Month: August 2022

Total Stock Return is an investment performance metric that measures capital gains & income together. Here’s how to calculate it, use it, pros & cons, and more.

It’s vital to understand how your investments are performing. This is especially true for stocks that provide a dividend, which can have a significant impact on value and performance.

This is why it’s useful to know how to calculate total stock return. Knowing this allows investors to determine the real value they receive from their stocks, and better plan their investment strategy.

The Total Return, or Total Shareholder Return (TSR), also called the Total Stock Return, is the number that shows the amount of value gained for an investment. TSR includes dividends, and capital gains.

Here are some of the ways to calculate total stock return, including using the Navexa portfolio tracker, and its Modified Dietz Method.

What Are Total Returns?

Stocks can give returns in a couple of ways:

• Through the increase of the stock price.
• Through dividends.

Total stock return reflects all returns from capital gains, dividends paid, plus any other gains.

It’s measured for a specific time period, and helps the investor see performance over that period. The metric can be expressed as a percentage, or a dollar amount.

The Importance of Total Return

There are several reasons investors should keep track of their total returns. Primarily, this number shows how well the investment performs. It’s also handy for comparing stock performance to each other, or the wider stock market.

Some investors tend to ignore the total returns of their holdings, and only focus on how the individual stocks move day to day, or week to week. This can create confusion about investment performance and strategy.

Since TSR accounts for the initial and ending stock price, plus dividends, it gives clarity over total investment performance.

Finally, knowing the total return helps with dealing with taxes and authorities, and possibly minimizing tax on investments.

Terms Investors Should Know

When dealing with the total stock return, investors should understand key investment terms, and concepts. Understanding the following ideas can help shareholders improve their financial literacy.

• Annualized return: Return on investment over a 12-month period.
• Simple returns: Returns that are based on the initial investment only.
• Compound return: Return that’s paid for the initial investment plus accumulated income.
• Compounding frequency: The rate at which an investment compounds — it could be annually, quarterly etc.
• Dividend reinvestment: Receiving dividends as additional shares instead of cash.
• Internal rate of return (IRR): Similar to total returns, only includes a future profitability metrics.
• Expected total return: Same as total return, but using future assumptions instead of actual earnings.
• Unrealized capital gains: Gains that are yet to be converted into cash by selling out of an investment.
• Realized capital gains: Financial gains after an investment is sold.
• Risk-adjusted return: Metric that includes investment risk levels while calculating returns.

How to Calculate the Total Return for a Stock?

There are several ways of calculating total stock return. The shareholder may use the formula below, an online calculator, or a next-generation tool like the Navexa portfolio tracker.

TSR Formula

There are a few steps to take before working with the TSR formula.

First, investors should calculate the capital gain on their investment since they purchased it.

For example, if the initial investment was at $100 a share, and the share is now trading at $150, capital gains are $50 per share.

Then, add all the dividends, and other earnings that the investment has paid during the entire holding period. This will show the total stock return, expressed in dollars.

The simple formula goes like this:

TSR = (capital gains + dividends) / purchase price

The purchase price is the amount of money the shareholder invested in the stock.

To get the TSR as a percentage, use the dollar amount of the total returns, divide it by the price paid for the investment, and multiply the result by 100.

TSR Annualized Formula

To annualize their total return, investors should:

• Take the percentage calculated in the previous step and add 1.
• Then raise that number to the power of 1 divided by the number of years they held the investment.
• And finally subtract 1.

This is a more complex formula, and it looks like this:

Annualized total return = (total return + 1) ^ 1/years – 1

Furthermore, this formula assumes annual compounding. Some shareholders may use monthly or continuous compounding, but this calculation should be enough.

TSR Calculated in Excel Sheet

Besides using the total return formula, some investors use Excel to get their numbers. The “Rate” formula can help out, but the shareholder still has to manually enter the details of their overall performance to get the correct data.

TSR Calculator

Those who want to calculate their total return can also use online TSR calculator forms. They can select their currency, fill in the starting and ending stock price, enter the total amount of dividends, and run the calculation.

TSR Calculated in Navexa Portfolio Tracker

Investors can use Navexa to get deeper insights into their holding and portfolio performance. 

The method behind Navexa’s calculation is called the Modified Dietz Method. It provides a dollar-weighted analysis of the returns. It’s known as one of the most accurate methods to calculate investment performance, and gives investors a detailed view of their total stock returns.

Plus, our tracker accounts for the frequency, and size of cash flows, providing a complete picture of performance. 

Total Shareholder Return Example

Here’s a simple example of TSR:

Let’s say an investor purchased 100 shares, each of them for a price of $10. This makes their total investment $1,000.

