Financial Statements Simplified
20 January 2014
I.
Introduction
The purpose of this document is to provide an overview of a company’s financial statements, and to define the
fundamental measures of a company’s financial performance and its associated stock performance. Financial
statements include; the Income Statement, the Balance Sheet, and the Cash Flow Statement. Content definitions
of each statement are provided in simple terms, and explanations of how to use the statement data are reviewed.
Understanding the information in financial statements is important for Traders and Investors doing due
diligence prior to a stock purchase. A company’s financial performance history is provided in the statements,
and may be used to better equip Traders and Investors to make profitable investment decisions.
Financial statement data has been used to identify the most important parameters and key statistics to use in
determining whether a company is profitable, whether it is growing, and whether it has a reasonable stock price.
These parameters are then used to perform a search using a common stock screening tool. The results of the
search are presented. In addition, the derived performance parameters were used to assess the “quality” of
Rocket Ride Stock selections with the result that three Rocket Ride Stocks were placed on a probationary
“Watch” status pending the reevaluation of future earnings.
II.
Income Statement
An Income Statement is a report showing a step down analysis of a company’s top line Gross Revenue and the
incurred costs that ultimately reduce the gross amount to a resultant bottom line Net Profit (Net Income, Net
Earnings). The Income statement covers a defined period of time (most recent quarter and/or annually). The
step down process follows Generally Accepted Accounting Practices (GAAP) so that the gross revenues are
dissected in a standard way. The formulation for a simplified Income statement is as follows:
Gross Revenues (Sales) - Returns and Allowances = Net Revenues (Sales)
Net Revenues (Sales) - Cost of Goods Sold = Gross Profit (Margin)
Gross Profit (Margin) - Operating Expenses = Income from Operations
Income from Operations - Interest Income/Expense = Operating Profit before Taxes
Operating Profit before Taxes - Income Tax = Net Profit (or Net Earnings, Net Income)
An actual Income Statement is a little more complex than the simplified model shown above but should be
similar in construction with additional detail information provided.
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Income Statement
Revenue
[Company Name]
(all numbers in $000)
[Period ending date]
Current Quarter
Amount
% of Revenue
Year to Date
Amount
% of Revenue
Gross Revenue
Less sales returns and allowances
Net Revenue
Cost of Goods Sold
Current Quarter
Amount
% of Revenue
Year to Date
Amount
% of Revenue
Beginning inventory
Plus goods purchased/manufactured
Total goods available
Less ending inventory
Total cost of goods sold
Gross Profit (Loss)
Operating Expenses
Current Quarter
Amount
% of Revenue
Selling
Salaries and wages
Commissions
Advertising
Depreciation
Total selling expenses
General/Administrative
Salaries and wages
Employee benefits
Payroll taxes
Insurance
Rent
Utilities
Depreciation and amortization
Office supplies
Travel and entertainment
Postage
Equipment maintenance and rental
Furniture and equipment
Total General/Administrative expenses
Total operating expenses
Income from Operations
Interest
Operating Profit Before Taxes
Taxes on income
Net Profit (Loss)
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Year to Date
Amount
% of Revenue
In the context of corporate financial reporting, the income statement summarizes a company's revenues (sales)
and expenses quarterly and annually for its fiscal year. The final net figure, as well as various others in this
statement, is of major interest to the investment community. Investors must often remind themselves that the
income statement recognizes revenues when they are realized (i.e., when goods are shipped, services rendered
and expenses incurred). With accrual accounting, the flow of accounting events through the income statement
doesn't necessarily coincide with the actual receipt and disbursement of cash. The income statement measures
profitability, not cash flow.
Gross Revenue, or Gross Sales, is the total income from the company’s primary income producing source due
to sales, subscriptions, rentals, leases, royalties, fees, or any other company revenue producing source resulting
from the company’s primary business focus. Any required product returns or replacement allowances are
subtracted from the Gross Revenue (Sales) to derive Net Revenue.
Gross Profit is derived by subtracting the cost of making and delivering the product from the Net Revenue. The
cost of manufacturing parts, procuring parts, assembling parts and delivering a product is captured under the
heading of Cost of Goods Sold or COGS. This is more than an inventory related number since it normally
includes the associated direct labor and overhead allowances required to achieve the assembly or manufacture
of the product.
