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1. Cash Flow Statement

The cash flow statement shows cash flows into and out of the company. It includes:
 

Capital Expenditures

Capital expenditures are money spent by a business to purchase assets. It is important to differentiate between maintenance capital expenditures and growth capital expenditures. Maintenance capital expenditures should approximate depreciation over the long run. Growth capital expenditures are funds spent on expanding the business.
 

Operating Cash flow & Cash Flow from Operations

Operating cash flow (also called cash flow from operations) is on the statement of cash flows. Operating cash flow shows a company’s cash flows from its normal operations. It does not include depreciation and amortization, as well as other non-cash charges.

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Free Cash Flow

Free cash flow is calculated as operating cash flow minus capital expenditures. It is a cash based measure that does not suffer from the issues of accrual based accounting. Many investors prefer free cash flow to earnings.  

The issue with free cash flow is determining the level of maintenance capital expenditures to growth capital expenditures. Free cash flow can penalize businesses which are investing heavily in growth. It is also more variable from year to year than earnings.

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2. Income Statement

The income statement has the single most important financial report in today’s business world. It is a good starting point when analyzing a business.

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Revenue

Revenue comes before earnings. Revenue is also known as sales or the ‘top line’. It is the amount of money generated from the sale of a product or service. If revenue is increasing that shows an increased demand for a company’s products/services. Declining revenue shows the opposite.

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Expenses

Expenses are the opposite side of revenue. Revenue less expenses equals profit. Expenses are all the costs a business has (including taxes, interest, payroll, research and development, cost of goods sold, etc).

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Depreciation

Depreciation is the reduction in value of an asset over time due to normal wear and tear. As an example, your car will be worth less next year than it is worth today. This decrease in value over time is expensed as depreciation in accounting. The depreciation of intangible assets is called amortization.

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Earnings & Adjusted Earnings

You cannot calculate the price-to-earnings ratio without earnings. Earnings go by many names:

• Earnings

• Profits

• The-bottom-line

• Net profit

Earnings are what is left over after all expenses – including interest and taxes – are paid.

Earnings are a GAAP measure (generally accepted accounting principles). Corporations will often adjust earnings for 1 time or unusual expenses. These may include lawsuits, restructuring charges, or acquisition costs.

When used correctly, adjusted earnings show a corporations ongoing earnings power. Corporate management will sometimes use adjusted earnings to hide real problems in the business. Both earnings and adjusted earnings should be scrutinized before being blindly accepted.

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Earnings-Per-Share

Earnings-per-share is total earnings dividend by total share count. It shows the amount of profit over the last 12 months that was generated for each share.

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Gross Margin

Gross margin is gross profit divided by revenue. Gross profit is revenue minus cost of goods sold. Gross margin tells you what percentage of revenue a business keeps before paying any expenses other than the cost of goods.

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Operating Margin

Operating margin is operating profit divided by revenue. Operating profit includes most expenses, but does not include interest or taxes. Operating margin gives picture of the profitability of a business without obscuring earnings power with interest expenses or differences in taxes.

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Net Margin or Net Profit Margin

Net margin is net income divided by revenue. It is the ‘bottom line’ number that shows what percentage of every dollar in revenue a company keeps after accounting for all expenses.

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Balance Sheet

The balance sheet shows the current position of a business, including cash, debt, and assets. It gives a snapshot of the financial state of a business.

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Assets

An asset is property (including intangible property) that has value and could likely be used to meet debts, commitments, or liabilities. Examples include current assets, land, equipment, goodwill, patents, and vehicles (among many others).

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Current Assets

Current assets are a subset of assets. The definition of a current asset is any balance sheet item that can be expected to be converted into cash within one year. Examples include: cash, cash equivalents, marketable investments (like publicly traded stocks), accounts receivable, and inventory, among others.

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Liabilities

Liabilities are future obligations a business is likely to owe. They are the opposite of assets. Examples of liabilities include current liabilities and long-term debt.

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Current Liabilities

Current liabilities are the opposite of current assets. Current liabilities are obligations that are reasonably expected to be paid within one year. Examples include short-term debt and accounts payable.

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Debt

The term ‘debt’ is used interchangeably in accounting, finance, and investing. It often refers specifically to bonds, credit lines, and other borrowings. Occasionally debt is used as a synonym for liabilities, as is the case in the debt to equity ratio.

Equity

Equity is assets minus liabilities. It is a quick way to broadly gauge the overall built up value in a corporation. In general, more equity is better than less equity. Equity is also called book value.