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Simple Balance Sheet Analysis for Stocks

The other day I was talking with a friend about balance sheets. We both work corporate jobs, and he has a degree in finance. There was some confusion about how the money gets accounted for, and it’s a common trip up for people just starting out. We were able to hash it out and he gets it now… if you’re confused about balance sheets then this is the post for you.

balance sheet analysis

If you open any Accounting 101 textbook, you’ll see the same simple equation when balance sheets are explained:

Assets = Liabilities + Equity

My wife took a course on accounting, and seriously half of the questions they would ask you about on the homework and tests just used this one equation. It can get confusing though, because the way that money flows inside a company is not as simple as your personal finances.

For example, if you get paid $2,000… everybody can agree that you now have $2,000 more in your checking account. Maybe you had a garage sale, this still becomes $400 into your checking account. It’s easy to track because it’s all in one place, and your income streams are usually limited in number.

Take a multimillion dollar corporation however, and one single checking account can’t ever be enough. There needs to be payroll accounts, expense accounts, accounts for inventory, accounts for revenue, accounts for profits, accounts to pay shareholders… you get the picture.

So when a company makes a big financial decision, the impact of this decision will depend on several factors such as which financial statement is impacted. Again take a basic example where a company is raising cash by selling some of their real estate. Simple minded individuals like ourselves might look at the situation like we do our checking accounts… “well surely the company must have more money to spend now.”

This isn’t the case though. There are 3 major financial statements that every public company is required to submit. This requirement makes it easier for us to understand how any extra money can be used.

The 3 statements are:
1. Income Statement
2. Balance Sheet
3. Cash Flow Statement

Creating cash by selling real estate doesn’t mean the company can suddenly hire 10,000 more people. An asset like real estate belongs in the balance sheet, but the extra cash from this sale will show up positive on the cash flow statement. You see, the cash can only show up on one statement at a time.

Where does the Money Go?

It’s simple when you realize this. The balance sheet has assets and liabilities. When you sell an asset, you lose it off the balance sheet. So your “assets” total on the balance sheet goes down.

But the cash you generated goes somewhere too. It doesn’t go in the income statement (also known as a P/L or Profit and Loss), because it wasn’t generated from your company’s sales. An increase of 50,000 sales and $250,000 more in profits goes in the income statement, but not cash from the selling of an asset.

So you see, the cash from a sold piece of real estate shows up in the cash flow statement. Now we can start to understand why a company can’t just go on a hiring spree now.

It’s because of this: hiring more workers is an expense. It goes in the income statement. When this example company sold its real estate, their income statement didn’t get affected. So if they just decided to hire like crazy, the income statement would be affected and profits would plummet. This would scare the heck out of investors, and just cause panic in general.

Understanding this helps us see why CEOs oftentimes have harder decisions than how it seems on the surface. (Like why did Microsoft just cut 18,000 jobs? They are oozing in cash… it’s not that simple)

If you can understand the 3 financial statements you can give yourself a fighting chance in the stock market. Let’s start with the balance sheet because it is the simplest to learn. [click to continue…]

July 2014 Monthly Report

Just a quick post for today. These past months have been crazy busy, and I’ve been doing some exciting things behind the scenes. For one, I’m working on a podcast with 3 other financial experts that is scheduled to be released September 1st. We have already recorded 3 episodes and will record the 4th tomorrow. Also released a special product to my email subscribers.

Keep checking in for more great things happening with this brand.

Andrew Sather’s Model Portfolio

Screen Shot 2014-08-13 at 11.02.17 PM

Today’s stock pick: BRCD
Value Trap Indicator: 128.41

As always, keep patient and continue collecting dividends. The longer you invest, the greater your chances of success.

Trading for Beginners – Sasha Evdakov, Tradersfly

It’s important to get as many different perspectives on the world of investing as you can, and this is why I specifically sought out Sasha Evdakov from Tradersfly. As a trader who has very different strategies than myself, Sasha has been so successful in both trading and teaching trading for beginners that he’s never had to find a job in his life.