The generally accepted formulation for Cost of Goods Sold is as follows:
Ending Inventory from prior quarter
+ Value of new inventory purchases
+ Labor Cost for manufacturing including overhead allocations
+ Materials, supplies, heat, lights and other related manufacturing cost
Cost of Goods Available
- Value of Ending Inventory this quarter
Cost of Goods Sold (COGS)
Gross Profit Margin is a measurement of a company's manufacturing and distribution efficiency during the
production process. The gross profit tells an investor the percentage of revenue / sales left after subtracting the
Cost of Goods Sold (COGS). A company that boasts a higher gross profit margin than its competitors and
industry is more efficient.
Gross Profit Margin = Gross Profit / Net Revenue
The Gross Profit Margin tends to remain stable over time. Significant fluctuations can be a potential sign of
fraud or accounting irregularities. If you are analyzing the income statement of a company and gross margin has
historically averaged around 3%-4%, and suddenly it shoots upwards of 25%, you should be seriously
concerned.
Income from Operations is the amount that remains after Operating Expenses are subtracted from Gross Profit.
Operating Expenses are the expenses that arise during the ordinary course of running a business. Operating
expense includes salaries paid to employees, research and development costs, legal fees, accountant fees, bank
charges, office supplies, electricity bills, business licenses, depreciation, amortization, and more.
The general rule of thumb is that if an expense doesn't qualify as a “Cost of Goods Sold”, meaning it isn't
directly related to producing or manufacturing a good or service, it goes under the Operating Expenses section
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of the income statement. There are several categories, the biggest of which is known as Selling, General, and
Administrative Expense.
To calculate the Operating Margin, divide Income from Operations by Net Revenue.
Operating Margin = Income from Operations / Net Revenue
The expectation of what a good Operating Margin value may be depends upon the industry.
Subtracting interest paid to service loans, or adding interest from investments, to Income from Operations
results in Operating Profit Before Taxes.
Taxes may include federal and state taxes, local assessments, and any industry related special assessments.
Subtracting “taxes” from Operating Profit Before Taxes then gives Net Profit. Net Profit is also called Net
Earnings, Net Income, or just Earnings, or Profit.
Note: The last line at the bottom of the income statement (Net Profit in the presented Income Statement) is the
amount of money the company purports to have made (net income, net profit, total profit, net income, or
reportable earning, earnings, profits ... it's all the same). Hence the cliché, "what's the bottom line?"
Sometimes, the subtraction of interest and taxes has a very negative impact on the company’s bottom line Net
Profit. Preferring to put their best foot forward, a company will sometimes express its earnings performance in
terms of EBITDA rather than bottom line earnings.
Earnings Before Interest, Tax, Depreciation and Amortization - EBITDA tells an investor how much money a
company would have made if it didn't have to pay interest expense on its debt, taxes, or take depreciation and
amortization charges. The measurement has become so popular that many companies will boast charts and
graphs of their increased EBITDA within the first five pages of their annual report. Investors, thinking this is
wonderful, get excited about the business because it appears to be growing in leaps and bounds.
EBITDA = Revenue -- Expenses (excluding interest, taxes, depreciation and amortization)
This earnings measure is of particular interest in cases where companies have large amounts of fixed assets
which are subject to heavy depreciation charges (such as manufacturing companies) or in the case where a
company has a large amount of acquired intangible assets on its books and is thus subject to large amortization
charges (such as a company that has purchased a brand or a company that has recently made a large
acquisition). Since the distortionary accounting and financing effects on company earnings do not factor into
EBITDA, it is a good way of comparing companies within and across industries. This measure is also of interest
to a company's creditors, since EBITDA is essentially the income that a company has free for interest payments.
Net Income Applicable to Common Shares figure is the bottom-line Net Profit the company reported that
belongs to its stockholders (owners). It is the starting point for calculating the earnings per share figure you
always hear about on the news or in annual reports. To get the basic earnings-per-share (Basic EPS), analysts
divide the net income applicable to common shares by the total number of shares outstanding.
Earnings per Share (EPS) = Net Profit / Number of Shares Outstanding
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Many people mistakenly believe that a higher net income figure each year means the company is doing well.
The problem with this approach is that it ignores changes in capital at work. In other words, if the company's
Board of Directors push for the firm to issue lots of new stock and they double the total money at work in the
business - but profits only rise 5%, that's a horrible return.
A company's net profit margin indicates how much after-tax profit the business makes for every $1 it generates
in revenue or sales. Profit margins vary by industry, but all else being equal, the higher a company's net profit
margin compared to its competitors, the better.
