There are some very useful observations to make from financial statements of the company, which can give a big insight of the company
What should we keep in mind while putting money? We should make a detailed PPT/word document with the following details
- Name of the stock and your purchase price
- Reason for investment in that stock
- What is our expectation from the investment?
As we know the key section of the annual report Is the P&L account, balance sheet, and the most important, cash flow statement
The cash flow statement consists of 3 things
- Cash flow from operating activities (important)
- Cash flow from investing
- Cash flow from financing activities
If sales are increasing, check movement in receivables, it will give a brief idea about the sales of the company
If receivables are increasing with an increase in sales, then it may happen that the company is selling product with an extending credit period or if trade receivables are decreasing with an increase in sales, companies are doing great at collecting money from debtors
Some more parameters which are helpful are
- Interest rate vs net profit
- Promoter unpledged holding in the company
- Receivable trend
We should always have a look at management discussion and analysis to see whether they are implementing what they promised? – i.e. are they walking the talks?
If management is taking away from the realty like throwing big industry numbers/future growth this may be the negative approach and if management is elaborating risk while talking about opportunities, conservative in approach this may be a positive approach. Also, look at the result of the operation, change in financial condition, and Risk management strategies.
“Warning- These days annual report is also written by the IR companies. They may use the language/terminologies that are liked by investors. So, beware. Important to see what was said in the previous year and what is delivered”
What should be checked in the P&L account
- Sales trends
- Operating performance
- Interest components
- Tax paid
- Dividend payout ratio
What should be checked in the balance sheet?
- Equity dilution
- Share capital(equity/preferential)
- Borrowing (ST/LT) vs interest component from the previous year
What should be checked in Cashflow?
- CFO vs Net Income (1:1 is healthy)
- Working Capital changes
- Taxes paid vs tax in P&L
- CFI Trend
- CFF trend
Independent director should have the knowledge of the field
If the company’s profit is increasing but its CFO is not, and if the company has a poor shareholding pattern or has more pledging by the promoter or taking more debt, it may result in the worst
If the CFO/ Net Profit ratio of the company is higher than 1:1, it is a good company
When an acquisition occurs, what is risky?
- Big acquisition
- Foreign co.
- Such news with frenzy behavior more often leads to disappointment later, need to be very careful