Basic Fundamental Analysis: Essential Indicators to Get Started

Buying stocks without having a basic understanding of the company behind the ticker is like betting in the dark. Fundamental analysis exists precisely to bring rationality to this decision by assessing a company's financial health, profitability, and valuation before deciding whether it is worth investing in.

You don't need to be an economist or an accountant to start using key fundamental indicators. In this article, we'll introduce the essential concepts—P/E (P/L), P/B (P/VP), ROE, dividend yield, and net debt-to-EBITDA—in a straightforward way, so you can perform an initial screening of any stock listed on B3 (the Brazilian stock exchange).

P/E (P/L): How Much the Market Pays for the Company's Earnings

The Price-to-Earnings ratio (P/E, or P/L in Brazil) is probably the market's most frequently cited indicator. It is calculated by dividing the stock price by its earnings per share (EPS, or LPA in Brazil) over the trailing 12 months. A P/E of 10 means that, at the current price, it would take 10 years of current earnings to 'pay back' the amount invested in the stock, all else being equal.

A low P/E may indicate an undervalued stock, but it can also signal that the market expects future earnings to drop, or that the company faces structural problems. A high P/E may suggest an expensive stock, but it can also reflect expectations of rapid earnings growth.

The most common mistake is comparing the P/E ratios of companies across different sectors. Banking, retail, and tech companies have historically distinct P/E benchmarks. The proper approach is to compare a company's P/E to those of its direct peers in the same sector, as well as to the company's own historical average.

P/B (P/VP): Price in Relation to Equity

The Price-to-Book ratio (P/B, or P/VP in Brazil) compares the stock price to its book value per share—that is, the company's net equity divided by the total number of shares. A P/B of 1 means the stock is trading exactly at the company's book value.

A P/B below 1 can indicate that a stock is trading at a discount to its book value, but be careful: sectors like banking often trade near or above 1, while tech companies, which rely more heavily on intangible assets, can naturally have higher P/B ratios without necessarily being overvalued.

This indicator is particularly useful for evaluating banks and insurance companies, whose net equity directly drives their ability to generate profits through lending and investment operations.

ROE: The Company's Efficiency in Generating Returns

Return on Equity (ROE) measures how much profit a company generates relative to its net equity (shareholders' equity). An ROE of 15% means that for every R$ 100 in equity, the company generated R$ 15 in net income during the analyzed period.

This is one of the most critical indicators for assessing company quality because it highlights management's efficiency at turning equity capital into profit. Companies with consistently high ROE over the years typically possess durable competitive advantages, such as strong brand recognition, scale, or high barriers to entry.

It is important to examine ROE alongside the company's debt levels, as an artificially high ROE can result from high financial leverage—in other words, heavy debt—which increases risk in environments with rising interest rates or economic slowdowns.

Dividend Yield: Returns via Payouts

Dividend yield shows how much a company paid in dividends and JCP (juros sobre capital próprio / interest on equity) over the trailing 12 months relative to its current stock price. A dividend yield of 6% means that, at the current price, the investor received payouts equivalent to 6% of the share's value over that period.

Companies in more mature sectors—such as electric utilities, sanitation, and banking—typically offer higher and more consistent dividend yields because they distribute a larger share of their profits rather than reinvesting everything into growth. In contrast, expanding companies, such as many tech firms, usually reinvest their profits and pay little to no dividends.

Watch out for sudden, unusually high dividend yields: they are sometimes the result of a steep drop in the stock's price rather than a genuine increase in earnings distributions. It is essential to examine the company's payout history and the sustainability of the earnings backing those dividends.

Net Debt-to-EBITDA: Assessing Leverage

This indicator shows how many years of operating cash generation (EBITDA) the company would need to pay off its net debt if it directed all generated EBITDA toward that purpose. A multiple of 2x is generally considered manageable across most industries; above 3x or 4x typically raises a red flag, depending on the sector.

Capital-intensive sectors, such as energy and infrastructure, tend to operate with naturally higher leverage levels due to the long-term nature of their investments and contracts. Conversely, retail and tech companies are usually judged more strictly when this ratio rises, as they historically operate with lower leverage.

Combining this metric with ROE and P/E helps build a more comprehensive picture: a company may boast a high ROE, but if that return is fueled by excessive debt, the underlying financial risk is higher than it appears at first glance.

Conclusion

No single indicator tells the whole story of a company. P/E, P/B, ROE, dividend yield, and net debt-to-EBITDA work best when analyzed together, benchmarked against industry peers, and tracked over several years rather than just the most recent balance sheet.

Fundamental analysis doesn't guarantee success in every decision, but it substantially reduces the risk of buying a stock based purely on hype or outside tips, bringing greater discipline to the selection process.

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