Net Profit Margin = Net Profit / Net Revenue
Principle 1: Overall Growth is not nearly as important as Growth per Share
Often, leading financial publications and broadcasts talk about the overall growth rate of a company. While this
number is very important in the long run, it is not the all-important factor in deciding how fast equity in the
company will grow. Growth in the diluted earnings per share is a deciding factor.
Principle 2: When a company reduces the amount of shares outstanding, each share becomes more
valuable and represents a greater percentage of equity in the business.
When putting together a portfolio, it may be rewarding to seek out businesses that engage in these sort of proshareholder practices and hold on to their stock as long as the fundamentals remain sound.
Principle 3: Stock Buybacks are not good if the company pays too much for its own stock!
Even though stock buybacks and share repurchases can be huge sources of long-term profit for investors, they
are actually harmful if a company pays more for its stock than it is worth or uses money it cannot afford to
spend. In an overpriced market, it would be foolish for management to purchase equity at all, even in itself.
Instead, the company should put the money into assets that can be easily converted back into cash. This way,
when the market moves the other way and is trading below its true value, shares of the company can be bought
back up at a discount, giving shareholders maximum benefit.
III.
Balance Sheet
There are many things that can be learned about a company from its Balance Sheet. Specifically, the Balance
Sheet addresses:
 How much in the way of assets does the company have?
 How much liability does the company have?
 How much is left over for owners?
The construction of the Balance Sheet follows GAAP and is built around the formulation:
Assets = Liabilities + Shareholder Equity
Assets are often defined in two categories, Current Assets and Fixed (Long Term, or Non Current).
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

Current Assets may include such near term disposable items as cash, accounts receivable, and inventory.
Fixed (Long Term) Assets may include such items as long term investments, property, facilities and
furniture.
Liabilities are also categorized as Current and Long-Term.


Current Liabilities may include such items as accounts payable and short term notes.
Long Term Liabilities may include mortgages, etc.
Shareholder Equity may include owner investment, retained earnings and other financial related instruments
that could be distributed to shareholders in the event that the company operations were terminated.
[Date]
Balance Sheet
(all numbers in $000)
ASSETS
LIABILITIES
Current Assets
Current Liabilities
Cash
Accounts payable
Accounts receivable
Short-term notes
(less doubtful accounts)
Current portion of long-term notes
Inventory
Interest payable
Temporary investment
Taxes payable
Prepaid expenses
Accrued payroll
Total Current Assets
Total Current Liabilities
Fixed Assets
Long-term Liabilities
Long-term investments
Mortgage
Land
Other long-term liabilities
Buildings
Total Long-Term Liabilities
(less accumulated depreciation)
Plant and equipment
(less accumulated depreciation)
Furniture and fixtures
(less accumulated depreciation)
Total Net Fixed Assets
TOTAL ASSETS
Shareholders' Equity
Capital stock
Retained earnings
Total Shareholders' Equity
TOTAL LIABILITIES & EQUITY
The following paragraphs will summarize the basics of Balance Sheet analyses in terms of formulation and will
provide expected values for a reasonably healthy company where appropriate.
Current Assets include cash on hand with more being better typically. However, the amount of cash on hand
must be balanced with current debt because some of the cash could be borrowed money which may, or may not,
be good. And not all current assets are equal in that some listed as current may not be easily convertible to cash.
Strongly capitalized companies normally have lots of cash with comparatively little debt.
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Accounts Receivables are normally indicative of good sales but the quality of accounts receivables is indicated
by the time it takes to collect on the account. The cycle time for payment is normally in the 30 to 45 day range.
This value is determined as follows:
Receivable Turns = Net Revenue (Sales) / Average Accounts Receivable,
Where, Net Revenue (Sales) is normally determined from the Income Statement.
Days for Receivable Turn Over = 365 Days / Receivable Turns, assuming an annual basis.
Inventory is required to produce and sell product, so having the required inventory on hand is a good thing.
Rapid turnover of inventory implies that product generation and sales are in full swing. There is a risk
associated with too much inventory, namely obsolescence or spoilage for perishables. These risks impact the
bottom line of profitability so a company keeps an eye on inventory.
Inventory Turns = Cost of Goods Sold / Average Inventory for the Period
Where Cost of Goods sold is normally determined from the Income Statement.
Days for Inventory Turn Over = 365 / Inventory Turns, assuming an annual basis.
