Every beginner in the world of finance first must learn and understand the fundamentals such as financial statements (balance sheets, income statements,s, and cash flows). Financial statements are formal records of the financial activities and position of a business in e period of time. Today we are going to show you two of the financial stamen. Let’s first discuss what is a balance sheet?
Balance sheets reflect a company's assets and its sources of the company in a given time from the beginning of existence. We have to consider that it’s like a picture in the present time, neither the past nor the moment after the balance sheet was made the company balance was the same, so just like a picture it captures that moment and after that moment something has already changed. We can’t discuss balance sheets without the basic accounting formula which follows:
ASSETS = LIABILITIES + OWNER’S EQUITY
So we are going to show you a balance sheet, here is a simplified example of company ABC:
(in 000 $)*
* in millions
**The brackets means a negative number -11.500
We sum up the underlines in the sheets ( 2021 year > 151.000+69.100 =220.100). As you can see both sides must be equal as the accounting formula above requires it: assets(left side)= liabilities + equity (right side). We are going to use equity and capital interchangeable so don’t get confused it’s the same thing.
Now we are going to show you what a very simple income statement: (000 $)
The income statement displays a view of the total revenue and expenses made via operations in the company in one year most often, to determine the financial result within that interval of one year. It is also a form of balance so we can also use a very simplified formula:
Revenue = Expenses + Income
You may wonder how we will use financial statements? Let’s see a couple of fundamental indicators you should know and understand more clearly. The numbers we will use are from the financial statements for the year 2021:
1. Liquidity indicator
2. Turnover ratio
3. Average period of liabilities payment
4. Stock(inventory) turnover ratio
5. Debt to asset ratio
6. Interest coverage
7. Operating profit margin ratio
8. ROA (return on assets)
9. ROE (return on equity )
As a task, you can calculate the ratios for 2020 and make a comparison. It’s best to compare two firms that are in the same industry to determine who is better.