I’m fascinated by Sasha’s story, about how he started his entrepreneurial journey when he was young and also about his very humble beginnings. His story is inspiring and educational, and we are lucky to hear about the whole thing with this interview.

trading for beginners
We cover a broad range of topics that you’ll definitely find value in. Although our stock strategies are vastly different, we share many similar mindsets and ideas. Like the importance of patience and a long term horizon. Also avoiding emotional investing and seeking out the abundance in our lives.

The perspective shared today was unique and helpful. From what I observed, I can easily see how Sasha is able to find success through his objectivity in viewing the market and trading. You can tell that he really loves what he does, as his passion shines through in his work and with our interview.

I want to thank Sasha for taking the time with us and also for being very authentic. I really enjoyed hearing all of what he had to say and felt motivated to learn more and improve myself as well. We need more people in the world like him.

Feel free to pass along this interview with other people who you think would benefit from this message. Anybody with entrepreneurial aspirations or just even aspirations to make more money (through investing or otherwise) will find value with what was talked about here. We offer our best insights all for free with this conversation, but it’s up to you to take advantage.

Sasha Evdakov Interview part 1:

  • how Sasha was able to become an entrepreneur and never have needed to work a job
  • why the “get rich quick” scheme leads to failure and how to succeed
  • Jesse Livermore’s Reminiscences of a Stock Operator (book)
  • how emotions affect the market and how to find a balance
  • a common mistake that beginners make regarding losses and how you can avoid this mistake
  • why being wrong is just part of the game

[click to continue…]

Good enough is really good – WW #73

Humans are all the same. We all naturally strive for perfection. It’s just in our DNA.

This quality is mostly beneficial for humans. It’s why we continue to build towers and hotels that reach higher, and electronics and computer chips that go faster. Growth, ambition, the pursuit of perfection, these are all really great things.

However there is a dark side to every story. Too much ambition can destroy a family life or personal health. Too much growth without solid foundations can lead to catastrophic failures. Too much perfection can mean nothing gets done.

balance

In the end it all comes down to balance. I’m a Libra. They are supposed to be good at balance. I’m the exact opposite… When I want something I go hard. So the struggle to find balance is really my daily struggle, my life struggle.

I know I’m not alone in this. People tend to put effort where they want results. It’s makes us feel good. Like we are getting stuff done.

But this natural tendency will absolutely kill you in investing. [click to continue…]

I’m so excited to share this interview with you guys. Recently I had the opportunity to interview Ryan Hops from Wall Street Survivor, and we had a great back and forth.

If you don’t know about Wall Street Survivor then shame on you. They are a start-up that has been helping investors since 2007, and they are very well known for their Wall Street fantasy game, where they have over 420,000 users picking virtual stocks and improving their strategies.

They also have a library of great investing videos over on YouTube, and it was their videos that helped inspire my own channel. With everything going on at the company, the guys of Wall Street Survivor have just launched their new courses marketplace– which has been widely requested and is finally here.

wall street for beginners

In the second part of this interview, we talk about the new courses marketplace in-depth, along with the problems they solve for investors. Ryan and I see eye-to-eye on a lot of issues due to the fact that we are both actively trying to educate the rest of the world about finance. From our short discussion I can tell that Ryan has the heart of a teacher who is focused on giving value.

I highly recommend that everybody check out this two part video interview. I really enjoyed our conversation about the mindset of investing, the strategies involved with investing, the importance of fundamental analysis and ideas for great analysis.

You get to hear about Ryan’s short experience with naked options that taught valuable lessons about trading and day trading in particular. In addition to learning about this negative experience we get to hear insights that have netted positive results, such as avoiding a focus of price through market timing and having a long term horizon.

Seriously, seriously find the time out of your busy schedule today to watch these videos. It’s not everyday that you get the chance to listen to someone with insightful personal experiences and a part of a very exciting start up company like Wall Street Survivor.

At the very least, check out one of their videos. Their only a few minutes long but they are super informative and entertaining.