The ratio of Inventory (from the Income statement) to Current Assets is also an indicator of company
performance. If 70% of the company’s assets are tied up in inventory and Days for Inventory Turn Over exceed
40 days, there may be a problem with that company.
Current Liabilities includes Accounts Payables. Accounts Payables may be intentionally high for some types of
high turn companies such as Wal-Mart. In this case, accruing Accounts Payables while product is being
displayed and sold means that vendors are effectively paying for Wal-Mart’s stocking and display costs.
Working Capital is sometimes used as a “quick check” to verify that the amount of cash (or easily convertible
cash equivalents) is sufficient to cover the servicing of the company’s short term debt including short term notes
and accounts payable. It is unsettling to observe that debt servicing cannot be covered by readily available cash
or cash equivalents.
Working Capital can be verified in the following manner:
Working Capital = Current Assets – Current Liabilities
Poor working capital often leads to financial pressure on a company. Again, working capital is much less of an
issue with companies who turn product rapidly.
One criterion for company performance is Working Capital per Dollar Sales given by:
Working Capital per Dollar Sales = Working Capital / Net Revenues (Sales),
Where Net Revenues (Sales) is derived from the Income Statement.
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One measure of a Company’s Intrinsic Value is given by Working Capital / Number of Shares of Stock. The
Intrinsic value of a company measured this way should be in the 20 to 40% range typically.
Current Ratio often called the “Financial Strength” of a company. This value is given by:
Current Ratio (Financial Strength) = Total Current Assets / Total Current Liabilities,
A value of 1.5 is normally acceptable. A value exceeding 3 or 4 may indicate too much cash on hand, or may
just be indicative of the company’s recent success.
The Acid Test or Quick Test Ratio is a measure of the Company’s ability to come up with a load of cash
immediately and does not apply to high turn companies such as Publix or McDonalds. This test utilizes a term
called Quick Assets where:
Quick Assets = Current Assets – Inventory, and thus,
Acid Test = Quick Assets / Current Liabilities
Acid Test and Financial Strength are similar but inventory is extracted from Current Assets since it may not be
expected to be turned to cash rapidly, unless it is a company with a “Days for Inventory Turn Over” value equal
to a relatively small number of days.
Prosperity may be defined in terms of the decrease in long term debt over time. Here, the Debt to Equity Ratio
can be employed to verify a ratio of less than 25% in normal circumstances, and preferably decreasing quarter
over quarter.
Debt to Equity Ratio = Total Debt / Shareholder Equity,
Where Total Debt = Short Term Debt + Long Term Debt
Debts to Equity Ratios of 30 to 40 % and above may indicate that a company will soon take measures to reduce
its debt, often by issuing additional stock.
IV.
Cash Flow
Did the company generate cash and did the company spend all of its cash? That is addressed by the Cash flow
statement which follows the money. The cash flow statement as shown below consists or the in-flow and outflow of operating cash, investment cash, and financing cash.
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Statement of Cash Flows
[Name]
Cash flows from Operating activities
Cash received from customers
Cash paid for merchandise
Cash paid for wages and other operating expenses
Cash paid for interest
Cash paid for taxes
Other
Net Operating Cash Flow
Cash flows from Investing activities
Cash received from sale of capital assets (plant and equipment, etc.)
Cash received from disposition of business segments
Cash received from collection of notes receivable
Cash paid for purchase of capital assets
Cash paid to acquire businesses
Other
Net Investing Cash Flow
Cash flows from Financing activities
Cash received from issuing stock
Cash received from long-term borrowings
Cash paid to repurchase stock
Cash paid to retire long-term debt
Cash paid for dividends
Other
Net Financing Cash Flow
Cash Balance
Increase (decrease) in cash during the period
Cash balance at the beginning of the period
Cash balance at the end of the period
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[Time Period]
The statement of cash flows shows the company’s cash position. When operating a business, especially a small
business, cash is king. A company can be profitable but, but cash poor.
Cash Flow can be defined as the way money moves into and out of a company; it is the difference between just
being able to open a business and being able to stay in business. A cash flow analysis is a method of checking
up on a firm’s financial health. It is the study to determine patterns of how the company takes in and pays out
money. The goal is to maintain sufficient cash for firm operations from month to month, or quarter to quarter.
It's the cycle of cash inflows and cash outflows that determine a company’s solvency.