The shareholder decided to hold this number of shares for a certain period of time. During this time, the company paid a $2 per share dividend, while the share price hit $12.

The TSR for the time period equals ($12 – $10) +$2 / $10 = 0.4

To get the percentage, the investor should multiply this number by 100, which equals 40%.

Advantages and Disadvantages of Total Shareholder Return

There are many benefits of using Total Shareholder Return:

• It’s a solid tool for performance analysis.
• TSR is highly valued as a performance metric because of its simplicity.
• The calculation offers a clear idea of an investment’s overall performance.

On the other hand, TSR is not a perfect methodology. Some of its disadvantages include:

• It’s limited to the past performance of the stock and dividends paid per share.
• Any market volatility, and market fluctuations will affect TSR numbers.
• It only evaluates performance for a single period.

Total Return With Reinvested Dividends

For shareholders who reinvest their dividends, calculating total return is a bit more complicated. This is because each of the reinvestments, including the capital gains, can easily become its own TSR calculation.

The formula we mentioned won’t work with this type of investment, as the new shares accumulate at the current trading price. This causes investors to end up with more shares than when they received the dividend. Plus, those shares will also start paying dividends on their own, and the numbers will start piling up.

The best solution to this issue is to simplify the approach — observe the overall investment, instead of looking at it on a per-dividend basis.

Using Navexa is an ideal way of keeping tabs on real returns and investment performance. The platform supports tracking for cryptocurrency ROI, so investors can view all their investments’ performance in a single account.

How to Use the TSR Formula in Investing?

There are many uses of TSR in investing. As we stated above, it’s a great way of comparing the total performance of different investments over time.

This is especially true for shareholders who would like to know which of their stocks (that pay dividends) are performing the best. With TSR, investors get a metric that tells them the past performance of an investment.

TSR can also help in improving investment strategy. 

Benefits of TSR in Investment Strategy

When it comes to stocks and investments, knowing the total and expected returns is crucial for making the right decisions.

The total return formula helps people who want to understand how their investments are performing. The calculation accounts for all gains, dividends, and other earnings This gives investors a clear picture of how their investment strategy has been performing.

A Useful — But Not Perfect — Investment Performance Metric

Being actively invested in the stock market means one should be keeping track of every share and dividend in one’s portfolio. 

One of the easiest ways to do this is with the Total Stock Return formula. The TSR calculation includes all gains, and dividends earned per share received over a given period.

However, this calculation is limited to the past value of the dividend, and stocks. Plus, it can be affected by market volatility.

Still, it’s a great way of evaluating investment performance. 

For a fuller, clearer picture of investment and portfolio performance, try Navexa. We’ve developed an all-in-one portfolio tracking platform that shows the true performance of stocks, crypto and unlisted investments. 

Navexa’s advanced performance calculation accounts for capital gains, dividend income (including reinvested dividends), currency gain and other key factors that impact true performance.

Try Navexa free for 14 days — create your account now.

Measuring portfolio performance can seem like a complex, dark art. We introduce eight powerful portfolio performance metrics for better understanding investments.

When it comes to investing, you want to make sure that you are keeping track of your portfolio’s performance. 

This will help you stay on track and achieve your investment goals. 

In this blog post, we will discuss the top eight portfolio performance metrics. 

By tracking these metrics, you can make informed decisions about your portfolio performance and ensure your money is working hard.

What Are Portfolio Metrics?

A portfolio metric measures how well or poorly an investment or portfolio is performing. There are a variety of different portfolio metrics, each of which measures a particular aspect of investment performance. Tracking these metrics ensures that your portfolio is on track to reach your investment goals.

The 8 Best Portfolio Performance Metrics

We’ve compiled this short guide to eight of the most popular and respected investment performance metrics investors and analysts use to measure and judge stocks, funds, sectors and markets. From overall returns to different ‘delta’ measurements, all these metrics are useful and unique. Let’s dive in. 

1.Compound Annual Return

The compound annual return, sometimes called compound annual growth rate, or CAGR, is the most common and most important metric for most investors.

Compound annual return is one of the most crucial portfolio performance metrics. It measures the percentage increase in your investment’s value each year, considering the reinvestment of dividends and capital gains.

This metric is essential for long-term investors as it can help measure the effectiveness of an investment strategy over time. By tracking compound annual returns, you track and analyze not just capital appreciation, but the impact of letting reinvested gains progressively fuel that growth.

2.Compound Annual Return vs. Benchmark

Comparing a compound annual return to a benchmark is a great way to measure a portfolio’s performance. A benchmark is a standard against which you can compare aninvestment’s performance. There are many different benchmarks you can use, depending on your investment goals.

