80 SMe Mining engineering handbook
potential investor but, in fact, collectively shapes and informs
corporate management decision-making processes and, by
identifying winners and losers, makes the capital markets
more efficient.
Second, investment analysis is both empirical and a black
art. Understanding and modeling financial statements are
important elements for success, but the ability to see through
management and interpret macroecomomic and political
trends can be even more important in the art of investing.
Understanding how mining share prices have moved can
be fairly obvious after the event, so the trick for any investor
is to sift through the myriad of daily data and decide what
is significant and important and will have a lasting effect on
the company’s value. Distinguishing early enough what is
important from what is not generates the differentiated invest-
ment returns and by association defines the great investment
analyst.
ACknoWleDgMenTS
Special thanks are due to Liberum Capital for providing most
of the figures and tables in this chapter.
gloSSARy of finAnCiAl TeRMS
• Balance sheet: One of the main components of a com-
pany’s report and accounts, which provides a snapshot
of everything the company owes and owns at the end of
the financial year in question. On a specific date, the bal-
ance sheet lists tangible assets, intangible assets, stock,
debtors, cash, bank creditors, trade creditors, share capi-
tal, and reserves. The profit-and-loss account reveals how
the company has performed in the previous year, while
the balance sheet is more revealing about its fundamental
health, indicating whether it can pay its debts and how
good its cash management is. A strong balance sheet is
where liabilities (including borrowings) are considerably
outweighed by assets (including cash). If a company is
having problems, the balance sheet (together with the
cash-flow statement) will reveal whether it can stand the
strain.
• Cash flow: The amount of money that flows in and out
of a business, the difference between the two being the
important number. If more money flows into a business
than out, it is cash positive. If more money flows out than
in, it is cash negative. Cash flow is regarded by many
as the ultimate test of financial health. Seasoned analysts
do not entirely trust the stated net-profits-after-tax figure,
because profits can be massaged, whereas cash is more
difficult to manipulate. Profit, as they say, is a matter of
opinion. Cash is a matter of fact. The best way to check
the cash-flow position of a company is to scrutinize the
cash-flow statement in its annual report and accounts. It
provides facts on whether a company has generated or
consumed cash in the year and how. It can be used in con-
junction with the profit-and-loss statement to assess the
trading results or with the balance sheet to assess liquid-
ity, solvency, and financial flexibility.
• Dividend yield: The annual dividend income per share
received from a company divided by its current share
price. This is simply how much income a shareholder is
getting out of the company for the capital locked up in it.
Dividend yields are calculated on the net dividend paid
over the course of a year divided by the stock’s price.
For example, if a company declares a net dividend of 2.1
pence (p) per share and has a share price of 150p, the divi-
dend yield is 2.1/150 = 1.4%. The higher the share price,
the lower the dividend yield.
• EBITDA (earnings before interest, taxes, depreciation,
and amortization): A commonly used way of measuring
the profitability of a company and an approximation for
pretax operating cash flows.
• Enterprise value (EV): A measure of the worth of a
company’s ongoing operations. This is typically the
market capitalization of the company plus any debt and
minorities to fund it.
• EV/EBITDA: A valuation multiple that is an alternative
valuation metric to the price/earnings ratio. This method-
ology is useful for comparing companies that have very
different capital structures (e.g., companies that may have
lots of debt versus those that don’t).
• Market capitalization (market cap): The market value
of a quoted company, calculated by multiplying its share
price as quoted on an exchange by the number of shares
in issue.
• Price/earnings (P/E) ratio: P/E is the current share price
of a company divided by its earnings per share. A com-
pany with a share price of 100p and earnings per share
of 5p has a P/E ratio of 100/5 = 20. A company’s P/E
(also known as its multiple) shows how high its shares
are priced in relation to its historical earnings. Although
mathematically it relates share price to past performance,
the reality is that P/Es are more about forward expecta-
tions than past. A high P/E indicates that the investment
community expects the company’s earnings to grow fast
in the future.
• Profit-and-loss (P&L) statement: A set of accounts,
usually prepared annually, that depict a company’s trad-
ing performance and are normally read in conjunction
with the balance sheet and cash-flow data. The P&L
account can broadly be shown as follows:
– Turnover (sales) less manufacturing costs (or cost of
sales if, for example, a retailing company) = gross
profit or loss
– Gross profit plus any nontrading income less operating
costs = operating minus profit
– Operating profit less interest payments on bank loans
or loan stock = profit before tax (pretax profit)
– Pretax profit less tax = net profit after tax
Part of the net profit after tax may be used to pay a dividend,
with the balance being retained within the business for future
investment.
RefeRenCeS
Malkiel, B. 1973. A Random Walk Down Wall Street. New
York: W.W. Norton.
Rio Tinto. 2009. Presentation to analysts 2009. www.riotinto
.com. Accessed December 2009.
Templeton, J. 1997. Golden Nuggets from Sir John Templeton.
West Conshohocken, PA: Templeton Press.