Net Operating Cash Flow is cash income from customers (or other income producing sources) during the period
less cost of operations including cash paid for inventory, wages, interest and taxes.
Net Investing Cash Flow is the sum of receipts from sale of capital assets or property less cash paid for new
capital assets or business acquisitions, etc.
Net Financing Cash Flow is the sum of cash received from sale of stock and/or borrowed money minus cash
paid for stock repurchase, debt payments, or dividend payout.
Cash Balance is the sum of new cash from Operating, Investing, and Financing Cash Flow.
Cash Balance at End of Period is the difference between Cash Balance increase (assuming cash balance was
positive) during the period minus Cash Balance at the beginning of the period.
Cash flow analysis is the study of the cycle of a company’s cash inflows and outflows, with the purpose of
maintaining an adequate cash flow for the business, and to provide the basis for cash flow management.
Cash flow analysis involves examining the components of a company that affect cash flow, such as accounts
receivable, inventory, accounts payable, and credit terms. By performing a cash flow analysis on these separate
components, you'll be able to more easily identify cash flow problems.
While cash flow analysis can include several ratios, the following indicators provide a starting point for an
investor to measure the investment quality of a company's cash flow.
Operating Cash Flow/Net Sales Ratio is expressed as a percentage of a company's net operating cash flow to its
net sales, or net revenue (from the income statement). It tells us how many dollars of cash the company can has
for every dollar of sales.
Operating Cash Flow to Net Revenue Ratio = Operating Cash Flow/Net Revenues,
Where Net Revenues is derived from the Income statement for the same period.
There is no exact percentage to look for but obviously, the higher the percentage the better. It should also be
noted that industry and company ratios will vary widely. Investors should track this indicator's performance
historically to detect significant variances from the company's average cash flow/sales relationship along with
how the company's ratio compares to its peers. Also, keep an eye on how cash flow increases as sales increase;
it is important that they move at a similar rate over time.
Free cash Flow is often defined as net operating cash flow minus capital expenditures, which, as mentioned
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previously, are considered obligatory. A steady, consistent generation of free cash flow is a highly favorable
investment quality - so make sure to look for a company that shows steady and growing free cash flow numbers.
For the sake of conservatism, you can go one step further by expanding what is included in the free cash flow
number. For example, in addition to capital expenditures, you could also include dividends for the amount to be
subtracted from net operating cash flow to get to get a more comprehensive sense of free cash flow. This could
then be compared to net revenue as was shown above.
Comprehensive Free Cash Flow = Net Operating Cash Flow – Capital Expenditure - Dividends
As a practical matter, if a company has a history of dividend payments, it cannot easily suspend or eliminate
them without causing shareholders some real pain. Even dividend payout reductions, while less injurious, are
problematic for many shareholders. In general, the market considers dividend payments to be in the same
category as capital expenditures - as necessary cash outlays.
But the important thing here is looking for stable levels. This shows not only the company's ability to generate
cash flow but it also signals that the company should be able to continue funding its operations.
Comprehensive Free Cash Flow Coverage can be calculated by dividing the comprehensive free cash flow by
net operating cash flow to get a percentage ratio - the higher the percentage the better.
Comprehensive Free Cash Flow Coverage = Comprehensive Free Cash Flow / Net Operating Cash Flow
Comprehensive Free Cash Flow is an important evaluative indicator for investors. It captures all the positive
qualities of internally produced cash from a company's operations and subjects it to a critical use of cash capital expenditures and dividend payment if applicable. If a company's cash generation passes this test in a
positive way, the company may be in a strong position to avoid excessive borrowing, expand its business, and
to weather hard times.
The term "cash cow," which is applied to companies with more than ample free cash flow, is not a very elegant
term, but it is certainly one of the more appealing investment qualities you can apply to a company with this
characteristic.
The Bottom Line
Once the importance of how cash flow is generated and reported is understood, these simple indicators can be
used to conduct a portfolio analysis. The point is to stay away from "looking only at a company’s income
statement and not the cash flow statement." This will allow discovery of how a company is managing to pay its
obligations and make money for its investors.
V.
Assessing Company Stock Price Relative to Company Financials
In considering a stock purchase, the goal is often to seek a company that is profitable, that is growing, and that
has a reasonable stock price. There are various methods that can be used to derive stock investing opportunities
but one good approach is to select a candidate set of parameters and statistics that can be easily acquired, and
that can be easily applied to stock screening software in order to initiate a rewarding “search” function.
