Understanding Financial Statements
Before investing you should have an excellent understanding of how to read and understand what you’re reading when it comes to financial statements. They show you where a company’s money came from, where it went, and where it is now. Look at each of the financial statements in more detail before you invest, another way to being smart about your finances is look into refinancing your home loan. With mortgage rates today at record low rates chances are you get get a lower mortgage rate and save tens of thousands if not hundreds of thousands of dollars in interest payments especially if you refinance to a short term mortgage like a 15 year mortgage.
A balance sheet shows a snapshot of a company’s assets, liabilities and shareholders’ equity at the end of the reporting period.People often call this “the bottom line, as with refinance rates are near bottom as well. At the top of the income statement is the total amount of money brought in from sales of products or services. Current mortgage rates and deposit rates like CD rates are at record lows so if you’re borrowing money your in luck but if you are a depositor living off of invest income your out of luck with low CD rates and savings account rates.
This could be due, for example, to sales discounts or merchandise returns.The fourth financial statement, called a “statement of shareholders’ equity,” shows changes in the interests of the company’s shareholders over time. Mortgage rates todays are increadibly low fueling balance sheets show what a company owns and what it owes at a fixed point in time.This is often called “income from operations.
Depreciation takes into account the wear and tear on some assets, such as machinery, tools and furniture, which are used over the long term.An income statement also shows the costs and expenses associated with earning that revenue.This tells you how much the company earned or lost over the period.
Income statements also report earnings per share (or “EPS”).Assets are generally listed based on how quickly they will be converted into cash.Balance Sheets A balance sheet provides detailed information about a company’s assets, liabilities and shareholders’ equity.Sometimes companies distribute earnings, instead of retaining them.
Most companies expect to sell their inventory for cash within one year.Some income statements show interest income and interest expense separately.They show you the money.The “charge” for using these assets during the period is a fraction of the original cost of the assets.They are: (1) balance sheets; (2) income statements; (3) cash flow statements; and (4) statements of shareholders’ equity.
These are expenses that go toward supporting a company’s operations for a given period – for example, salaries of administrative personnel and costs of researching new products.The following formula summarizes what a balance sheet shows: ASSETS = LIABILITIES + SHAREHOLDERS’ EQUITY A company’s assets have to equal, or “balance,” the sum of its liabilities and shareholders’ equity.Income statements show how much money a company made and spent over a period of time.
If you can follow a recipe or apply for a loan, you can learn basic accounting.Long-term liabilities are obligations due more than one year away.It’s considered “gross” because there are certain expenses that haven’t been deducted from it yet.Although these lines can be reported in various orders, the next line after net revenues typically shows the costs of the sales.Net profit is also called net income or net earnings.A good example is inventory.
Finally, income tax is deducted and you arrive at the bottom line: net profit or net losses.This top line is often referred to as gross revenues or sales.Usually they reinvest them in the business.Next companies must account for interest income and interest expense.Interest income is the money companies make from keeping their cash in interest-bearing savings accounts, money market funds and the like.On the right side, they list their liabilities and shareholders’ equity.Current liabilities are obligations a company expects to pay off within the year.Jerry Maguire, “Show me the money”.
The basics aren’t difficult and they aren’t rocket science.At each step, you make a deduction for certain costs or other operating expenses associated with earning the revenue.This tells you how much the company actually earned or lost during the accounting period.Then you go down, one step at a time.Noncurrent assets include fixed assets.
This calculation tells you how much money shareholders would receive for each share of stock they own if the company distributed all of its net income for the period.Liabilities also include obligations to provide goods or services to customers in the future.It’s called “net” because, if you can imagine a net, these revenues are left in the net after the deductions for returns and allowances have come out.
This calculation tells you how much money shareholders would receive if the company decided to distribute all of the net earnings for the period.This leftover money belongs to the shareholders, or the owners, of the company.Companies spread the cost of these assets over the periods they are used.To understand how income statements are set up, think of them as a set of stairs.These distributions are called dividends.