Ryan Hops Interview Part 1:

  • how Ryan used his bad experience with naked options to learn a lesson and find a better plan
  • the Warren Buffett way and buying shares in a company as an owner, not a speculator
  • why “the best holding period is forever”
  • the importance of investing in companies that you know and businesses you understand
  • the consequences of trying to time stocks
  • techniques to deal with volatility and limit downside risk [click to continue…]

Ever felt like you need a parenting guide for your money? New parents don’t fear, today’s guest is the expert for you. In this interview with Matt Becker from MomandDadMoney.com, we cover specific financial issues that parents face.

The great thing about Matt is that he knows exactly what you are going through. Being a new parent himself and not being able to find the right resource to speak to his particular situation and concerns, Matt took his financial background and created the resource to accomplish this.

parenting guide

One of the biggest choke ups that young people have when investing is finding that money to invest. In a time when you are learning so many new things at once, it can be easy to get discouraged about your budget and break it.

Matt presents a guaranteed way to set up your budget so that you always hit your savings goals. With this method you don’t have to know how to budget, or even expend energy towards thinking about it. This technique is called un-budgeting, and it’s explained in part 1.

Another issue with new parents is their need for safety and security. Matt breaks down exactly which protections you need to set in place, and ways to make that happen.

Then we talk about what to do with your money after that. We dive into an interesting metaphor between investing and the casino, but it doesn’t turn out like you might think. In fact there’s a way to be the house instead of the gambler, and we break down ideas for that.

Finally, we get into a great discussion about how it’s ok to make mistakes and it’s ok to not know everything. If you are really hesitant about getting your investing started, this part of the interview is for you. We’ll inspire you and encourage you, and show you why it’s so important just to start.

You can find that discussion in part 2, where of course we also share Matt’s number #1 tip for beginners. I really enjoyed this conversation and the ideas that Matt presented. I learned a couple things that I should be doing to really get that coveted peace of mind.

If you have a friend who just had a kid, I implore you to spread this link to them. Trust me, between changing diapers and making sure this child is fed, there’s not much time to think about other really important things like finances. They need to hear this message, and they will appreciate you giving it to them. [click to continue…]

Entrepreneurship and investing go hand in hand. You can’t have one without the other. But you can learn a lot of valuable lessons about investing through entrepreneurship, and a show like Shark Tank can be a fun way to learn.

For those who don’t know how the show works, basically entrepreneurs seek venture capital for their businesses. The “sharks” are experienced entrepreneurs themselves, and they offer money for parts of businesses. As all business negotiations go, things often go back and forth in an exciting and gripping fashion. Potentially millions of dollars are made and lost in seconds.

shark tank valuation

Shark Tank is a wildly popular show and stars investing tycoons like Mark Cuban and “Mr. Wonderful” Kevin O’Leary. If you’re an entrepreneur about to pitch your company to these venture capitalists, you absolutely must know your stuff. Furthermore, it’s crucial that you know your numbers.

The name of the game in Shark Tank is valuations, and if you watch the show enough you’ll realize that’s all it really is about. Sure there are some great, hype-y stories, but in the end these venture capitalist gurus want to talk numbers. And if the valuation isn’t right, it doesn’t matter how much they like the company. Deal’s off.

Imagine, just imagine, how much success people would have in the stock market if they only did this same thing! The stock market works exactly like Shark Tank does. There are the hot stories and innovative products, but the real money is made when the price is right. When valuation is as low as possible.

Maybe you’re a fan of the show but you still don’t know how to value a stock. Read this post and I’ll explain it all. Share this post with someone you know who loves Shark Tank. They’d love to find out that their favorite time-killer can actually be educational and make them some money.

So any average deal on Shark Tank is presented like this: I, the entrepreneur, am asking for $xx,xxx for xx% of my company. Let’s use an example and say that I’m asking for $10,000 for 25% of my company.

What does this mean?

Well, to find out if this a good price for the sharks to pay, they need to do a few calculations. I’m making an offer, and this is based on what I believe the company to be worth. Oftentimes what the sharks think a company is worth is much more accurate than what the entrepreneurs think. The sharks are investors, while entrepreneurs are so emotionally attached to their creation.