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The parameters that have been selected include:



Return on Equity (ROE) to determine profitability,
Price to Forward Earnings (P/E) and Price/Earnings to Future Growth (PEG) ratios to determine
growth,
Price to Book Value (P/B) to determine stock price reasonableness.
Corporate Profitability - ROE
Return on Equity (ROE) measures a corporation's profitability by revealing how much profit a company generates
with the money shareholders have invested. ROE is expressed as a percentage and calculated as:
Return on Equity = Net Income / Shareholder's Equity
Net income is for the full fiscal year (before dividends are paid to common stock holders but after dividends to
preferred stock.) Shareholder's equity does not include preferred shares.
Low Forward Price – P/E
A measure of the price-to-earnings ratio (P/E) using forecasted earnings for the P/E calculation. While the
expected earnings per share (EPS) used are just an estimate and are not as reliable as current earnings data, there
is still benefit in estimated P/E analysis. The forecasted earnings used in the formula can either be for the next
12 months or for the next full-year fiscal period.
Forward P/E = Market Price per Share / Expected Earnings per Share (EPS)
The estimated P/E of a company is often used to compare current earnings to estimated future earnings. If
earnings are expected to grow in the future, the estimated P/E will be lower than the current P/E. This measure
is also used to compare one company to another with a forward-looking focus.
Price / Earnings to Future Growth – PEG (5 –Year)
The price/earnings to growth (PEG) ratio is used to determine a stock's value while taking the company's
earnings growth into account, and is considered to provide a more complete picture than the P/E ratio. While a
high P/E ratio may make a stock look like a good buy, factoring in the company's growth rate to get the stock's
PEG ratio can tell a different story. The lower the PEG ratio, the more the stock may be undervalued given its
earnings performance. The calculation is as follows:
PEG = P/E ratio / Annual EPS Growth
The PEG ratio that indicates an over or underpriced stock varies by industry and by company type, though a
broad rule of thumb is that a PEG ratio below one is desirable. Also, the accuracy of the PEG ratio depends on
the inputs used. Using historical growth rates, for example, may provide an inaccurate PEG ratio if future
growth rates are expected to deviate from historical growth rates. To distinguish between calculation methods
using future growth and historical growth, the terms "forward PEG" and "trailing PEG" are sometimes used.
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A PEG estimate for the forward five (5) years is typical.
Under Valued Stock Price – P/B
Price-to-book value (P/B) is the ratio of market price of a company's shares (share price) over its book value of
equity. The book value of equity, in turn, is the value of a company's assets expressed on the balance sheet. This
number is defined as the difference between the book value of assets and the book value of liabilities.
You calculate the P/B by taking the current price per share and dividing by the book value per share.
P/B = Share Price / Book Value Per Share
Where Book value per Share = (Total Assets – Total Liabilities) / Number of Shares
The lower the P/B, the better the value. Value investors would use a low P/B in stock screens, for instance, to
identify potential stock candidates.
To find a "stock bargain", look for stocks trading with a forward P/E (that's looking at future earnings) under the
average of the S&P 500, which would be stocks with P/Es under 16. If the stock has a cheap price-to-book ratio,
then that’s even better. A stock may be considered "cheap" if it has a P/B under 3.0.
For value investors, P/B remains a tried and tested method for finding low-priced stocks that the market has
neglected. If a company is trading for less than its book value (or has a P/B less than one), it normally tells
investors one of two things: either the market believes the asset value is overstated, or the company is earning a
very poor (even negative) return on its assets.
If the former is true, then investors are well advised to steer clear of the company's shares because there is a
chance that asset value will face a downward correction by the market, leaving investors with negative returns.
If the latter is true, there is a chance that new management or new business conditions will prompt a turnaround
in prospects and give strong positive returns. Even if this doesn't happen, a company trading at less than book
value can be broken up for its asset value, earning shareholders a profit.
Best of all, P/B provides a valuable reality check for investors seeking growth at a reasonable price. Large
discrepancies between P/B and ROE, a key growth indicator, can sometimes send up a red flag on companies.
Overvalued growth stocks frequently show a combination of low ROE and high P/B ratios. If a company's ROE
is growing, its P/B ratio should be doing the same.