The next section deals with operating expenses.On the other hand, interest expense is the money companies paid in interest for money they borrow.It’s the money that would be left if a company sold all of its assets and paid off all of its liabilities.Depreciation is also deducted from gross profit.Let’s begin by looking at what financial statements do.Assets include physical property, such as plants, trucks, equipment and inventory.
It does not show the flows into and out of the accounts during the period.Some income statements combine the two numbers.After all operating expenses are deducted from gross profit, you arrive at operating profit before interest and income tax expenses.The next line is money the company doesn’t expect to collect on certain sales.
This typically means they can either be sold or used by the company to make products or provide services that can be sold.So are investments a company makes.Shareholders’ equity is the amount owners invested in the company’s stock plus or minus the company’s earnings or losses since inception.It will not train you to be an accountant (just as a CPR course will not make you a cardiac doctor), but it should give you the confidence to be able to look at a set of financial statements and make sense of them.
Liabilities are amounts of money that a company owes to others.Earnings Per Share or EPS Most income statements include a calculation of earnings per share or EPS.Noncurrent assets are things a company does not expect to convert to cash within one year or that would take longer than one year to sell.This brochure is designed to help you gain a basic understanding of how to read financial statements.And cash itself is an asset.To calculate EPS, you take the total net income and divide it by the number of outstanding shares of the company.
This process of spreading these costs is called depreciation or amortization.Just as a CPR class teaches you how to perform the basics of cardiac pulmonary resuscitation, this brochure will explain how to read the basic parts of a financial statement.This number tells you the amount of money the company spent to produce the goods or services it sold during the accounting period.Assets are things that a company owns that have value.
When you subtract the returns and allowances from the gross revenues, you arrive at the company’s net revenues.At the bottom of the stairs, after deducting all of the expenses, you learn how much the company actually earned or lost during the accounting period.Current assets are things a company expects to convert to cash within one year.
Income Statements An income statement is a report that shows how much revenue a company earned over a specific time period (usually for a year or some portion of a year).Operating expenses are different from “costs of sales,” which were deducted above, because operating expenses cannot be linked directly to the production of the products or services being sold.
A company’s balance sheet is set up like the basic accounting equation shown above.The interest income and expense are then added or subtracted from the operating profits to arrive at operating profit before income tax.Moving down the stairs from the net revenue line, there are several lines that represent various kinds of operating expenses.There are four main financial statements.
This can include all kinds of obligations, like money borrowed from a bank to launch a new product, rent for use of a building, money owed to suppliers for materials, payroll a company owes to its employees, environmental cleanup costs, or taxes owed to the government.Did the company make a profit or did it lose money?It’s called “gross” because expenses have not been deducted from it yet.
Fixed assets are those assets used to operate the business but that are not available for sale, such as trucks, office furniture and other property.Sometimes balance sheets show assets at the top, followed by liabilities, with shareholders’ equity at the bottom.Cash flow statements show the exchange of money between a company and the outside world also over a period of time.Companies almost never distribute all of their earnings.It also includes things that can’t be touched but nevertheless exist and have value, such as trademarks and patents.
If you can read a nutrition label or a baseball box score, you can learn to read basic financial statements.The next line subtracts the costs of sales from the net revenues to arrive at a subtotal called “gross profit” or sometimes “gross margin.Liabilities are generally listed based on their due dates.On the left side of the balance sheet, companies list their assets.The literal “bottom line” of the statement usually shows the company’s net earnings or losses.Liabilities are said to be either current or long-term.
You start at the top with the total amount of sales made during the accounting period.Cash Flow Statements Cash flow statements report a company’s inflows and outflows of cash.Well, that’s what financial statements do.So the number is “gross” or unrefined.Marketing expenses are another example.Shareholders’ equity is sometimes called capital or net worth.