Daily Economics, Business and Finance Study

Day 1 · Reconstructed edition

Today's topic: What Does Stock Investing Really Assess? A Complete Map of Company, Economic and Market Analysis

1. Review of the previous lesson

As this is Day 1, there is no previous lesson to review.

Instead, we will establish the most important starting point for a course spanning approximately 150 or more lessons.

Buying a stock means buying, at today's price, a claim on the economic value a company will create in the future, rather than merely buying a company name or a chart.

Investing therefore comes down to two questions.

① How much cash will this company generate in the future?
② Is today's share price high or low relative to that cash?

The financial statements, interest rates, exchange rates, economics, charts and trading flows covered later are all tools for answering these two questions more accurately.

2. Today's core concepts

You do not need to memorize complex formulas when first examining a company.

Start by remembering these 7 questions.

One more question will be added later.

How much does the market already recognize that this is a good company?

This is why company analysis alone cannot explain share prices and investing.

3. Concepts explained

3-1. First, distinguish a good company from a good stock

Even an excellent company may be a poor investment if its stock is too expensive.

Conversely, an ordinary company may offer a good investment opportunity if excessively low market expectations leave it trading very cheaply.

Consider two companies.

Company A

• Growth rate: 30%
• High operating margin
• Almost no debt
• Strong competitive advantage

This is an excellent company.

But if the market has already assigned an extremely high price on expectations of 30% growth for the next 10 years, its stock may fall even if actual growth reaches 20%.

Company B

• Growth rate: 5%
• Average margins
• Stable cash flow

Its business quality may be lower than A's.

But if the market expected the business to collapse and it instead sustains 5% growth, its stock may rise.

The key investment question therefore goes beyond simply asking:

Is it a good company?

Instead, ask:

Will it outperform market expectations? And is its price low enough relative to that difference?

.

3-2. A share price ultimately prices future cash flows

Companies exist for many reasons, but from a shareholder's economic perspective, a company is ultimately a cash-generating asset.

Over the long term, the cash a company earns is used for the following purposes.

• Investment in new businesses
• Investment in factories, servers and equipment
• Acquisitions of other companies
• Debt repayment
• Dividends
• Share repurchases
• Holding cash

Generally, the more cash a company can generate in the future, the greater its economic value.

Conceptually:

\[\text{Enterprise value}\approx\text{Present value of future cash generation}\]

.

The important point is future cash, rather than current net income.

3-3. Why is 100 won in the future worth less than 100 won today?

If you receive 100 won today, you can spend or invest it immediately.

But if you receive 100 won in 10 years:

• You cannot use it during those 10 years.
• Prices may rise.
• The company may never actually earn that money.
• You give up other investment opportunities.

We therefore discount future money when converting it into present value.

For example, if you can receive 110 won in 1 year and your required return is 10%:

\[\text{Present value}=110\div1.10=100\]

.

This principle later connects interest rates → WACC → DCF → share prices.

3-4. Company analysis ultimately tracks how revenue becomes cash

When first studying a company, keep this sequence in mind.

Customers → Revenue → Operating income → Net income → Operating cash flow → FCF

Money can leak out at each stage.

High revenue but no operating income

There may be a problem with the cost structure.

High operating income but no net income

Interest expense or non-operating losses may be large.

High net income but no OCF

Receivables or inventories may be increasing.

High OCF but no FCF

CapEx may be excessively high.

An important question in company analysis is therefore:

How much cash ultimately remains from every 100 won of revenue?

.

3-5. Growth is not free

Companies usually need money to grow.

For example, to increase revenue, a semiconductor company needs:

• Factory construction
• Production equipment, including EUV systems
• Inventories
• Research and development
• Employees

— all of which require capital.

Companies with the same 20% revenue growth can therefore be very different.

Company A

An additional investment of 100 → Profit increases by 30 (units: KRW 100 million)

Company B

An additional investment of 500 → Profit increases by 30 (units: KRW 100 million)

For the same profit increase, A uses capital much more efficiently.

We will later measure this using ROIC.

The intuition is simple.

How much did the invested money earn?

3-6. Good growth matters more than growth alone

Growth that increases enterprise value generally satisfies the following condition.

ROIC > Cost of capital

In simple terms:

The return earned by investing capital must exceed the cost of borrowing and using shareholders' money.

For example:

• Cost of capital: 8%
• Return on business investment: 20%

In this case, each additional investment of 100 (KRW 100 million units) is likely to increase value.

Conversely:

• Cost of capital: 10%
• Return on business investment: 5%

In this case, economic value can be destroyed even as revenue and the company grow larger.

Therefore:

Growth = Always good

— this is not necessarily true.

More precisely:

Growth that allows reinvestment at high returns

is the best kind of growth.

3-7. Financial statements provide a map for answering these questions

For now, remember just these roles of the three financial statements covered later.

Income statement

How much did the company sell, and how much did it earn?

Revenue → Operating income → Net income

Balance sheet

What does the company own and owe today?