For example, if you are trying to beat the US stock market, you can use the S&P 500 as your benchmark. If you are trying to achieve a specific rate of return, you can use your own benchmark based on that goal.

3. Sharpe Ratio

The challenge with the compound annual return is that it only focuses on return and says nothing about risk.

The Sharpe ratio is a measure of risk-adjusted return. This takes into account the volatility of your investment’s returns. This metric is vital for investors who are looking for a higher return potential but still want to keep their eye on risk.

The Sharpe ratio compares an investment’s potential return to its volatility. By tracking the Sharpe ratio, investors can make better informed decisions on a portfolio’s path, combine multiple diversified asset classes to smooth returns, or even lever investments to target a certain level or tolerance of risk.

4. Beta

But what about if your portfolio’s volatility is greater or less than the market as a whole? You would expect that investors taking on additional volatility must be compensated for the extra volatility risk.

Beta is a measure of how risky the overall stock market is. It’s like taking every stock in the market and combining it into one and calculating its volatility.

A beta of 1 means that the investment is just as volatile as the market, while a beta of 0.5 and 2 means that the investment is less and more volatile than the market, respectively.

Here’s an example of beta in action.

Say Walmart’s beta is roughly 0.5. This means that when the market goes up 2%, Walmart should go up 1%. The reverse is also true. If the market goes down 5%, you expect Walmart to only go down by 2.5%.

One important thing to understand is that stocks and other asset classes can have a negative beta. This means that when stocks go up, the negatively correlated asset will go down. And when stocks go down, this asset would go up.

This critical understanding enabled Ray Dalio to turn Bridgewater into a behemoth and is an asset allocation strategy shared by almost all of the best proprietary trading firms.

5. Jensen’s Alpha

If your performance beats beta, you get alpha.

Jensen’s alpha, also known as just alpha, is a measure of how much an investment outperforms or underperforms its expected return. If Walmart, with a beta of 0.5, matched the return of the market (beta of 1), you achieved alpha. You took less volatility risk than the market but matched the market’s return.

By tracking Jensen’s alpha, you can analyze which investments are outperforming or underperforming their benchmarks.

6. Treynor Ratio

While Jensen’s alpha focuses on excess return, the Treynor Ratio focuses on total risk-adjusted return.

This metric is helpful for investors who are looking to minimize their risk while still achieving a high return relative to the market.

The Treynor ratio can help determine whether an investment is worth the risk by comparing its potential return to its beta.

7. Sortino Ratio

How many investors would complain their portfolios are too risky after an 11% gain?

Likely not many.

The Sortino ratio is similar to the Sharpe ratio but only looks at downside volatility instead of total volatility.

This metric is essential for investors who are looking to minimize their losses and protect their principal investment.

The Sortino ratio can help determine whether an investment is worth the risk by comparing its potential return to its downside volatility. 

By tracking the Sortino ratio, you can make judgments around downside risk. Combined with the Sharpe ratio, investors can use it to smooth their portfolio risk and expected returns. 

8. Calmar Ratio

And while volatility to the downside is an essential proxy for risk, I think far more investors are concerned with the total permanent loss of capital.

The Calmar ratio is another measure of risk-adjusted return, which takes into account not the downside volatility but the maximum drawdown of your investment’s returns.

This metric is vital for investors who are looking to minimize their losses and understand the worst-case scenario for their investment.

The challenge with the Calmar ratio is that there are not as many data points to make it as statistically significant as the other methods.

What Is the Best Portfolio Metric?

You’ve probably surmised that this is a trick question. While if I had to pick only one, I would crown the Calmar Ratio as king, you can get a much better view by understanding the above.

It’s worthwhile to understand multiple different portfolio performance metrics. Knowledge, as Benjamin Graham said, pays the best dividends.

By being familiar with compound annual growth, benchmarking, beta, alpha and the various ratios that measure risk and performance, investors give themselves more tools to understand and manage their investments. 

The Best Way to Track Your Portfolio Performance Metrics

Renowned management expert, Peter Drucker, famously said ‘what can’t be measured, can’t be managed’. In other words, if you don’t know how an investment or portfolio is performing, you’re going to have a difficult time managing and improving its performance.

This is why it pays to understand eight performance metrics explained here. And, why we recommend investors use a portfolio tracking platform to help them measure, analyze and optimize their own performance.

Navexa is designed to help investors do exactly that. By bringing all stock, crypto, ETF, cash and other investments into a single unified tracking account, we help you measure every aspect and factor of portfolio performance so you can focus on making data-driven investment decisions.

Portfolio Performance Metrics FAQs

What is a good ROI?

