As an in­vestor, you want to read a com­pany’s in­te­grated re­port, which in­cludes com­men­tary from man­age­ment telling you about the year that has passed and plans for the year ahead. How­ever, in­cluded in the in­te­grated re­port are the com­pany’s an­nual fi­nan­cia

CityPress - - Business -

Agood rule of thumb when look­ing at the in­come state­ment, the bal­ance sheet, or the cash flow state­ment is to look for changes that seem out of the or­di­nary from year to year in any cat­e­gory.

For ex­am­ple, on the in­come state­ment, look first at rev­enues or op­er­at­ing in­come to de­ter­mine if they went up or down.

If they in­creased, did they in­crease faster than last year and/or faster than the rate of in­fla­tion?

If sales lagged be­hind in­fla­tion, this could in­di­cate the com­pany may be hav­ing dif­fi­culty sell­ing its prod­ucts.

On the cash flow state­ment, look to see if cash has been in­creas­ing or de­creas­ing over the past sev­eral years.

Look for other cat­e­gories where the num­bers seem out of line.

For ex­am­ple, has the com­pany’s cash de­clined be­cause the firm has launched an ag­gres­sive stock buy­back pro­gramme, or in­vested in cap­i­tal equip­ment that will yield fu­ture cash flows?

Ac­counts payable: Ac­counts payable are obli­ga­tions that re­sult from the ac­qui­si­tion of goods and ser­vices. Payables in­clude pur­chases of raw ma­te­ri­als – sup­plies, ser­vices, etc – on credit.

Ac­crued ex­penses or ac­crued li­a­bil­i­ties: These are amounts owed for goods or ser­vices whose ben­e­fits have been re­ceived but will be paid for in the fu­ture. Typ­i­cal ac­crued ex­penses are pay­roll, pay­roll taxes, prop­erty taxes, rent, roy­al­ties, in­ter­est, com­mis­sions, etc.

Pref­er­ence shares: Some com­pa­nies sell pref­er­ence shares, which dif­fer sig­nif­i­cantly from com­mon stock. Pref­er­ence share­hold­ers are en­ti­tled to re­ceive a fixed div­i­dend be­fore com­mon hold­ers, and have a pri­or­ity in case the com­pany is liq­ui­dated.

Re­tained earn­ings or rein­vested earn­ings: When a com­pany makes prof­its, it can rein­vest the funds or re­turn them to the own­ers (stock­hold­ers) as div­i­dends. Re­tained earn­ings (some­times called ac­cu­mu­lated undis­tributed net in­come) are prof­its that have been rein­vested since the com­pany was founded. If the com­pany ex­pe­ri­ences a loss for a quar­ter or year, it dips into re­tained earn­ings to cover the dif­fer­ence.

The bal­ance sheet and in­come state­ment re­flect the com­pany’s per­for­mance un­der the ac­crual method (think of it as a way of keep­ing score.) But to get an ac­cu­rate pic­ture of the com­pany, you need to know how it is han­dling its cash.

3THE CASH FLOW STATE­MENT shows how cash moved through the com­pany over the year and lets you see if the com­pany’s cash po­si­tion in­creased or de­creased. It presents data for the past three years. Key com­po­nents of the cash flow state­ment are:

Op­er­at­ing ac­tiv­i­ties: This cat­e­gory fo­cuses on what the com­pany does as a busi­ness, and ex­cludes in­vest­ing and fi­nanc­ing ac­tiv­i­ties.

The pri­mary en­try for op­er­at­ing ac­tiv­i­ties is net in­come.

In­vest­ing ac­tiv­i­ties: This re­flects pay­ments for ac­quir­ing and dis­pos­ing of long-term pro­duc­tive as­sets or busi­nesses, and se­cu­ri­ties that are not con­sid­ered cash equiv­a­lents.

Fi­nanc­ing ac­tiv­i­ties: This re­flects the is­su­ing or re­pur­chas­ing of stock and debt, and pay­ing of div­i­dends.

Net change in cash and equiv­a­lents: in­crease or de­crease in cash for the year.

Bal­ance at be­gin­ning of the year: Cash bal­ance at the start of the year.

Bal­ance at the end of the year: the end of the year.

Free cash: This is one of the most im­por­tant num­bers for ex­ec­u­tives and an­a­lysts, yet you will see it on very few cash flow state­ments. You will find it in the glossy pages of the an­nual re­port for a few com­pa­nies.

Free cash refers to the cash that is left af­ter a com­pany main­tains its pro­duc­tive ca­pac­ity by do­ing things such as mod­ernising plants by pur­chas­ing new equip­ment or buy­ing an­other busi­ness.

Free cash is ob­vi­ously es­sen­tial for a com­pany’s abil­ity to ex­pand ac­tiv­i­ties, pay down debt, etc. There is no one way to cal­cu­late free cash, al­though a com­mon for­mat in­volves sub­tract­ing cap­i­tal ex­pen­di­tures from cash from op­er­a­tions. Shows the Cash bal­ance at

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