So if I offer 25% of my company, that means I am valuing my company at $40,000. How does that calculation work? Well I am valuing 25% of my company at $10,000, or 1/4 of it at $10,000. So 4/4 of it would be $40,000.

Another way to do this calculation is to convert the percentage to a fraction, and then flip the fraction and multiply by the offer price. So 25% = 1/4… $10,000 x 4 = $40,000.

So how does this convert to valuation?

Shark Tank Valuation: Multiple

One of the very first questions that a shark will ask is how much profit is the businesses generating. Again, notice the emphasize on the numbers. This is business, not a game.

If in my hypothetical I am making $5,000 a year in profit, then my valuation is a multiple of 8. Simply it’s the value of my company divided by my annual profit, or $40,000 / $5,000 = 8.

Believe it or not but this is the biggest indicator of whether a shark will buy or not. Notice how they always try to negotiate for more % or less money, which always results in a lower multiple.

Check out this great resource with the statistics of every Shark Tank deal: http://www.sharktank.tvquotes.net/

You’ll see that 7 out of the 8 sharks on the show focus on low profit multiple companies. Not one averaged a multiple over 12 other than Kevin Harrington.

Now consider how I teach investing. The very first valuation metric I teach is the multiple (known as the P/E Ratio on Wall Street). I recommend finding P/E ratios at least less than 25, and in most cases less than 15. Notice how 7 of 8 sharks follow this advice. Coincidence that they are all successful? I think not.

Shark Tank Valuation: Revenue Multiple

The other big valuation metric that sharks use is the revenue multiple. This works the exact same as the earnings (or profit) multiple, just with revenue numbers instead of earnings. The sharks ask every entrepreneur what their revenue numbers are. What this does at the very least is make sure that the investor will have a chance to earn his money back.

The revenue multiple can be valuable because sometimes the earnings don’t tell the entire story. A company could be poised for explosive earnings growth in the future, but current expenses could be preventing that for now. The revenue numbers help us find those type of situations.

Also a low revenue multiple keeps investors away from companies that never will grow to satisfy the valuation. If I’m a shark and I just put $100,000 into a company, but the revenue numbers are only $5,000… chances are slim I’ll ever get my money back.

This is why sharks also use the revenue multiple, and why I teach it for evaluating stocks as well. In the stock market, the revenue multiple is called P/S or Price to Sales.

As you can see, these valuation concepts aren’t complicated at all once you understand them. It’s simple multiplication… and yet it’s all that Mark Cuban needs to increase his fortune. What really excites me about all this is that anyone can be a shark too. You just do it by investing in the stock market, and you evaluate companies the same way I teach here.

With simple multiplication and knowledge, you can become part owner of a large business that could continue to spit out cash and profits for decades. Companies like Coca-Cola or McDonald’s were phenomenal investments for people who bought 10 or 20 years ago, and they still pay out heavy dividends to reward shareholders. There’s no reason why other companies won’t do the same in the future.

So you have a choice. You can ignore everything I just said. Pretend that being a shark is unattainable.

Or you can take some action now. Get on my free email list, where I share all 7 valuations that I personally use to analyze businesses. And the sky is the limit from there.

**All Rights Reserved. Investing for Beginners 2014**
**Shark Tank Valuation Explained – Wisdom Wednesday #71**

Today’s discussion is with Kate Holmes CFP, the founder of Belmore Financial and an experienced expert in the industry who takes a different approach to the client and advisor relationship.

Kate emphasizes the importance of building a relationship with her clients so that they are like friends who can discuss not only the more important things in life, but in identifying those things and aligning your finances to reach those goals. In a world where everyone seems to be so willing to “follow the leader” and copy generations past, Kate finds what makes her clients happiest and works towards that.

Each individual is different, and so each conversation and financial plan is different as well. Working for the same employer your whole life and hoarding cash for retirement isn’t always the best plan for everyone, and so traditional advice oftentimes doesn’t apply.

kate holmes, belmore financial

Our conversations segways a bit into one of my other great passions, entrepreneurship, and we talk about why that path might not be as risky as you think.

