Friday, 25 March 2016

Balance Sheet & Cashflow - summarized definition

I have decided to free this content up from being a Page into a Post so I could put my page space to better use, akan datang. Nevertheless this is very important stuff to make sense of the annual reports that the companies you invest in would send yearly.

Making sense of a company's Balance sheet - it should all balance up

In a Balance sheet there's two parts of equivalent values:

1) Total Assets $ =
2) Total liabilities and Equity

This is because Equity = Total assets - Total liabilities, so both values would be the same.

Equity is also known as net asset or net worth of a company. It comprises of two parts - Retained earnings and Treasury stocks

Reference: http://news.morningstar.com/classroom2/course.asp?docId=145091&page=7&CN=

An important ratio that you can derive from here is this:

Current asset / Liabilities

If it's more than 1.5, the company is generally doing okay (not neck-high in debt).


Statement of Cash flow - show me the money

Cash flow is important because it tells you how much cash a company generates. If a company makes profit but did not generate any spare cash in the process, it might spell financial trouble ahead.

Cash flow statement has three parts:

1) Operating activiities

2) Investing activities

3) Financing activities

Free Cash Flow = Cash from Operations - Capital Expenditures

Reference: http://news.morningstar.com/classroom2/course.asp?docId=142913&CN=COM&page=4

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Just bear in mind that sometimes things are not as simple as they look because there is such a thing call 'financial engineering' where some figures could be created to make things look good and yet legit. For example, manipulation of ROE through aggressive stock buybacks despite in high debt, no re-evaluation of company's fixed asset etc.

Also look out for any third-party related transactions and look out for exceptionally big figure of good wills. These would require more in-depth reading for a good understanding.

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