Assets = Liabilities + Equity

Cash flow statement

Where did cash actually come from, and where did it go?

Operating activities + Investing activities + Financing activities

These three statements are not independent.

For example, buying equipment means:

• Cash decreases
• Property, plant and equipment increases
• Investing cash flow decreases
• Depreciation expense is recognized later
• Operating income decreases

— all of these are connected.

3-8. Understanding a company alone is not enough for stock investing

A company's results do not translate directly into its share price.

Share prices are influenced simultaneously by:

Company results + Future expectations + Interest rates + Business cycle + Liquidity + Trading flows + Risk appetite

For example, if company results remain unchanged but the US 10-year Treasury yield rises sharply, the discount rate applied to future cash flows increases and the stock may fall.

Conversely, even if interest rates rise during an economic recovery, stocks may rise if earnings expectations improve by more.

Later lessons therefore extend beyond individual companies into:

• Business cycle
• Prices and inflation
• Central banks
• Interest rates
• Bonds
• Exchange rates
• Banks and credit
• Real estate
• Commodities
• Fiscal policy
• International economics

and related topics.

3-9. Markets trade changes in expectations, rather than the present

This principle will become very important.

Suppose a company's EPS is:

• Last year: 1,000 won
• Market forecast: 1,500 won
• Actual result: 1,400 won

in this example.

Earnings grew an impressive 40% year over year.

But they fell short of the market's expectation of 1,500 won.

The share price may therefore fall.

Share prices broadly respond to:

Actual results - Previous expectations

And, more importantly:

New future expectations - Previous future expectations

.

Later, we will therefore study:

• Consensus
• Guidance
• Earnings Revision
• Reverse DCF
• Catalyst

and related concepts.

3-10. Charts and trading flows do not calculate enterprise value

Charts, volume and trading flows also matter, but they serve a different purpose.

Financial analysis asks:

What is the company's economic value?

That is its assessment.

Charts and trading flows show:

How do market participants currently perceive that value?

That is what they reveal.

A sensible sequence is generally:

Business and financials → Future outlook → Valuation → Market expectations → Price, volume and trading flows

Avoid starting with a chart and fitting an explanation to it afterward.

4. A simple numerical example

All figures are hypothetical educational examples.

Consider companies A and B.

Step 1. Which company operates better?

Operating margin:

\[A=200/1{,}000=20\%\]

\[B=100/1{,}000=10\%\]

A is more profitable.

Step 2. Which company actually generates more cash?

\[FCF=OCF-CapEx\]

A:

\[180-50=130\text{ (KRW 100m)}\]

B:

\[140-100=40\text{ (KRW 100m)}\]

A is much stronger.

Step 3. Which company has greater financial strength?

A has net debt of 0 won, while B has 300 (KRW 100 million units).

All else equal, A is safer.

Step 4. Does that mean you should always buy A?

No.

A simple FCF yield calculation shows:

A:

\[130/2{,}600=5\%\]

B:

\[40/800=5\%\]

Both are 5%.

The market may also recognize that A is the better company and have assigned it a much higher price.

In other words:

Judging whether a company is good and whether its price is attractive are separate questions.

This is the central idea running through the entire course.

5. Practical use in stock and company analysis

When examining an unfamiliar company, follow this sequence before building a complex model.

Step 1. What does it sell to make money?

• Core products
• Customers
• Prices
• Market size
• Competitors

If you cannot explain it in one sentence, you do not yet understand the company.

Step 2. Review revenue and operating income over the past 3–5 years

First, ask:

• Is revenue growing?
• Is operating income growing faster?
• Are margins rising?

These are the points to examine.

Step 3. Look beyond net income to OCF and FCF

Net income → OCF → FCF

Check whether this sequence connects naturally.

Pay particular attention to:

• Accounts receivable
• Inventories
• CapEx

These are the points to examine.

Step 4. Examine cash and debt

• Cash
• Total debt
• Net debt
• Interest expense
• Maturities

A company's ability to survive bad times matters as much as how much it earns in good times.

Step 5. Assess how efficiently it uses that capital

This is where ROIC comes in.

How many won does the business earn for each 100 won invested?

And later:

ROIC - WACC

These are the points to examine.

Step 6. Identify the drivers of growth

Do not look only at the revenue growth rate.

For example:

\[\text{Revenue}=\text{Sales volume}\times\text{Price}\]

Revenue can be broken down this way.

For a semiconductor company:

• Bit Growth
• ASP
• Product mix
• HBM share

For a cloud business:

• Customer growth
• Usage growth
• Prices
• RPO

are among the components to examine.

Step 7. Examine the price last

Rather than starting with PER before understanding the company, first examine:

1. The company
2. Cash
3. Growth
4. Risk

and then assess the price.

The tools used at that stage include:

• PER
• PBR
• EV/EBITDA
• FCF Yield
• DCF
• Reverse DCF

.

