3 Top Numbers You Should Care About on Financial Statements | Smart Change: Personal Finance

(Stefon Walters)

The annual accounts of a company provide you with insight into the business operations and financial performance. There are four major financial statements: income statements, balance sheets, cash flow statements, and statements of equity. Each tells you something different about a company, but they give a good overall picture of a company’s financial health when used together. Let’s take a look at three of the most important numbers you need to know about financial statements and what they mean.

1. Net Income

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

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Net income is sometimes referred to as a company’s operating income because it is at the bottom of the income statement. It is important to know a company’s net income because it is profitable, but it is also important to calculate other numbers such as earnings per share (EPS). A company’s earnings per share shows how much profit it has made per share outstanding. If their net income is $1 million and they have 100,000 shares outstanding, their earnings per share is $10.

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2. Cash flow

While cash flow resembles profit, there are some key differences. Cash flow measures how much money is coming in versus going out. If more money is coming in than going out, the cash flow is positive; if more money goes out than comes in, the cash flow is negative. It is important for investors to know a company’s cash flow because that is money that the company can use to pay dividends, buy back shares, pay off debt, invest in the growth of the company and to make acquisitions.

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

Cash flows can be found at the bottom of the operating activities section of the cash flow statement.

3. Gross margin

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

If a company generates $500,000 in revenue by selling products that cost $300,000 to make, the gross margin would be 40%. When you look at a company’s margins, it’s best to compare it to a company within its industry, because margins vary widely by industry. For example, airlines and supermarkets have notoriously low margins. It would be misleading to compare those margins to a software company, which tends to have higher margins due to its low COGS.

Just because a company has higher margins doesn’t make it a better investment. A company may have 80% margins, but if it only has occasional sales, it may not be a better investment than a company with 10% margins and a steady stream of sales.

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