A good ROI, or return on investment, is a measure of how much money you make on your investment compared to how much money you put in. This metric is important for investors who are looking to make a profit on their investment. While this varies for each investment class, it’s usually asked in the context of the stock market.

We also know that volatility is a critical component of understanding return. However, if you’re still interested, you can check out Professor Damodaran’s Equity Risk Premium for the month and multiply by your portfolio or stock’s beta.

What Is a good Sharpe ratio?

A good Sharpe ratio is between 1 and 2, and above 3 is considered excellent.

What is a good Jensen’s alpha?

Any positive value for Jensen’s alpha is excellent. It means the portfolio has beat the market with a superior selection of assets.

What is a good Treynor ratio?

A good treynor return is anything greater than the S&P500 minus the current risk-free rate.

What is a good Calmar ratio?

A Calmar ratio between 0.5 and 3.0 is considered Great. Anything above 3.0 is excellent.

How is annual compound return calculated?

The Navexa portfolio tracker uses an advanced portfolio performance calculation based on the Modified Dietz method to measure annualized, money-weighted performance. Navexa also calculates and displays CAGR performance. 

How is the Sharpe ratio calculated?

The Sharpe ratio subtracts the risk-free rate from the investment’s return, then divides the result by the standard deviation of it’s excess return. 

How is the Treynor ratio calculated?

The Treynor ratio divides the difference between average return and the average risk-free rate of return by the investment’s beta. 

How is the Sortino ratio calculated?

The Sortino ratio divides the difference between an investment’s aggregated earnings and the risk-free rate of return by the standard deviation of negative earnings.

The discounted cash flow (DCF) method can help you calculate the current value of an investment. DCF can be used to value companies, stocks, and bonds. Keep reading to learn how to use it.

Determining the current value of a stock is a key part of investment research. One method for doing this is the discounted cash flow (DCF) method, which values a stock — or any other investment — based on predicted future cash flows. 

The DCF model involves several steps, each calculating different data, to estimate the present value of stocks, bonds, or businesses.

The DCF model relies on the weighted average cost of capital as the hurdle rate. However, you’ll also likely have to calculate a terminal value, intrinsic value, free cash flow (FCF), and a few other metrics before employing the DCF formula. Here’s what you need to know.

How do Investors Determine the Value of a Business?

Investors generally evaluate a business before they invest in it. Luckily, there are several methods to determine whether an investment’s current price represents fair value or not. 

They may use comparable financials to identify similar companies in an industry or sector. They may access databases which provide financial information and a value range for companies. 

The discounted cash flow method is one of the best ways of evaluating established companies with a good track record of revenue and costs.

However, the discounted cash flow model is quite complex to work with. It involves multiple calculations related to cash flows, rate of return (RoR), equity, and so forth. The discounted cash flow calculation can be used for stocks, businesses, bonds, and other business projects.

Navexa provides a powerful discounted cash flow calculator. You can use this to estimate a stock’s value by inputting key financial metrics — a handy addition to Navexa’s automated portfolio tracking and tax reporting tools for stock and crypto investors. 

Introduction to the Discounted Cash Flow Model

The discounted cash flow model is helpful in determining a company’s ‘intrinsic’ value. It’s used to determine the value of an investment based on estimated future cash flows. The DCF method is the standard in evaluating privately-held companies, although it could be used for publicly-traded stocks, too.

For many, DCF is a complex mathematical and financial equation, most commonly used by Wall Street experts. However, anyone who understands the basics of DCF can use it to evaluate a business.

The first thing to look into is the weighted average cost of capital (WACC). The WACC represents the hurdle rate for this model, and it’s the minimum RoR required for the project or the investment. Riskier projects have a higher hurdle rate, and vice versa.

Related Terms

These are some of the related terms you should know about if for DCF:

• Time value of money — a core principle in finance. This refers to the fact that a sum of money is worth more now than in the future due to its earning potential.
• Discount rate — in terms of DCF, discount rate refers to the interest rate used to showcase the current value.
• The risk-free rate of return — a theoretical term that refers to interest received from a risk-free investment.
• Terminal value — the value of the asset/business/project that goes beyond the forecast period. It assumes the business will have a set growth rate forever. It’s used as an indicator of future cash flows.
• Earnings per share — shows the amount of money a company earns for each share. It’s often used for determining the value of a business.
• The intrinsic value of a business — observes the value of a business on its own. Represents the present value of all expected future cash flows with an appropriate discount rate.
• Internal rate of return (IRR) — a discount rate used to estimate the profitability of an investment.
• Net present value of a company — a method of calculating your ROI.
• EBIDTA — earnings before interest, taxes, depreciation, and amortization; represents a measure of a company’s overall financial performance.

