Financial Statement Analysis

The first part of this tutorial gives you an insight important financial report documents – income statements and cash flow statements – readily available to all investors. Financial statements are a disclosure of a company’s financial performance. Understanding the meaning of these financial reports and interpreting important components of the data will help identify the quantitative strengths and weaknesses of the company being investigated. All investors need to be able to pick out the strong warning signs and uncover the not-so-obvious strengths hidden in the pages of a financial report.

Too often, unknowing investors judge the potential of a stock based solely on the performance of the stock trading on the market. These investors miss the strong relationship between the value of the company and the value of its shares.

The Income Statement is so named because it shows how much revenue a company has generated, what it did with that revenue, and the resulting amount of profit created over the length of time stated in the heading. The Income Statement is sometimes called a Profit and Loss Statement or a Statement of Revenue and Expense, but they all represent the same data.

profit = Revenue – Expenses

The Balance Sheet is so named because it has two sides, which must balance out. On the left or asset side, are listed all of things the business posses and listed on the right all the things it owes, (liabilities) or has received from shareholders in the form of contributions, plus retained profits, both of which are known as equity. The numbers recorded on a Balance Sheet are all taken at the same point in time, so it is an accurate account of what a company owns and owes on the particular date shown in the heading.

Assets = Liabilities + Shareholder Equity

These two statements are used in tandem to present a complete picture of corporate finances.

The Cash Flow Statement is the third important financial document of interest to investors. It captures the record of cash movements or cash coming into and out from a company over the period of time stated on the document heading. At this point, it may appear cash flow is a duplication of the information found on the Income Statement, but it is not. It focuses on cash generated from day to day business operations (Operating Cash Flow), cash invested in the acquisition of assets and the revenue from the disposition of assets (Cash From Investing), and cash paid for the borrowing of funds or received from the loaning of funds (Cash For Financing).

The Statement of Cash Flows fixes a time line to the movement of cash, showing historical high and low points of cash liquidity and the precise amount of “cash in the bank” on the day of its preparation. Unlike other financial statements, there is not any room for inventive accounting to “fudge” the cash position of a company, so investors should look to it as a reliable measure of financial well-being.