3 Top Numbers You Should Care About in Financial Statements | Smart Switch: Personal Finance

(Stefon Walters)

A company’s financial statement gives you information about its business operations and financial performance. There are four main financial statements: income statements, balance sheets, statements of cash flows, and statements of stockholders’ equity. Each one tells you something different about a business, but when used together they give a great overall picture of a company’s financial health. Let’s look at three of the main numbers you should know about financial statements and what they mean.

1. Net income

Net income (or net earnings) is calculated by taking a business’s sales and subtracting the cost of goods sold (COGS), taxes, interest, operating expenses, administrative expenses, depreciation, and any other expenses. Ideally, you want this number to be positive because that means the business generates more revenue than it pays out in expenses.

People are also reading…

Net income is sometimes called a company’s bottom line because it’s at the bottom of its income statement. Knowing a company’s net income is important because it shows profitability, but it’s also important for calculating other numbers, such as earnings per share (EPS). A company’s EPS shows how much profit it made per share outstanding. If your net income is $1 million and you have 100,000 shares outstanding, your EPS is $10.

Image source: Getty Images.

2. Cash flow

Although cash flow looks similar to earnings, there are some key differences. Cash flow measures how much money goes into a business compared to how much money goes out. If more money comes in than goes out, the cash flow is positive; If more money goes out than comes in, the cash flow is negative. For investors, knowing a company’s cash flow is important because it is money the company can use to pay dividends, buy back shares, pay down debt, invest to grow its business, and make acquisitions.

It is especially important for investors interested in investing in companies that pay dividends. Ideally, you should look for companies that generate more cash flow than they pay in dividends. If a company is paying out more dividends than it has in cash flow, you need to be careful. In addition to showing short-term problems or misguided priorities, it is a sign that there is a greater chance that the company could cut the dividend in the future.

You can find the cash flows at the bottom of the operating activities section of the statement of cash flows.

3. Gross margin

A company’s gross margin tells you how much money it has after accounting for the direct cost of producing any goods or services it sells. You can find a company’s gross margin by taking its sales and subtracting COGS. The higher the gross margins, the better because it means a company is earning more and can use that money for other financial obligations. When using COGS, labor costs and the costs of any particular materials used to make the products must be included.

If a company generates $500,000 in revenue selling products that cost $300,000, their gross margin would be 40%. When looking at a company’s margins, it’s best to compare it to a company within its industry because margins vary widely by industry. Airline and grocery store businesses are notoriously low-margin, for example. It would be misleading to compare those margins with a software company, which typically has higher margins due to its low COGS.

The fact that a company has higher margins does not make it a better investment either. A business might have 80% margins, but if you only have occasional sales, it may not be a better investment than a business with 10% margins and a steady stream of sales.

10 Stocks We Like Better Than Walmart

When our award-winning team of analysts has investment advice, it’s worth listening to. After all, the newsletter they have published for over a decade, Motley Fool Stock Advisorhas tripled the market.*

They just revealed what they think are the top ten stocks for investors to buy right now…and Walmart wasn’t one of them! That’s right, they think these 10 stocks are even better buys.

Stock Advisor returns as of 02/14/21

The Motley Fool has a disclosure policy.

Add Comment