C a n Yo u Ma k e Mo n e y An a l y z i n g S t o c k s?

Analysis of Financial

Statements

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CHAPTER

85

For the past 40 years, a debate has raged over
the question posed above. Some argue that the
stock market is highly efficient and that all avail-
able information regarding a stock is already
reflected in its price. The “efficient market advo-
cates” point out that there are thousands of
smart, well-trained analysts working for institu-
tions with billions of dollars. These analysts have
access to the latest information, and they spring
into action—buying or selling—as soon as a
firm releases any information that has a bearing
on its future profits. The “efficient markets advo-
cates” also point out that few mutual funds,
which hire good people and pay them well,
actually beat the averages. If these experts earn
only average returns, how can the rest of us
expect to beat the market?
Others disagree, arguing that analysis can
pay off. They point out that some fund manag-
ers perform better than average year after year.
Also, they note that some “activist” investors
analyze firms carefully, identify those with weak-
nesses that appear to be correctable, and then

persuade their managers to take actions to

improve the firms’ performances. One such

investor is Warren Buffett, perhaps the best

known U.S. investor. Another is Carl Icahn—not

a household name, but someone whose invest-

ments have made him the 18th wealthiest

American. Buffett and Icahn now have billions of

dollars to work with, and those billions give

them better access to corporate managers than

most of us have. However, neither of them

started as billionaires—they worked their way

up, doing careful analysis of the type described

in this chapter.

When investors learn that an activist investor

such as Icahn has bought a stock, the price of

that stock generally rises. Thus, in the fall of

2007, Icahn began buying shares in BEA Sys-

tems, a billion dollar software company, that

had been selling for about $10.50. Once inves-

tors learned of Icahn’s interest, the price jumped

to $18.94. You can bet that Icahn and his staff

went through the type of analysis discussed in

this chapter, identified BEA’s strengths and