Simple Techniques for Reading Financial Statements to Evaluate a Company’s Potential Before Making Investment Decisions

Reviewing the performance of a listed company helps determine whether its business results are likely to grow or decline, making it a crucial factor in investment decision-making. If you are planning to become an investor or want to understand how to read financial statements, it is essential to learn and comprehend the four main components of financial statements as follows:

1. Statement of Financial Position (Balance Sheet) 

A report that reflects a company’s wealth and financial stability, showing whether the business is profitable or in deficit. It presents details of assets, liabilities, and shareholders’ equity, clearly indicating the company’s overall financial position. Key points to consider include:

• Business Liquidity: A company should have current assets greater than current liabilities, which indicates its ability to settle short-term debts efficiently.
• Asset Quality: Assets should be capable of generating income and providing returns to shareholders — such as cash, trade receivables, inventories, land, buildings, and equipment.
• Business Stability: Consider the Debt-to-Equity Ratio (D/E Ratio) — generally, a stable business should have a D/E Ratio not exceeding 2 times. However, in certain industries such as commercial banking and insurance, where funding is primarily derived from liabilities (e.g., deposits) and lent out as assets, the D/E Ratio can be as high as 5–10 times.
• Unappropriated Retained Earnings:It refers to retained earnings and net profit from the current accounting period that have not yet been allocated. If the balance shows an accumulated loss, it will appear in the financial statements in parentheses and be labeled as “Accumulated Loss”.

2. Income statement

This report reflects a company’s operational performance, providing an overview of its revenue, expenses, costs, and profits, which indicate its operational efficiency and potential future profitability trends. For accurate analysis, investors should consider the following information:

• Revenue :A good business should show consistent growth in core business revenue, which can be monitored through quarterly financial reports. Revenue from sales and services should exhibit a steady upward trend over time.
• Extraordinary Income:This refers to income that does not arise from regular business operations, such as gains from asset sales. If such income occurs in a particular quarter, it may cause the company’s performance to appear temporarily improved. However, extraordinary income is usually non-recurring and does not contribute to long-term financial stability, so it should be considered with caution.

3. Cash flow statement

This report shows the financial liquidity of a business by providing information on actual cash movements, which differs from the income statement that records transactions on an accrual basis and does not reflect real cash inflows and outflows. The cash flow statement is therefore crucial for assessing a company’s ability to operate continuously and is divided into three main sections as follows:

• Net Cash Flow from Operating Activities: Shows the inflow and outflow of cash from core business operations. The figure should ideally be positive, indicating that the company can generate and retain cash from its operations. If it is negative, it means the business is not generating sufficient cash flow from its operations.
• Net Cash Flow from Investing Activities: Represents cash spent on investments, such as purchasing land, buildings, or equipment. A negative figure is generally a positive sign, indicating that the company is investing to generate future returns and expand its business operations.
• Net Cash Flow from Financing Activities: Represents the movement of cash from financing activities, such as borrowing funds or increasing registered capital. A negative figure indicates that the company is using cash to pay dividends or repay debts, which is a sign of good debt management capability. Conversely, a positive figure means the company has received cash from new loans or capital raising, which may reflect a need for additional funding.

4.Notes to the Financial Statements

It is an essential section that explains the details and sources of figures in the financial statements, providing additional information to help readers gain a clearer and deeper understanding of the company’s overall financial picture. This section generally includes the following key parts:

• Overview of Accounting Policies: Shows the accounting policies adopted by the company, explaining the general principles and methods used in accounting before detailing other sections, to ensure a clear understanding of how the financial statements are prepared.
• Depreciation Method: Because methods for calculating asset depreciation may vary, reviewing only the financial statements is not sufficient. It is therefore necessary to refer to the Notes to the Financial Statements, which provide detailed explanations of the depreciation calculation methods used by the company.
• Accounts Receivable Details: Looking only at the trade receivables figure may not be sufficient to assess a company’s financial position. The Notes to the Financial Statements provide deeper insights — such as the aging of receivables and the risk of collection — which help evaluate the company’s appropriateness and reliability as a creditor.
• Accounts Payable Details: The main financial statements show only short-term and long-term liabilities, but the Notes to the Financial Statements provide detailed information on the composition of liabilities, such as the breakdown of individual debt components and details about debentures or bonds (if any). : ในงบการเงินหลักจะแสดงข้อมูลเฉพาะหนี้สินระยะสั้นและระยะยาวเท่านั้น แต่ในหมายเหตุประกอบงบการเงินจะลงรายละเอียดเกี่ยวกับองค์ประกอบของหนี้สิน เช่น การแยกหนี้เป็นก้อน ๆ และข้อมูลเกี่ยวกับหุ้นกู้ (ถ้ามี)
• Investments and Shareholdings in Other Companies: Investment information is usually included under non-current assets in the main financial statements, but the Notes to the Financial Statements provide detailed disclosures about which companies the business has invested in, the percentage of shareholding, and the type of investment income received, such as dividends.
• Intangible Assets Details: Such as copyrights, patents, and trademarks — the Notes to the Financial Statements provide explanations and details on these assets, including the methods used to evaluate their value.
• Exchange Rate: If the financial statements involve foreign currencies, it is important to consider exchange rate issues. The Notes to the Financial Statements explain the source of the exchange rates used and the impact on each section of the financial statements, helping readers understand the associated risks and fluctuations.

 In summary,financial statement analysisprovides essential  information that helps investors evaluate a company or stock of interest. It reveals the company’s past performance, financial strength, management efficiency, and highlights key warning signals that should be monitored. This information enables investors to analyze and assess a company’s growth potential more accurately in the future.For those interested in investing in a business, FDI recommends studying the main details mentioned above, along with other relevant company information, to minimize risk and ensure a more effective and informed investment decision.

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