Should I buy stock in Company X? - Part 4

Saturday, July 12, 2008

In our last post we promised to discuss debt, management effectiveness, and dividends. We also talked about revenues and earnings, but now we must figure out how much debt a company has and when is it due.   Debt is an obligation to pay a lender for money borrowed.  Company debt falls into two categories; short term and long term. Short term debt is debt that must be paid within the next 12 months.  Long term debt is not due until one year or more from now.

Is it important to know how much debt a company has?  Yes, it is important because it can negatively effect a company's profit; short term and long term.  You can use this information to distinguish two companies equal in revenues, expenses, and net income.  If one company has significantly more debt than the other, you may eliminate the higher debt company from your investment consideration.

The effectiveness of management plays a great role in a company's performance.  Management is responsible for controlling expenses, which can alter profitability.  For instance, management of Kid's Toy Store may have all the light bulbs in its stores replaced with more energy efficient ones.  This change could reduced the annual electricity expense.  Management could also decide to use a less expensive toy manufacturer to reduce costs.  These are just two ways management can help to increase the net income.

Another factor to consider when researching a company for investment is discovering if a company pays dividends. What is a dividend?  A dividend is a cash payment to owners (shareholders) of the company based on a per share price.  If I own ten shares of Kid's Toy Store and they decide to pay a dividend of $.50 per share, then I would receive a payment of $5.00.

10 Shares X $.50 Dividend payment = $5.00 Total Dividend

If the company you are considering is a new company, chances are that they will not pay a dividend.  Mature companies like General Electric, McDonald's, and Pfizer all pay dividends.  However, these companies are not considered growth companies.  We will discuss growth in a future post.

Hooray!  You have just completed another step in the learning process.   Give yourself a pat on the back. Learning to invest in the Stock Market can be rewarding.  See you next time.


Terms:
Debt - is obligation to pay a lender for money borrowed.
Short Term Debt - debt that must be paid within the next 12 months.
Long Term Debt - debt that is due in more that a year from now.
Dividend - a payment made by a company to its shareholders.

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