Formulas You Might Need

There are several formulas you might need to perform a DCF calculation. 

Time value of money

PV = FV / (1 + r)

Where:

PV is the present value

FV is the future value

r is the rate of interest

Besides the formula, you can use an online calculator to get these numbers if necessary.

Terminal value

(FCF x (1 + g)) / (d – g)

Where:

FCF represents free cash flow for the last forecast period

g is the terminal growth rate

d is the discount rate (usually the weighted average cost of capital)

Earnings per shares outstanding

EPS = net income of company – preferred dividends / common shares outstanding

Free cash flow FCF

FCFt = OCBt- It

Where:

FCFt is a Free Cash Flow

OCBt is Net Operating Profit After Taxes

It is an investment during the period

The discounted cash flow formula

DCF = CF1 / (1+r)^1 + CF2 / (1+r)^2 + CFn / (1+r)^n

Where:

​CF1 is the cash flow for year 1

CF2 the cash flow for year 2

CFn the cash flow for additional years

r is the discount rate

If the results are above the current cost of the investment, the opportunity will likely result in a positive ROI.

What Can Discounted Cash Flow Tell You?

DCF helps calculate how much money one could receive from the investment if they invested in it today. It’s adjusted for the time value of money, which further helps determine whether future cash flows will be equal to or higher than the value of your investment.

Furthermore, DCF can be used for calculating:

• The cost of purchasing an investment
• Rental income
• Expenses like mortgage, utility bills, cost of debt
• Estimated sales proceeds

Where to Find the Necessary Data?

In order to successfully do the DCF valuation, you’ll need to find specific rates. These are:

• The growth rate of the cash flows.
• The discount rate that you’ll use to discount future cash flows.
• Terminal rate to determine the final value of the DCF.

Growth Rate for Cash Flows

Since the DCF calculation is highly sensitive to the data you enter, it’s best to start within a reasonable range. Check the company’s balance sheet for past growth rates and use those to predict future cash flows. Remember that any number you choose is an estimate, and will affect your final result.

To calculate the growth rate, subtract year 1 cash flows from year 2 cash flows. Then divide the result by year 1 cash flows.

Discount Rate of Return

Next, you should find the discount rate of return for cash flows. To do this, use the WACC method. As we said before, the WACC is fundamental for discounted cash flow calculation.

To get WACC numbers, you should find the cost of debt and cost of equity first. Then, you should calculate the weights of both.

The formula for the weight of debt is:

WD = Total debt / (Market cap + total debt)

The formula for the weight of the equity is:

WE = Market cap / (Market cap + total debt)

Then, you calculate the WACC. The formula goes as follows:

WACC = (E / V x Re) + [D/V x Rd x (1 – Tc)].

Where:

E is the market value of the firm’s equity

D is the market value of the firm’s debt

V is E + D

Re is the cost of equity

Rd is the cost of debt and

Tc is the corporate tax rate.

Lower WACC is considered better than higher WACC.

Terminal Rate

The terminal rate is also one of the key inputs of the DCF calculation. It influences the value you’ll calculate for the future.

If you’re hoping to stay consistent in calculations, you should use the same rate you used for calculating the discount rate, WACC, or the rate at which the company grows.

Now that you have these numbers, it’s time to move on to the DCF calculations.

Value Investments Using the DCF Method: Companies, Stocks, and Bonds

The DCF model is great for evaluating different kinds of investments, including bonds and stocks. Here’s how you can use it to see whether a certain investment is worth its current price.

How to Use DCF to Value a Company?

There are certain steps to make to successfully calculate discounted cash flow for companies:

1. Analyze the income
2. Determine terminal value
3. Calculate enterprise value
4. Include additional assets
5. Subtract all debt and non-equity claims

Since the DCF model reflects the value of a company’s future cash flows, the first step is to understand and analyze the income of the organization. There are two common methods for this:

1. Unlevered DCF approach — forecast and discount entire operating cash flows, then add non-operating assets and subtract liabilities.
2. Levered DCF approach — forecast and discount cash flows that remain available to shareholders after non-equity claims have been deducted.

At a certain point, you’ll stop calculating unlevered free cash flows and move to determine the lump sum or terminal value. The terminal value represents the value of a company beyond the final explicit forecast period. For this, you’ll usually use the estimate numbers.

The next step is to determine the enterprise value. This number represents the value of a company’s operations to all stakeholders.

If a company has any money sitting around, you should include that money into the present value of unlevered free cash flow.

The final step is to subtract all debt and non-equity claims to calculate what’s left for the equity owners.

