Small cap stocks can be risky but also have the potential to produce big rewards for patient, knowledgeable investors. Gravitas Financial analyst Stefan Muchal talks about what he looks for in a small cap company while explaining financial terms such as EBITDA, cash flow, and Net Asset Value.
Video transcription
Isis Essery: Do you ever wonder why some stocks perform incredibly well while others fail miserably? Some investors and portfolio managers seem to have the golden touch while others lose their shirt. So, what is it that separates the successful investor from the rest? Small cap stocks have been known to be a bit riskier than other types of investments, but a little knowledge can go a long way in helping you beat the street. To shed some light on the subject of small cap investing and better understand some of the terminology, I caught up with Stefan Muchal, an analyst at Gravitas Financial, who gave me some helpful tips. He explained some confusing financial terms like EBITDA, Net Asset Value, and cash flow. Welcome, Stefan. So, what is it that you’re looking for when choosing a small cap stock?
Stefan Muchal: I’m sure if you ask 10 different people, you’ll get Stefan Muchal different answers to this, but for me, I look for a company that produces a good or service that’s better than anybody else in an industry that’s large enough to support that company. You also want to have a management team that has the skills and experience to be able to deliver on the business plan and a balance sheet that can support the company’s growth.
Isis Essery: As a financial analyst, how do you go about valuing a company?
Stefan Muchal: There are two main ways you can value a company, using intrinsic value like a DCF (Discounted Cash Flow) analysis that you look at a company’s actual assets, or you can look at its relative value. It’s the value in comparison to other companies or indexes.
Isis Essery: I always see phrases like EBITDA and cash flow, but what do they mean?
Stefan Muchal: EBITDA stands for Earnings Before Interest, Taxes, Depreciation, Amortization. It shows how a company’s core business is actually doing. Think of it like your grade point average at school subtracting out all the courses that have nothing to do with your major. It can be manipulated by the company and that’s why you want to look at cash flow. It’s how much money is actually flowing in and out of a company’s bank account. You can look at an even more strenuous measure of this, which is free cash flow and that’s the cash for operations minus the capital expenditures of the company.
Isis Essery: Can you explain Net Asset Value to me?
Stefan Muchal: Net Asset Value is an intrinsic measure of a company’s value usually used in resource and real estate companies. You take, in the case of a mining company, its total resource, figure out how long it will take to produce that resource, and the cost of that. You get the cash flow that’s generated and then you discount that back using a discount rate. And a discount rate is the cost of capital for the company. It’s what a bank would charge if you asked them for a loan. And because money today is worth more than money tomorrow, you want to discount that future cash flow into the present.
Yeah, I definitely think that an individual investor has a much better time now than in the past. You have smaller bid/ask spreads lower commissions, and then much greater access to information. And then there’s also many companies like SmallCapPower that focus on helping a retail investor. That being said, everybody has different risk tolerances and goals, and it’s always good to consult a financial services representative.
Isis Essery: Thanks, Stefan. And if you have any questions for Ask The Analyst, email us at info@smallcappower.com or on Twitter, @smallcappower1. For Ask The Analyst, I’m Isis Essery.
