemes
1. Groupings of companies with business model variations or that sell substitute products
2. The classification of multi-product companies
3. Geographical considerations
4. Changes in groupings over time that affect prior-period comparability of industry statistics
FinTree Fruit 5 : Alternative Methods of Grouping Companies
23
FinTree Fruit 6 : Industry Survey
FinTree
Industry Survey Steps:
• Estimate Size and Growth: Measure industry size using total annual sales from product/customer
perspective.
• Calculate Growth Rate: Calculate YoY growth or compounded annual growth rate.
• Consider Volume and Price/Mix: Break down growth contributions from volume and price/mix drivers.
Handling Private Companies:

• Industry size may include private companies; estimate using economic indicators, surveys, issuer data.
• Corroborate estimates for reasonableness.
Characterizing Industry Growth:

• Style Box Approach: Characterize growth using a style box (Exhibit 5).
• Compare to Broader Economic Growth: Compare historical industry growth with overall economic
growth during recessions and expansions.
Industry Concentration:
• Measure with Herfindahl-Hirschman Index (HHI).
• High HHI = less competition, potential regulatory challenges.
FinTree Fruit 7 : Porter’s Five Forces
24
FinTree Fruit 8 : External Influences on Industry Growth
FinTree
Political Economic
Fiscal policies, regulatory GDP, inflation, interest
changes, geopolitical rates, exchange rates.
conditions.
Environmental Social
Transition to a lower-carbon PESTLE Cultural trends, demographics,
economy, waste and land use Framework social media impact,
regulations. Sustainability focus.
Legal Technological
Changes in laws and Sustaining and disruptive
regulations, business innovations, industry
practice influence. impact.
FinTree Fruit 9 : Competitive Positioning
Intentional vs. Unintentional Strategy:

• Intentional: Planned, measured, and aligned company-wide.
• Unintentional: Driven by individual incentives, historical practices, or industry norms.
Effectiveness and Value Added:

• Effective strategy seen in value added and economic profits.
• Evaluation is retrospective.
Forward-Looking Evaluation: Assess against industry forces, PESTLE influences, and resource capabilities.
Industry and Company Specificity: Evaluation is unique to each company and industry.
Three Competitive Strategies:

• Cost Leadership.
• Differentiation.
• Focus.
Avoiding "Stuck in the Middle": Undesirable situation for a company; clarity in strategy is crucial.
25
Company Analysis Forecasting

FinTree Fruit 1 : Forecast Objects, Principles, and Approaches
FinTree
Objects
1. Drivers: Analyze key factors for accurate financial forecasts.
2. Lines: Directly forecast specific financial items.
3. Measures: Efficient but less transparent summary metrics.
4. Ad Hoc: Forecast unreported events affecting securities.
Principles
1. Regular Disclosure: Prefer regularly disclosed objects.
2. Simplicity: Avoid overly complex models; focus on vital drivers.
Approaches
1. Historical Results: Simple use of past values; limited for changes.
2. Base Rates: Use industry averages for stable conditions.
3. Guidance: Rely on reliable management-provided targets.
4. Discretionary: Use various approaches for unique situations.
Horizon
1. Align with strategy, industry cycles, and company changes.
2. Consider acquisitions and employer's preferences.
FinTree Fruit 2 : Forecasting Revenues
Aspect Summary
Top-Down: Compare growth to GDP or forecast product market growth and share.
Forecasting Approaches
Bottom-Up Drivers: Use volumes, prices, product/segment revenues, capacity, or return/yield.
Management-Disclosed: Exclude effects like exchange rates, acquisitions.
Handling Non-Recurring Items
Analyst-Judged: Assess unique events (e.g., COVID-19) and uncertain technological shifts.
Forecast Methods Historical, Base Rates, Guidance, Discretionary: Tailor to business model and risks.
Considerations: Address competition, business cycle changes, inflation/deflation, and tech shifts.
Risk Factors Integration Integration: Include risk views in profitability, working capital, and capital structure forecasts.
Scenario Analysis: Explore outcomes for various risk factor scenarios.
26
FinTree Fruit 3 : Forecasting Operating Expenses and Working Capital
FinTree
Forecasting Operating Expenses
Challenges in Forecasting - Limited issuer disclosures force analysts to use aggregated forecast objects.
- Revenues and costs must align coherently; e.g., if a low-margin segment grows
Coherent Revenue and Cost Forecasts
faster, overall profit margin deterioration should be forecast.
- Forecast COGS as a percentage of sales or gross margin, considering market share
Cost of Sales and Gross Margins
changes and introducing differentiated products.
- Explore detailed cost analysis (by segment, input, or product line) for better
Detailed Analysis of Costs
justification. Fluctuating input costs can impact operating profit significantly.
- Incorporate a company's hedging strategy into forecasts, especially for
Hedging Strategy Consideration
commodity-driven firms. Gradual sales price increases can offset rising costs.
- Use competitors' gross margins as a cross-check, but be mindful of differing
Cross-Checking with Competitors
business models impacting gross margins and operating costs.
Forecasting SG&A Expenses

- SG&A expenses have a less direct relationship with revenues; consider flexibility, as
Direct Relationship with Revenues
seen in the case of Siam Cement Group.
- Model selling and distribution expenses as a percentage of sales; consider a fixed
Variable and Fixed Components in SG&A
growth rate for more fixed general corporate costs.
- For segment models, use summary measures as detailed cost items are often not
Segment-Based Modeling
disclosed by segment.
Forecasting Working Capital