How to Use DCF to Value Stocks

The DCF method is also handy for evaluating stocks. Here’s how:

1. Take the average last three years of the company’s cash flow.
2. Multiply the FCF with the expected growth rate to get the FCF for the future.
3. Calculate the value of that cash flow by dividing it by the discount factor.
4. Repeat the process for the next X amount of years to get the net present value (NPV) of the FCF.
5. Calculate the terminal value of the stock by multiplying the final year FCF with a terminal multiple factor.
6. Add the values from steps 4 and 5 and adjust the total cash and debt (find these in the company’s balance sheet) — this gives you the market value of a company.
7. Divide the market value of a company by the shares outstanding to find the intrinsic value per share.

How to Price Bonds with DCF?

Finally, you can use DCF to value bonds, as their price is based on a model close to the DCF one. Typically, determining the fair value of the bond will involve calculating the bond’s cash flow (current value of a bond’s future interest payments) and its face value (the value of a mature bond).

Both these values are fixed, which helps you determine the bond’s RoR.

Here’s what to look at:

• Maturity date: Short or long-term, when reached, the bond’s issuer must repay the bondholder the full bond value.
• Discount rate: Interest payments that go to the bondholder, usually a fixed percentage of the face value.
• Current price: Bond’s current value, dependent on several factors such as market condition.

Pricing a bond is relatively simple, and can be done in the following way:

Calculate face value, annual discount rate, and maturity date

Collect the basic information about the bond; face value, on-par value, and the bond’s annual coupon rate. Also, note the maturity date. You’ll need these numbers to continue the DCF valuation method.

Calculate expected cash flows with the formula:

Cash Flow = annual coupon rate x face value

Discount the expected cash flows to the present

Cash Flow ÷ (1+r)^t

Where:

r is the interest rate

t the number of years for each cash flow

Value individual cash flows

To calculate the cash flows, use the following formula for each year:

Cash Flow Value = Cash Flow / (1+r) ^ 1 + 30 / (1+r) ^ 2… + 30 / (1 + r) ^ 30

Calculate the final face value that you’ll receive at the bond’s maturity date

Final Face Value Payment = Face Value / (1+r) ^ t

Add the cash flow value and the final face value and you’ll get the value of the bond.

Benefits of Discounted Cash Flow

The main pros of DCF:

• Highly detailed
• Includes all major assumptions about the company/project
• Determines the intrinsic value of a business
• Includes all future expectations about the business
• Suitable for analyzing mergers and acquisition
• Can be used to calculate IRR

Limitations of the DCF Model

The main cons of this model:

• Involves a large number of assumptions
• Prone to errors
• Too complex for novice investors
• Sensitive to changes in assumptions
• Isolates the company’s value
• Doesn’t include competitor’s value
• Terminal value TV is hard to estimate
• WACC is hard to estimate

Is DCF the Same as Net Present Value?

Even though these two methods are related, the DCF is not the same as net present value (NPV). NPV is actually the fourth step in calculating the DCF. It’s used to deduct the upfront costs of the investment from the investment’s DCF.

Final Word On The Discounted Cash Flow Model

The discounted cash flow valuation method projects a series of future cash flows and earnings, which it discounts with the time value of money. It’s one of the best ways to assess the present value of stocks, bonds, or businesses.

The DCF method is most suitable for experienced investors since it’s complex. 

So, now you know how to analyze a potential investment’s value using the discounted cash flow method. And, since you’ve landed here on the Navexa blog, we have good news:

You can skip the complex calculations by using the automated discounted cash flow valuation calculator we’ve built into Navexa.

Navexa is a portfolio performance tracking and tax reporting platform that allows you to track your stocks and cryptos together. 

Sign up to Navexa free today, and run value calculations on as many stocks as you like!

Discover the twelve key metrics investors use to assess dividend-paying stocks and the companies behind them.

Investing in dividend stocks is one of the proven, long term methods of building wealth and passive income. Investors can enjoy compounding investment income for many years, and even build enough income that they can live on dividend yields alone.

Researching dividends can be a complex process. So in this post, we’re going to walk through 12 of the key metrics investors can use when analyzing a dividend paying stock or company. 

Dividends: The Basics

Dividends are a company’s payments to its shareholders. Many investors prefer to hold dividend stocks, since they can collect cash dividend payments, or collect additional shares through dividend reinvestment programs. 

There are different types of dividends available to shareholders:

• Cash dividend — the company shares a portion of its net income with shareholders.
• Stock dividend — instead of paying cash, the company issues more shares.
• Property dividend — the organization offers its assets to shareholders.
• Liquidating dividend — not taxable, the company pays it from liquidating its assets.
• Special dividend — contains additional cash profit, and is higher than regular dividends.
• Interim dividend — paid before issuing the actual dividend.