Key Statistics
Fortunately, the key statistics for any given stock with available financial statements are easily available at such
web sites as Yahoo Finance on the Key Statistics. An example for stock symbol YHOO is shown:
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YAHOO! Inc. (YHOO) 12/10/2014
Valuation Measures
Market Cap (intraday)5:
41.83B
Enterprise Value (Jan 12, 2014) :
3
Trailing P/E (ttm, intraday):
40.04B
35.57
Forward P/E (fye Dec 31, 2014) :
24.84
PEG Ratio (5 yr expected)1:
2.05
Price/Sales (ttm):
8.72
1
Price/Book (mrq):
3.32
Enterprise Value/Revenue (ttm) :
8.41
Enterprise Value/EBITDA (ttm) 6:
33.74
3
Financial Highlights
Fiscal Year
Fiscal Year Ends:
31-Dec
Most Recent Quarter (mrq):
30-Sep-13
Profitability
Profit Margin (ttm):
27.11%
Operating Margin (ttm):
14.25%
Management Effectiveness
Return on Assets (ttm):
2.40%
Return on Equity (ttm):
9.23%
Income Statement
Revenue (ttm):
4.76B
Revenue Per Share (ttm):
4.37
Qtrly Revenue Growth (yoy):
-5.20%
Gross Profit (ttm):
3.37B
EBITDA (ttm) :
1.19B
Net Income Avl to Common (ttm):
1.29B
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Diluted EPS (ttm):
1.16
Qtrly Earnings Growth (yoy):
-90.60%
Balance Sheet
Total Cash (mrq):
1.83B
Total Cash Per Share (mrq):
Total Debt (mrq):
1.8
46.00M
Total Debt/Equity (mrq):
0.37
Current Ratio (mrq):
2.99
Book Value Per Share (mrq):
12.33
Cash Flow Statement
Operating Cash Flow (ttm):
-1.05B
Levered Free Cash Flow (ttm):
-1.83B
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Stock Screening Values Example
To test key statistic selections, the following parameter values were applied to the ETrade stock screener. The
application of these particular company fundamental values to assess the overall quality of a company stock is called
the Press Test.
Press Test Values
ROE >= 15%
Forward P/E = <=10
PEG = < 1.0
P/B = <2.0
Press Test fundamentals were very successful in identifying 17, seemingly excellent, stock buying opportunities
as shown below. With the exception of three (3) stocks, the excellence of these selections is evidenced by the 4
Week Change in Stock price. Taking the process one step beyond the ETrade stock screening tool results,
analyst estimates of one year target prices and Zacks Rank for each of the stocks were determined. As a result
of this process, three stocks look like interesting candidates for investments: MGA, RKT and SGY. The
industry diversification of these stocks is also of interest.
Testing Rocket Ride Stock Quality (Press Test)
The Press Test is the use of key company fundamental measures of stock profitability, growth, and price to
assess the quality of a selected stock. Only a few companies meet this stringent performance of criteria and
these are often well established large companies. Thus, the Press Test is best used as a relative figure-of-merit
when evaluating the quality of a selected stock.
In the table below, the Press Test fundamental values were used to establish the quality of Rocket Ride Stock
selections. This comparison of key fundamentals exercise was revealing in that three Rocket Ride Stocks
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selections did not compare favorably with the Press Test defined performance criteria. As a result of this
exercise, the three stocks (KNDI, MITK and RVLT) were placed on a probationary status pending the next
earnings report. Because all three of these relatively new companies are attempting to exploit potentially high
growth businesses opportunities, they will be evaluated for “performance improvement” and for company
issued “future guidance” after the next quarterly earnings release. A failure to indicate significant quarter over
quarter growth, or poor forward guidance from the company, would be cause for divestiture from the Rocket
Ride Stock portfolio.
Conclusions and Recommendations
A simple direct explanation of company financial statements has been provided. Important statistics for
assessing company performance have been derived and successfully used to identify investment grade stocks
using a typical stock screener. Furthermore, a test to assess the quality of Rocket Ride Stock selections has been
completed. It is recommended that this paper be studied carefully and, if appropriate, employed in the
performance of personal due diligence initiatives while selecting investment grade stock for purchase.
Happy Trading!
Acknowledgements
The content of this paper were derived from the author in consultation with Pamela A. Freeman and Mariko
Savage. Much of the technical content for financial analysis was derived from About.com and from
Investopedia. Value Measures and financial highlights for Yahoo Inc. were copied from the Key Statistics tab
on Yahoo.com Finances. These sources are highly recommended for further study of the covered topics.
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