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Smart buy: Go by the book Value of the stock

THE bear phase may be far from over, but the quest for the next group of multi-bagger stocks have begun. Brokers say while savvy investors are still wary of buying aggressively, they have certainly started identifying stocks with long-term potential. One of the yardsticks they are looking at is the cash on the company’s balance sheet.

Analysts say this strategy works in a bear market or an uncertain business environment, as net cash (adjusted to debt) is the only stable aspect on the balance sheet while valuations of assets and businesses vary as per market conditions. For instance, if a company stock is trading at Rs 500 and the entity has net cash at Rs 300 per share, then, as per this strategy, the share is valued at least Rs 300.

Analysts note that significant cash balance in the books allows companies to pursue various activities such as a share buyback and acquisitions in uncertain market conditions like these. Many share buybacks allow investors to get a fair picture of the so-called bottom value of the stock. With valuations of most companies falling dramatically over the many months, cash-rich companies can buy cheaper assets, with potential growth over the long term.

Analysts say there has been an increase in inquiries about companies with significant cash on their books. A popular ratio to value cash in a company is cash-to-market capitalisation. The market cap of a company is the share price multiplied by total shares in issue.

Market capitalisation provides the total value of the company, including its assets, cash and investor perception. Higher the cash to market cap of a company, the cheaper is the share. Analysts say a cash to market cap ratio of 0.20 or higher is considered healthy and that this ratio may vary as per market conditions.

The BSE’s 500 companies shows that 32 stocks have a cash-to-market cap ratio of around 0.20 and above. But fund managers feel this cannot be the only parameter to judge the value of a stock, as it gives investors an idea of only the maximum possible downside.

Cash levels of a company alone does not give confidence about the stock’s prospects. Though cash is real, it does not matter if the money is not used in the right way. For that, one needs to look at the company management and its growth prospects.

In the recent bull market, several cash-rich companies were under pressure from analysts and investors to deploy the money as shareholders considered higher cash levels harmed their interests.

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