Dividend stocks are sometimes less volatile than growth stocks. This can make them preferable for investors with lower risk tolerances.

Dividends are often paid quarterly, but some companies pay them out annually. A consistent dividend payout might be a sign of a healthy company, but that’s not always the case.

Companies might sometimes offer high dividend yield to entice further investment, when in reality, the business is failing. This is called the dividend trap.

This is why it’s crucial to learn how dividends work, and understand how to analyze the key metrics of dividend-paying stocks.

How do Dividend Stocks Work?

These types of stocks can deliver returns in two ways:

1. Dividend income from dividend payments
2. Growth of the stock price

Additionally, the dividend payouts can compound when they’re reinvested into shares. Stocks can pay dividends despite the share price fluctuating.

Investors can use the money to:

• Reinvest in the shares of the same company
• Buy stocks of different organizations and diversify the portfolio
• Save the money
• Spend the money

Dividend Investing: How to Start

Dividend investing means buying stocks because they pay out regular dividends. Investors seek these stocks by looking for companies that offer stocks with a stable, regular dividend payout. 

The usual steps of investing in dividend stocks include:

• Opening a brokerage account — best and fastest option is opening the account online.
• Funding the account — verifying the identity, and connecting the bank account usually lasts a few days.
• Buying the right stock — this decision should be based on knowing the investment goals and proper research.
• Collecting the dividend yield — once someone holds the stocks for a certain time, they’ll receive the first dividend payment.

Top 12 Key Metrics for Dividend Stock Analysis

There are many metrics to follow in dividend investing. These help to build an understanding of how well the company operates, how stable its earnings are, and possible future growth.

1. Dividend Payout Ratio

The dividend payout ratio is one of the most common financial ratios investors check. It measures how much of a company’s earnings (after tax) is paid out in dividends. It also shows how stable the dividends are and how much the business is growing. High dividend payout ratios tend to be regarded as riskier — since most of the company’s earnings go into dividends, they might not be sustainable.

Dividend payout ratio is calculated by dividing dividends paid by earnings after tax, and multiplying the result by 100.

2. Free Cash Flow

Investors can see the business’s cash flow from the company statements. Free cash flow shows how much expenditure a company has and how much free cash remains to be given to shareholders through dividends. The better the free cash flow, the more cash is available for dividend payouts.

Free cash flow is calculated using three factors:

• Operating cash flow
• Sales revenue
• Net operating profits

3. Return on Invested Capital

Shareholders will usually invest in companies that can grow their capital quickly. Return on invested capital is a similar measurement to return on equity, only it shows a company’s return on both equity and debt. 

It’s calculated by dividing the net operating profit after tax by the amount of invested capital.

4. Operating Profit Margin

The company’s operating profits show the earnings before interest and taxes. The operating profit margin is a ratio of income to profits from sales. The higher the ratio, the stronger the dividend income prospects (in theory).

The operating profit margin is calculated by dividing the operating income (earnings) by sales (revenues).

5. Asset Turnover

This is a less known financial ratio, but still equally important as others. It measures how many dollars of sales were generated by each dollar of assets. Organizations that have more sales usually generally offer stronger returns.

This metric is calculated by dividing net sales (revenue) by the average total assets.

6. Sales Growth

Sales growth is one of the best metrics to see whether the company has a good business model driving higher revenue. Good sales growth trends show potential for growth. 

It’s calculated by first subtracting net sales of the previous period from the current period. Then, the result should be divided by the net sales of the previous period and multiplied by 100 for a percentage.

7. Net Debt-to-Capital

Businesses also go into debt. This is why net debt-to-capital is crucial for understanding how the organization deals with its finances. Overall, a net debt-to-capital ratio below 50% is considered good.

This metric is calculated by dividing the company’s net debt by its capital.

8. Net Debt / Earnings before interest, taxes, depreciation, and amortization (EBITDA)

EBITDA compares a company’s debt to its earnings. It’s often used to compare different businesses. Net debt divided by EBITDA shows how many years the business will take to eliminate debts with cash on hand and annual cash flows.

9. Price-to-Earnings Ratio

P/E is another popular calculation to know. It divides a company’s stock price by the earnings per share, revealing to the market how much the company is worth. In general, the P/E ratio of less than 20 is considered good.

10. Total Shareholder Return

TSR helps investors observe both the stock price and dividend yields. It accounts for both the price and the dividends paid. It’s a way to see where a stock sits relative to the wider market.The formula is:

TSR = ( (current price – purchase price) + dividends ) / purchase price

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11. Dividend yield

Dividend yield represents the percentage of annual dividend payments to shareholders. This number shows what the investor can expect to get in the future from the stocks they hold, if the dividends remain the same. However, the dividend yield can change over time, depending on the market conditions and company developments.

