The Curious Investor

When beginning to analyze a company based on fundamentals, nearly all the information you need is contained in The Three Sheets. The three sheets are the three major financial statements - the balance sheet, income statement, and statement of cash flows. These are must be reported by every publicly traded company as mandated by the SEC and audited by an independent accounting company. Financial statements tell the story of the company as a business. After all, the goal of any company, no matter what the industry, is to make make money. Understanding financial statements allows an investor to see just how good a company is at making money. Financial statements are found in SEC 10-K and 10-Q filings (known to most of us as annual reports and quarterly reports) and can also be found online in the EDGARonline database or on Yahoo!Finance (with information from the EDGAR database). I will be using Yahoo!Finance to describe the three sheets here. I’ll link to examples which will pop up in new windows.

Today, we’ll look at the Balance Sheet. The balance sheet does just what it says - it shows the balance of how much the company has, how much it owes, and how much should be left over for shareholders. In accounting terms, this is assets, liabilities, and shareholder’s equity respectively. The idea is rather simple, all of the things the company owns (its assets) minus all of the money the company owes (its liabilities) will leave us with how much money is left over for shareholders. It’s kind of similar to a net worth calculation. As a result, the balance sheet, by definition, balances. Let’s take a look at how all this is reported.

Assets
Current Assets - a listing of all the assets the company has that are liquid, can be converted to cash quickly. These are rather self explanatory- Cash and Cash equivalents, Short Term Investments, Net Receivables, Inventor, and Other Current Assets.

Long Term Investments - Investments a company holds for more than a year. Could also be stocks or bonds in other companies like short term investments. Also includes cash set aside for projects or real estate.

Property, Plant, and Equipment - The fixed assets of a company. All the buildings, real estate, office furniture, etc. that the company owns for itself. Typically speaking, this can’t be converted to cash quickly.

Intangible Assets - Value of exactly that, things the company owns that it can’t necessarily sell but have economic value like a brand, trademark, patent, etc.

Goodwill - An entry typically used to consolidate money spent to make an acquisition at a premium. The best way to define this is through an example. If company A buys company B, it usually will pay the current price of all the assets of the company and a premium. The money in excess of the asset value that is brought into the company is added to goodwill. Goodwill is must be taken out of the balance sheet by being “amortized” against earnings for up to 40 years. Basically, the company will have to report a lower amount in earnings and use the difference to subtract from the goodwill.

Deferred Long Term Asset Charges - Expenses the company has paid and will use over a period greater than a year. This allows the company to write down these expenses over time rather than take a one big hit to their earnings.

Other Assets - Any non-cash assets not covered in the above that are held over a year.

Liabilities
Current Liabilities - Debts a company owes and mustp ay within a year. This includes accounts payable (unpaid bills for products or services), accrued benefits or payroll (salaries and bonuses not yet paid), short and current long term debt (any cash debt the company owes), and other current liabilities.

Long Term Debt - Debt the company will not repay in the next year. This is the debt an investor is typically most interested in and the debt used to calculate the oft-used debt-to-equity ratio.

Minority Interest - If a company owns even part a subsidiary, all of its assets are consolidated on the financial statement. The amount not owned by the company then gets listed as a liability under this entry.

Deferred Long Term Liability Charges - Similar to deferred long term asset charges but in regards to money the company still owes rather than money the company has already paid for assets.

Other Liabilities - Miscellaneous debt the company owes. When reading a 10-K, you’ll typically find some listing describing these liabilities for further scrutiny.

Shareholders’ Equity
The networth of a company. Always equal to Total Assets - Total Liabilities. Some of this money is returned to shareholders, some of it is retained by the company. It can be divided into several categories. Often times, shareholders’ equity is described as the book value of the company. Book value, however, is somewhat different in that it is shareholders’ equity excluding all intangible items (things like goodwill don’t count). Shareholders’ equity is divided into the following categories:

Common Stock, Preferred Stock- The value of all shares of the company when they were paid in. This is listed either as par value or just the money brought in at initial offering.

Treasury Stock - The value of shares a company has bought back but decided not to retire. This accounts for the decrease in cash assets used to buy back stocks but shows that the company could decide to resell it.
Retained Earnings - When a company has profits, it can do two things. Pay it out to shareholders in the form of a dividend or keep it for reinvestment in the company. The second choice is recorded as retained earnings to let shareholders know how much of their money is being reinvested in the business.
Capital Surplus - Shareholder equity over and above the value listed for its common and preferred stock. This could come from the fact that the firm sold shares for much over the par value of its shares or simply from the increasing value of fixed assets on the balance sheet.

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