We talk about the different mindsets that Millennials have towards the world, as well as the unique challenges we face, and the lessons we can learn from previous generations. With this fast paced world of the new internet age, this part of our conversation is can’t miss.

Finally we discuss the differences between a Roth and a Traditional 401k, a recommendation for the minimum that you should be investing, company match, active vs. passive funds, and the essential long term mindset.

I really enjoyed our discussion about long term investing, as I think it encompasses everything you need to know in a short few minutes. It’s easy to get lost in technicalities, but your success will depend on you sticking with a long term strategy. You can find that discussion in part 2. [click to continue…]

Real Estate Investing Without Debt

Sorry Donald Trump, this post isn’t for you. It’s widely unknown that you can start real estate investing without a ton of money and without getting into debt. Heck, you can even get started with as little as $100. I’ll show you how.

But first, let’s understand why real estate investing is important. An important metaphor will put you in the right mindset before you jump in, which will help shape your success. Allow me the time to explain how these things will contribute to your success, and soon you’ll see why.

Monopoly Mindset

When I was a kid, I naturally found the concept of investing to be fascinating. Let’s be clear, I never knew the term, or understood what it meant in the slightest. However, I gravitated towards a game called Monopoly. I found it deeply fascinating. I could play it for days on end without getting bored, if only I could find someone with the patience to play along.

Of course, I found Monopoly fascinating because I understood it. Like fitting pieces in a puzzle, the strategy behind Monopoly quickly became clear to me. I quickly and intuitively learned best and worst practices, and was able to anticipate future scenarios based on my experiences to be able to adapt on the fly.

For example, I understood that owning the coveted Boardwalk property was essentially meaningless unless you also owned Park Place to complete the monopoly.

Even at such a young age, I was unknowingly learning essential concepts to investing such as overvalued and undervalued. It didn’t take long for me to understand that holding the “orange” and “purple” properties would be the key to my success. They were extremely undervalued by most average players, and they were relatively cheap when you wanted to add houses and hotels.

The price to reward ratio on this row of properties was substantial.

real estate investing

Looking back with 20-20 hindsight, I see that I quickly understood and mastered this game. In fact, if you go to Google and look up the best Monopoly strategy, you’ll see that owning a monopoly of the “orange” properties is the highest mathematical probability of you eventually winning the game.

Yet I learned this before Google, because it just made sense. This valuable skill carries on to the world of investing, and I feel it’s a big reason why I’ve been successful and now find success teaching others with this blog.

Real Estate Investing: Income

There was one other thing about Monopoly that hooked me since my first taste of victory. I LOVED the idea of getting paid a passive income.

If you’ve ever played a full game of Monopoly, you’ll realize that the players who quickly grab as many properties as they can usually end up winning. The reason behind this is that when opponents land on your properties, they have to pay the owner of the property “rent” as a consequence.

Therefore, the players with the most properties stand the greatest chance of winning. They have time on their side, as it’s only a matter of time as rent payments continue to come in. As these payments come in, smart players reinvest their excess cash into “upgrading” the properties with houses and hotels, which raises the rent each time players re-land on them.

I don’t know what it was that was so gratifying about receiving the rent checks from players. Like a true capitalist, I fell in love with this feeling. You could argue I’ve never fallen out. But that’s for a different time.

Anyway, it took just a couple games of winning for me to understand how to play this game. It’s not won in the beginning, but at the end. With the right plotting, buying, and trading, I could usually position myself to be the first or second person with a “monopoly”. After that, the power of compounding takes care of the rest naturally.

Looking back, I can see why some people can get really turned off by this idea. For starters, once you are behind it is almost impossible to come back. Similar to how those stuck in the poverty cycle feel, the Monopoly system is just designed to reward the owners only. This is why so many people give up on investing.

So with this post, I’m going to solve your pain twofold.

Number 1, I’m going to show you how you can start real estate investing today, with little money and absolutely no debt obligation on your part.