This metric is calculated by dividing cash dividend per share by the current price per share. To get the percentage, multiply the result by 100.

12. Dividend Growth Rate

Besides looking into dividend yield, investors also observe the dividend growth rate. This metric shows how much a dividend has increased each year. Those businesses that offer an annual dividend increase could be more appealing.

A steady, long-term increase in dividends shows that the company is (in theory) generating enough cash flow to fund that growth. The formula for dividend growth rate is:

Dividend Growth Rate = (D2/D1) – 1

What Is Considered a Good Dividend Payout Ratio?

Investors often look for the best possible dividend payout ratio. Overall, a ratio of 30% to 50% is considered healthy. Payout ratio numbers above 50% may appear unsustainable.

Additionally, the dividend payout ratio varies from industry to industry. For example, you might notice different dividend yields in the tech sector versus among utility companies.

How Are Dividends Taxed?

In Australia, investors must pay taxes on both capital gains and dividends.

However, companies pay out dividends that have already been subject to taxation. Australian laws recognize that shareholders shouldn’t be taxed again on the same profits, so investors receive a rebate for the tax that companies have paid. These dividends are known as “franked”. They also have a tax credit.

On the other hand, ‘unfranked’ dividends don’t have a tax credit, as the company didn’t pay taxes for them, so investors will have to.

The financial year in Australia goes from July 1 to June 30. This is the period when shareholders should collect all the financial information and go through an assessment.

In Australia, dividend reinvestments are treated the same as cash dividends. This means that if you receive shares instead of cash, you’ll still need to pay taxes.

If you struggle to calculate portfolio gains for the fiscal year, Navexa is here to help. Once you upload your portfolio, Navexa’s taxable income reporting tool automatically calculates your obligations and provides a detailed breakdown for reporting purposes.

What’s more, you can download this data in XLS or PDF and easily report your capital and other gains.

What Is a Good Dividend Strategy?

Dividend strategy refers to planning around when to buy and sell shares in a dividend-paying stock. The dividend capture strategy is one of the common ways investors get into dividend stocks.

To do this, investors keep track of the dividend timeline:

• Declaration date — when the company announces dividends.
• Ex-dividend date — when the stock starts trading without the value of the dividend.
• Date of record — when current shareholders receive dividends per share.
• Pay date — when dividends are paid.

In this strategy, the best moment to purchase the stock is right before the ex-dividend date. Then, investors would receive the dividends, and sell the shares right after they’re paid. The main purpose of buying and selling is to get the dividend, then exit the position.

This is the opposite of long-term investing, where the investor keeps the stocks and allows for compound growth.

What Is Dividend Analysis?

Dividend analysis is when investors to analyze dividend-paying stocks over a long period. The data is presented in graphs and shareholders can easily see if the company pays regular dividends per share, and if it increases them. Dividend analysis also shows how sustainable dividend payouts are for the company based on current earnings.

Pros and Cons of Dividend Investing

Many investors get into dividend stocks to boost their passive income through dividend yield. Still, there are some pros and cons to consider when it comes to investing in dividends.

Pros:

• Great source for passive income.
• Dividend stocks may be less risky than smaller, speculative companies.
• Long-term dividend stocks may be relatively stable.
• Many ways to utilize the annual dividend per share.

Cons:

• Investors need a lot of capital to create significant income.
• The business may change the dividend policy.
• Dividend taxation may confuse new investors.
• Requires careful research.

Final Word On Key Dividend Metrics

Investing in dividend stocks can be a solid strategy — or part of a strategy — for building long-term wealth in the stock market. However, experienced dividend investors know there’s more to it than just picking out the first company they come across.

The dividend payout ratio is one of the most important metrics to consider. The other 11 metrics we’ve detailed here are also important in analyzing a dividend stock. These key metrics can help to analyze not just the stock price, dividend yield, or payout ratios.

They also tell a story about how the company operates and whether purchasing a specific stock could provide a long-term dividend yield or perhaps indicate a dividend trap.

Keep in mind that dividend investing carries both risk and tax obligations. This is where Navexa can help.

We’ve built a powerful automated tracking tool that allows you to track all your stock and crypto performance in one place. Navexa tracks and records all dividend income and calculates its impact on your total performance.

At tax time, our Australian customers can run automatic reports to calculate and optimize both their CGT and taxable income activity.

Sign up for free today and test out Navexa’s powerful automated investment performance tracking and tax reporting tools.