Snapshot of a Stock: The Balance Sheet

Step 1: Why Should I Study a Company's Financial Statements?

Snapshot Of A Stock: The Balance Sheet Splash image

Successful investing has no secret formula. A good strategy and a basic understanding of the rules of the game are required to do well in the long run. Since financial statements are basic tools of fundamental analysis, it is important to be able to read and analyze them.

Financial statements provide the means to measure the performance of the company and its management. These statements allow investors to compare one company's performance to other companies and industry norms. Items reported in the financial statements, such as sales, earnings, and cash flow, help value and growth investors gauge the worth of the stock price.

Classroom Steps

The amount of emphasis you place on various parts of financial statement analysis depends upon your viewpoint. A credit analyst extending a short-term, unsecured loan to a company might emphasize the firm's cash flow and liquidity. An investor with a growth strategy looking at stock may look closely at items that impact a firm's ability to produce future earnings. A value investor examining a distressed company may also concern himself with the financial structure of a firm to identify whether it has the resources to work its way through a difficult period. When working with financial statements, you must keep in mind that they are historical records and public information. Spending a great deal of time scrutinizing financial statements with the hope of finding hidden assets is generally not a productive use of spare time.

There are three primary financial statements—the balance sheet, the income statement, and the cash flow statement. The balance sheet indicates the current financial position of the firm. The income statement summarizes the sales and profit performance over a period of time, while the cash flow statement details the use and generation of cash over a period of time.

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