A Quick Guide to the Eight Pillar Stock Analysis Process

I call this method the Eight Pillar Process. It provides a high-level view of a business and helps screen potential investments before diving deeper. Let’s take a closer look at each of these eight pillars using Microsoft as an example.

1. Five-Year PE Ratio (< 22.5)

The first step is to look at the five-year price-to-earnings (PE) ratio. To calculate this, I take the current market cap of the company (Microsoft’s is $3.22 trillion) and divide it by the total earnings over the past five years. You can find these numbers by adding up the company’s net income from each year. If the result is below 22.5, it gets a check. If it’s higher, it’s marked with an X.

2. Five-Year Return on Invested Capital (ROIC)

ROIC measures how efficiently a company uses its capital to generate profits. For this, I take the last five years’ free cash flow and divide it by the company’s total equity and debt. A higher ROIC indicates a strong company with a competitive advantage.

3. Shares Outstanding

I compare the company’s shares outstanding from the last quarter to five years ago. If the number has decreased, that’s a check; if it has increased, it’s an X. Lower shares outstanding are better for investors, as it means your ownership stake isn’t being diluted.

4. Cash Flow Growth (Last 5 Years)

Has the company’s cash flow grown over the past five years? If the cash flow over the last 12 months is higher than it was five years ago, the company gets a check.

5. Net Income Growth (Last 5 Years)

Similar to cash flow growth, this pillar checks if net income has increased over the past five years. If the last 12 months show higher net income than five years ago, it’s a positive indicator.

6. Revenue Growth (Last 5 Years)

This pillar is straightforward—has revenue grown in the last five years? For Microsoft, the answer is yes, so it gets a check. Growth in revenue indicates a company is expanding and likely has increasing demand for its products or services.

7. Long-Term Liabilities (< 5x 5-Year Free Cash Flow)

Here, I measure how easily a company can pay off its long-term liabilities. I divide the total long-term liabilities by the average free cash flow from the past five years. If the result is below five, it’s a check. For Microsoft, this figure is around two, meaning the company could pay off all its long-term liabilities with just two years’ worth of free cash flow—an excellent indicator of financial health.

8. Five-Year Price-to-Free Cash Flow (< 22.5)

Finally, I calculate the price-to-free cash flow ratio, similar to the PE ratio. I take the current market cap and divide it by the total free cash flow from the last five years. If the result is less than 22.5, it’s a check.

Analyzing Microsoft’s Results

For Microsoft, most of these pillars are checks, indicating it’s a well-run company with low debt and strong cash flow growth. However, the stock price may be high, which raises questions about whether they’ve been buying back shares at an elevated valuation. This brings us to a critical point: the story behind the numbers. The Eight Pillars give you a quick snapshot, but you still need to ask questions like whether the company is buying back shares at high prices or whether their high valuation is justified by future growth potential.

The Stock Analyzer Tool

After completing the Eight Pillars, my next step is the Stock Analyzer Tool. This tool simplifies the investment process by allowing you to input assumptions about future growth, profit margins, free cash flow, and desired returns. It analyzes the data and gives you a clearer picture of whether the stock is a good buy.

For example, let’s revisit Microsoft. The current stock price is $405, and my fair value estimate using the Stock Analyzer Tool is between $325 and $350. While it’s close, it’s still slightly overvalued at present. That’s when you decide whether to wait for a price drop or dive deeper into further research.

Simplicity Is Key

The goal is to keep the investment process simple. With over 10,000 companies out there, you need to be efficient with your time. The Eight Pillars help weed out companies that don’t meet your criteria, allowing you to focus on the ones worth further investigation.

If you’re interested in making better financial decisions, the Everything Money community and software can help you do just that. We’ve grown significantly, and the tools available today have evolved from simple spreadsheets to comprehensive resources for stock, retirement, and real estate analysis.

Conclusion

Investing doesn’t have to be complicated. By using tools like the Eight Pillars and the Stock Analyzer, you can quickly screen companies, ask the right questions, and make better investment decisions. 

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