Crow River Investment Club www.bivio.com/crowriver

Introduction to this Series
This is first of 4 short overviews
• 3 Main Financial Statements:
– Income Statement
– Balance Sheet
– Cash Flow Statement
• Finally, Annual Report Worksheets
– By Bob Adams
– By Paul Schneider

Income Statement: The Basics
1. Financial analysis is about Comparison.
That’s why these statements all come with more than one year of data.
2. The Income Statement (or Profit & Loss
Statement) reports the income, expenses and profits for a specific period of time.

Income Statement: The Basics
3. Product Companies report “Net Sales”
4. Service Companies report “Net
Revenues.”
5. Net Sales & Revenues are the same thing.
6. “Net” means after the return of defective products.

Income Statement: The Basics
7. Everything on the Income Statement can be expressed as a percentage and compared to competitive companies.
8. Everything on the Income Statement can be compared as a percentage to
Net Sales or Revenues.

Income Statement: The Basics
9. Companies are valued based on the cash produced from “core” operations
(or Operating Income).
10.Focus your attention on the “core” business. What business is the company in? How much money did that business generate or cost?

Income Statement: The Basics
11.Finally, be aware of income and expenses that are “not” generated from the “core” business.
12.If a company restructures, or takes onetime gains and losses annually, they are no longer “one time”, are they??

The Anatomy of an
Income Statement
Net Sales or Revenues
- Cost of Goods Sold
= Gross Profit
Gross Profit divided by Sales =
Gross Margin, the percentage of every dollar it costs to produce sales.

Let’s compare Mentor (MNTR) with Factset
(FDS) 2002 annual figures:
Net Sales
Cost of Sales
Gross Profit
MNTR FDS
$321,062 $205,853
$130,455 $ 67,947
$190,607 $137,906
Gross Margin 59% 67%
Which one has a more profitable business model?

Other Operating Expenses, such as:
• Utilities
• Labor Costs
• Advertising
Then, Other Income & Expenses, such as:
• Short-term Investments
• Royalties on Patents
• Payment on a Lawsuit
• Foreign Exchange Rate deficit
• Interest Income & Expenses

The Anatomy of an
Income Statement
SO…
Gross Profit
- SG&A Expenses
+ Other Income
- Other Expenses
= Income Before Income Taxes
This is an important SSG figure!

Why do we look at pre-tax income?
• Companies have no control over taxes
• Taxes vary from state to state
• Taxes don’t show the true picture
• Various industries are taxed differently
• Tax credits skew year-to-year earnings
Taxes have their own line on the Income
Statement.

The Anatomy of an
Income Statement
So…
Income Before Taxes
- Provision for Income Taxes
= Net Income

And…
The Anatomy of an
Income Statement
• Net Income divided by Shares Outstanding =
Earnings Per Share or EPS
• Diluted Earnings Per Share:
The value of each share “after” the effects of stock options and convertible shares and bonds have been taken into consideration.

Income Statement Ratios
Which Ratios are Important?
Gross Margin:
Sales – Cost of Sales div. by Sales
• How profitable is this business model?
• Is it more profitable than its peers?
• Is it getting more profitable from year-to-year?

Income Statement Ratios
Which Ratios are Important?
Net Margin:
Net Income divided by Net Sales
• Is there any money left over for the shareholders after all expenses and taxes are paid?
• Is Net Margin growing from year-to-year?
• How does it compare to its competitors?

Income Statement & the SSG
Sales
- Cost of Goods Sold
- SG&A Expense
+Other Income
These are the items required on the Quarterly
Data Update Screen &
PERT Report
- Other Expenses
= Income Before Taxes
- Income Taxes
= Net Income (div. by Shares Outstanding)
= Earnings Per Share (EPS)

Commissions
Cash Fees
Total Revenue
Cost of Services
SG&A Expenses
Total Op. Expenses
Net Income
Diluted EPS
Shares Outstanding
0%
2002 2001 Change
$ 62,196
$143,657
$205,853
$ 67,947
$ 75,084
$143,935
$ 56,462
$120,226
$176,688
$ 61,576
$ 64,209
$125,785
+ 10%
+ 19%
+16.5%
+ 10%
+ 17%
+ 14%
$40,848
$ 1.17
34,862
$ 33,401
$ .96
+ 22%
+ 22%
34762

Total Revenue
- Cost of Services
Div. By Revenues =
Gross Margin
2002
$205,853
$ 67,947
$137,906
67%
2001
$176,688
$ 61,576
$115,112
65%
Net Income
Div. By Revenue =
Net Margin
$ 40,848
$205,853
19.8%
$ 33,401
$176,688
18.9%
Are they getting better!!?

Next Month: The Balance Sheet
The End