- Utilize efficiency ratios combined with sales and cost forecasts for working capital
Using Efficiency Ratios
projections.
- While historical results are common, choose forecast approaches based on specific
Historical Results Approach
company characteristics and needs.
FinTree Fruit 4 : Forecasting Capital Investments and Capital Structure
Capital Expenditure Capital Structure

Forecasting Forecasting
Types:Maintenance CapEx sustains the Leverage Ratios: Debt to Capital, Debt to

business, Growth CapEx expands it. Equity, Debt to EBITDA are common.
Maintenance CapEx: Based on historical Considerations: Historical practices, man-

depreciation, adjusted for inflation. agement's strategy, guidance on target struc-
ture, and covenants
Growth CapEx: Discretionary, tied to
management's plans and revenue growth. Note: Examples excluded for brevity.
Depreciation Forecast: Based on net PP&E

and intangibles, considering useful life
assumptions
27
FinTree Fruit 5 : Scenario Analysis
FinTree
Scenario Analysis in Forecasting
1. Identify Risks: Recognize critical risk factors.
2. Assess Likelihood: Judge probability of outcomes.
3. Generate Scenarios: Develop varied forecasts.
4. Compare Forecasts: Evaluate against market views.
5. Assess Valuations: Align with market valuations.
6. Decision-Making: Inform investment decisions.
Purpose
1. Risk Mitigation: Anticipate and mitigate impact.
2. Decision Support: Structured decision-making.
3. Investor Perspective: Assess potential outcomes.
28
Equity Valuation: Concepts and Basic Tools

FinTree Fruit 1 : Overvalued, undervalued or fairly valued
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FinTree Fruit 2 : Categories of Equity Valuation Models
FinTree Fruit 3 : Background for the Dividend Discount Model
29
FinTree Fruit 4 : Dividend

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payment chronology
FinTree Fruit 5 : Dividend Discount Model (DDM) and Free-Cash-Flow-to-Equity Model (FCFE)
30
FinTree
FinTree Fruit 6 : Preferred Stock Valuation
FinTree Fruit 7 : The Gordon Growth Model
31
FinTree Fruit 8 : Multistage Dividend Discount Models
FinTree Fruit 9 : Multipler

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Models
FinTree Fruit 10 : Enterprise Value
32
FinTree Fruit 11 : Asset-Based Valuation
FinTree Fruit 12 : Advantages

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and disadvantages
33
CFA® Level I JuiceNotes 2024
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2024

Market Organization and Structure

FinTree Fruit 2 : Classifications

FinTree Fruit 3 : Major types of assets

FinTree Fruit 4 : Financial Intermediaries

FinTree Fruit 5 : Positions and Short Positions

FinTree Fruit 7 : Execution, Validity, Clearing Instructions

FinTree Fruit 8 : Primary & Secondary Market

FinTree Fruit 9 : Quote, Order & Brokered Markets

FinTree Fruit 11 : Market Regulation

Security Market Indexes

FinTree Fruit 2 : Price FinTree

FinTree Fruit 3 : Choices and Issues

FinTree Fruit 4 : Index Construction

FinTree Fruit 5 : Index Weighting - Price and Total Return

FinTree Fruit 6 : Index Management: Rebalancing and Reconstitution

FinTree Fruit 7 : Uses of Market Indexes

FinTree Fruit 8 : Equity indexes

FinTree Fruit 10 : Indexes for Alternative Investments

FinTree Fruit 11 : Types of security market indices

FinTree Fruit 3 : Factors Affecting Market Efficiency Including Trading Costs

FinTree Fruit 4 : Forms of Market Efficiency

FinTree Fruit 5 : Market & Other Pricing Anomalies

FinTree Fruit 6 : Behavioral Finance

Overview of Equity Securities

FinTree Fruit 2 : Ownership Characteristics among different equity classes

FinTree Fruit 3 : Private Versus

FinTree Fruit 4 : Non-Domestic Equity Securities

FinTree Fruit 6 : Role

FinTree Fruit 7 : Equity and Company Value

FinTree Fruit 8 : Accounting of ROE and Cost of Equity

Company Analysis: Past and Present

FinTree Fruit 2 : Key elements of the Initial Company Research Report

Front Matter - Issuer name, symbols, analyst recommendation, target prices

FinTree Fruit 3 : Determining the Business Model

Components Models Information Sources

- Products/Services - Common Models - Issuer

FinTree Fruit 4 : Revenue Analysis

ƒ Evaluation: Analysts compare prices; rising profitability signals pricing power.

ƒ Substitutes: Lack of pricing power leads to substitutes, easy customer switching.

FinTree Fruit 5 : Top-Down Revenue Analysis

Step 1: Market Identification

Step 2: Segmentation and Substitutes

Step 3: Calculate Market Share

Step 4: Trend Analysis

Step 5: Compare Competitors

Step 6: Insight Generation

Step 7: Strategic Considerations

Step 8: Anomaly Investigation

Step 9: Valuation Integration

FinTree Fruit 6 : Operating Profitability and Working Capital Analysis

FinTree Fruit 7 : Behavior with Output: Fixed and Variable Costs

Pricing Power and Revenue Drivers:

ƒ Degree of Operating Leverage (DOL):

FinTree Fruit 9 : Working Capital

FinTree Fruit 10 : Sources and Uses of Capital

Sources of Capital Uses of Capital

Cash and investments on hand

FinTree Fruit 11 : Degree of financial leverage