Step 8. Examine what the market expects

Even for similar companies:

A company growing 10% when the market expects 5%

and

A company growing 20% when the market expects 30%

can produce different share-price reactions.

Therefore:

Company analysis + Price + Market expectations

are all necessary.

Step 9. Finally, connect the economy and the market

Even after analyzing the company, check:

• Where are we in the business cycle?
• What is happening to inflation?
• What are central banks doing?
• What are short- and long-term interest rates doing?
• What are credit spreads doing?
• What are the dollar and won doing?
• What is happening to liquidity?
• Where is the industry's cycle?

For example, even if a semiconductor company's results are strong:

Real interest rates ↑ + Risk appetite ↓ + Valuation multiples ↓

can limit share-price gains.

6. What to look for in disclosures

On Day 1, we focus on knowing where to begin with an unfamiliar company, rather than analyzing individual figures in detail.

Korean companies — DART

When first analyzing a company, start with these sections of its annual business report.

You do not need to read hundreds of pages of an annual report from the start.

First, trace how money enters and leaves the company.

US companies — 10-K / 10-Q

For an unfamiliar company, this sequence is practical.

10-K

1. Item 1 — Business
   • What does the company do?
2. Item 7 — MD&A
   • How does management explain changes in results?
3. Item 8 — Financial Statements
   • How did revenue, profit, cash and debt actually change?
4. Item 1A — Risk Factors
   • What could damage the business?

Then, in the notes, review:

• Revenue
• Segment
• Debt
• PP&E
• Stock-based Compensation
• Commitments

and related items.

What you need beyond company disclosures

Company disclosures alone are insufficient to assess a stock.

You also need separate market data.

• Current share price
• Market capitalization
• Interest rates
• Exchange rates
• Analyst consensus
• Competitor valuations
• Market size
• Trading volume and flows

The coming lessons therefore combine two broad types of information.

Information inside the company = Disclosures

The price the market assigns to the company = Market data

7. Key takeaways

Today, remembering this sequence matters more than memorizing formulas.

When examining a company

What does it sell → How much does it earn → How much remains as cash → How well does it reinvest that cash?

When examining a stock

How much of the company's future does the market already expect?

When examining the economy

How do interest rates, inflation, the business cycle, exchange rates and credit change the company's results and discount rate?

The overall investment assessment can be summarized as:

Business quality + Growth + Financial soundness + Cash generation + Price + Market expectations + Macroeconomic environment

Connecting these 7 elements is the purpose of the entire curriculum.

8. Three review questions

Question 1

Company A has 25% growth, 20% ROIC and a net cash position, but trades at a very high price.

Company B has 8% growth and 12% ROIC, but trades at a low valuation.

Which stock is the better investment?

Question 2

A company has net income of 500, OCF of 200 and CapEx of 250 (all in KRW 100 million units).

What should you ask first when examining this company?

Question 3

A company's results grew 30% year over year, but its share price fell 10% after the earnings announcement.

Give three possible reasons.

Answers and explanations

Answer 1

The information provided is insufficient to decide.

A is likely to be the better company, but excessive growth expectations may already be reflected in its price.

B grows more slowly, but could be the better investment if the market is overly pessimistic.

Additional checks should therefore include:

• PER·EV/EBITDA·FCF Yield
• How long future growth can last
• Expectations implied by reverse DCF
• Competitive advantage
• Downside risk relative to the current price

.

Answer 2

First, ask:

Why has accounting profit of 500 (KRW 100 million units) not converted into actual cash?

This requires investigation.

Pay particular attention to:

• Increase in receivables
• Increase in inventories
• Changes in accounts payable
• One-off net income
• Stock-based compensation
• The nature of CapEx

are the items to examine.

Simple FCF is:

\[200-250=-50\text{ (KRW 100m)}\]

which is negative.

The key is whether this reflects growth CapEx or weak cash generation in the underlying business.

Answer 3

Typical reasons include the following.

1. Market expectations may have been higher. The market may already have expected 40% growth, while actual growth was 30%.
2. Guidance may have disappointed. The past quarter may have been strong, but the outlook for next quarter's growth or margins may have been lowered.
3. The valuation may have been excessively high. Strong results may already have been priced in, leaving little further upside.

Also check the effects of sharply rising interest rates, one-off gains, deteriorating FCF, trading flows and positioning.

Day 1 → A map of the lessons ahead

All the questions raised on Day 1 will expand into individual subjects later.

Does the company make money?
→ Income statement

Is it real cash?
→ Cash flow statement and FCF

Is it financially safe?
→ Balance sheet and debt

Does it use capital well?
→ ROIC

What is it worth?
→ PER·EV/EBITDA·DCF

What does the market expect?
→ Reverse DCF, consensus and guidance

Why does the share price move?
→ Order book, volume, trading flows and charts

How does the economy affect the company?
→ Business cycle, inflation, interest rates, bonds, exchange rates, credit and real estate

Viewed this way, Day 1 serves as a map for the entire curriculum of 150+ lessons.