Number 2, I’m going to give you some hope if you’ve given up on the idea of investing. Maybe you feel like the losers of Monopoly, but with your life. Maybe you have friends or family who feel this way. Send them this link. They need to hear it. It may just change their life for the better.

The Importance of Cash

Let’s look again at the Monopoly metaphor, because it helps us understand the world of real estate investing even further. Earlier in the post, I shared with you how I was able to uncover the best strategy for winning Monopoly. And really it applies to investing as well.

However, both investors and Monopoly players get too eager and fall into the same trap. In Monopoly, yes you must absolutely buy as many properties as you can, especially in the beginning. It really is a land grab race.

BUT, you have to do this while still keeping enough cash in your hands. If you don’t, then one bad dice roll can leave you with a larger obligation than you are able to pay, which will lead you to having to mortgage one of your properties. (Again, monopoly term. This simply means you sell out of the property at a very low price compared to its value)

Investing, and especially real estate investing, is exactly the same way. Ask most real estate investors, and they are focused on cash flow. They don’t mind the debt, especially if other people are paying for it… i.e. renters. During optimal conditions, this type of strategy is fine. But leave it up to just one bad “dice roll”– recession, lay off, natural disaster, you name it– and suddenly cash flow doesn’t matter as much. It’s those type of worst case scenarios that wipe out real estate investors and leave them bankrupt and broken.

Take the story of Dave Ramsey, for example. He once was a reckless real estate investor, and he paid the price dearly. Back when he was in his mid 20′s, Dave had an impressive portfolio of properties totaling over a million dollars. However, his total debt liability on these properties was also over a million dollars.

Dave was a smart guy, and according to traditional real estate wisdom, was doing all the right things. They’ll always tell you to use other people’s money, and leverage yourself up as long as you have a healthy spread. He knew all the tricks, and he had the market knowledge. But he was foolishly planning for happy sails, and didn’t consider the worst case scenario.

One day, it all collapsed for Dave. He went bankrupt, lost his portfolio, and almost lost his marriage and family. All because he was all too eager to get into debt.

Nowadays, he coaches people on getting out of debt. He once again has a multi-million dollar real estate portfolio, but this one is built on a solid foundation. With plenty of cash reserves and no debt in sight, Dave Ramsey can just sit back and collect rent checks for the rest of his life, just like a Monopoly master would.

Hope for Economic Losers

Maybe now you understand the importance of debt free real estate investing, but still feel like you can’t win. After all, you never were the “winner” in Monopoly. Maybe you’re “losing” right now. Surely there’s no hope in this “rich get richer, poor get poorer” society, right?

WRONG. You do have hope. Economics doesn’t work like Monopoly in this regard: we aren’t all racing for #1.

In the game of monopoly, there’s a fixed amount of properties. As the game plays out, there can only be one winner because of this single fact. However, we live in a world of INFINITE resources.

Yes, material things such as land and oil are finite. BUT, the internet has unlocked a whole new kind of money, and it’s the money of ideas. Never before could somebody with a simple idea and a few dollars for an internet connection create something greater than himself. Yet I’ve done just that in 17 short months, and many others have done it before me! [click to continue…]

Investing Quotes with Warren Buffett – WW #69

Sometimes, some guys just say it better than me. Here’s some great investing quotes from one of the world’s best investor himself, Warren Buffett.

  • “Rule No. 1: never lose money; rule No. 2: don’t forget rule No. 1″
  • “Investors should remember that excitement and expenses are their enemies. And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy only when others are fearful.”
  • “Time is the friend of the wonderful business, the enemy of the mediocre.”

investing quotes
(Insider Monkey)

  • “Never give up searching for the job that you’re passionate about. Try to find the job you’d have if you were independently rich. Forget about the pay. When you’re associating with the people that you love, doing what you love, it doesn’t get any better than that.”
  • “You don’t need to be a rocket scientist. Investing is not a game where the guy with the 160 IQ beats the guy with 130 IQ.”
  • “Wall Street is the only place that people ride to in a Rolls-Royce to get advice from those who take the subway.”

[click to continue…]