Sex, nudity, pizza and free beer

September 30, 2010

So September 20’s post was a fun, no-pressure introduction to the three major types of financial statements and how they work. The results?

a) No one commented, and
b) No one pointed out that we promised to follow up on the details in the next post and didn’t.

Conclusion: reading financial statements is boring. Explaining how to read financial statements is boring. Even poking fun at how boring it is to read financial statements is apparently boring.

What do you want from us? No one said deciphering financial statements was interesting, except Warren Buffett, and do you want to take lifestyle advice from a polygamist who still lives in a house assessed at $700,000 despite having $36 billion to his name?

Let’s do this as pithily as possible and see where it leads:

If you’re looking to invest in a particular company, you can’t just go by word of mouth or general feeling. Worse yet, you don’t want to concern yourself with how pretty a graph the company’s stock price has been plotting recently (this is called technical analysis, and it’s the financial equivalent of phrenology.) Stupidest of all is the investment strategy that equates being a customer with being a shareholder.

You need to research, at least a little. Are you willing to spend a couple of hours to potentially earn yourself hundreds or thousands (or just as importantly, not cost yourself that much)? You should be, assuming you enjoy money and how easy it can make your life.

There are only 3 types of financial statements you need to know about. Any other ones you come across aren’t that important, at least not at this stage of the game. You find them at sec.gov/edgar/searchedgar/companysearch.html.

Enter the company name, scroll down to the first appearance of “10-K” in the left column, click on “Interactive Data”. Among other things, you’ll find the critical financial statements:

Income statements. Balance sheets. Cash flow statements. That’s it. Describing what’s in each one in sufficient detail could give us a year’s worth of blog posts, but let’s do this in digestible chunks.

What an income statement tells you, you can hopefully deduce from its title. Income is the difference between the revenue the company generated and the expenses it incurred, over a fixed period (usually a year, occasionally a quarter.)

Income statement (actual size)

Peruse the categories if you want, but the most important number at this point is the difference between gross income and expenses: net income, or in common parlance, profit.

But you can’t just rank companies by net income and say whichever one makes the most money is thus the best investment. You have to look at the relative sizes of the companies. Everything else being equal, a company that makes $100 million on revenues of $500 million is more impressive than one that makes $110 million on revenues of $1 billion.

A balance sheet tells you how much in assets the company has on hand, and how much it has in outstanding liabilities. The difference between them is called shareholders’ equity, which is one traditionally accepted measure of the company’s value.

Columns of numbers!

Over how long a period? A year?

You don’t listen, do you?
It’s the amount of assets and liabilities the company has (present tense), not the amount it acquired (past tense). That means it counts every dollar the company has ever taken in and hasn’t yet spent, minus every obligation it’s ever had and hasn’t yet settled. So in theory, a company could have a different balance sheet every millisecond. While an income statement refers to a particular period, a balance sheet refers to One Moment In Time, just like your prom did. Only without the awkward makeout sessions and vomiting.

Since shareholders’ equity, the value of the company, is assets minus liabilities by definition, you can understand why we keep hammering you to buy assets and sell liabilities. Divide net earnings (from the income statement) into shareholders’ equity and you get return on shareholders’ equity, a number that gives you an idea of how long it takes an investment in the company to pay for itself.

Finally, a cash flow statement tells you if the company’s bringing in more than it’s spending, and how much. That sounds straightforward, but it can occasionally be complicated (a rare repudiation of the oracular pronouncements in our book, Control Your Cash: Making Money Make Sense. Here’s the only other one.) There are 3 ways a company can generate revenue: via operations, investments, and financing.

Sorry, ran out of jokes. Alright, maybe this stuff is a little tedious

Operations is hopefully pretty clear. For Caterpillar, it’s making and selling lift trucks. For Anheuser-Busch, it’s brewing and selling beer. For General Motors, it’s collecting undeserved money from you and tens of millions of other taxpayers.

Unless the company in question is a financial firm, Investments is probably going to be a negative number, because it includes buying expensive things that help keep the company growing – factories and stuff. The category also includes buying and selling securities that have little or nothing to do with the company’s core business. For instance, if they have cash on hand, putting it in securities (Treasury bills, currency, other companies’ stocks or bonds) on behalf of the shareholders.

Financing includes issuing and buying back the company’s own stock and bonds. That means bringing new investors on board (usually healthy, if the company isn’t growing just for the sake of growing) and borrowing money (bad if it’s done for reasons other than covering new capital expenditures, paying it back with interest, and not risking default.)

Next time, or whenever we get around to it depending on the quality and quantity of this week’s comments, we’ll explain what desirable financial statements look like.

**This post is featured in the Carnival of Wealth #7-Entrepreneurship Edition**

**This post is featured in the Festival of Stocks**

Filed Under: Capitalism, Finance, Insurance, Personal Finance Tagged With: , , ,

Charity is for suckers

September 23, 2010

Apparently you can use a pen, can't you? Fill out a job application with one.

 

Can you stomach a first-person story? We try not to do these, but here’s one with a greater purpose. After reading it, your disposable income should increase (or at least not decrease.)

20 years ago your blogger was a recent college graduate with dreams of being on the radio*, living in downtown Toronto – a central business district so dense that it can’t help but be pedestrian-friendly. To get to work every morning (at the office of a crooked penny stock promoter, now mercifully out of business), I’d walk a mile or so from my condo to a high-rise office on Bay Street (Wall Street’s smaller, colder, less influential, eternally apologetic sister with an inferiority complex.) En route I’d pass by College Park, a vintage shopping mall whose wide sidewalks served as a depository for dozens of the city’s beggars, buskers, and Deadheads looking to make a better world by receiving money in exchange for things made of hemp (or not.)

Some of the street musicians were fairly talented, if Indigo Girls covers with tambourine accompaniment happened to be your thing. But as the Napster defendants argued, music was meant to be free. Thus I’d never give my serenaders money. The soundtrack in my head was entertainment enough.

Among the beggars and their slightly more motivated brethren, one person stuck out. He was a quadruple amputee with what remains one of the sunniest dispositions I’ve ever witnessed. Shirtless, bearded, wearing nothing but a pair of jeans, he’d say hi to everyone who walked by. His arms stopped somewhere around the elbow, his legs were a mystery. Sometimes he was there with a handler, sometimes he wasn’t, or maybe during those absences the handler was getting food. Or cigarettes. The beggar would somehow manage to smoke by holding the cigarette between his stumps and placing the butt on his wheelchair whenever he got tired, which I’m guessing was often. Normally I’d argue that smoking cigarettes is for idiots, but I’ll reserve judgment on someone whose smoke-filled lungs were among the most functional parts of his body.

I never learned the beggar’s name, but the black humor hemisphere of my brain christened him “One”, after the Metallica song.

Some days I’d hope to get there before he’d set up shop for the day, because there’s another part of my brain that would refuse to not give him money. Every time, whatever was in my wallet was his. Occasionally that meant a $50 bill, which I could ill afford. Yet it was all I could do to restrain myself from stopping passersby and insisting that they follow suit. “Look, I don’t give money to beggars either. But this guy’s different.”

One day, One disappeared. Which isn’t noteworthy: beggars aren’t renowned for their permanence. Without having any details about his departure, I could imagine my own happy ending: his biological family had misplaced him after birth (stubby kids are easy to lose), spent decades searching for him and finally found him. A visiting European princess took him under her wing (or her arm.) Something good, because God knows he deserved it.

A few months later the stock promoter put me out of my misery. I applied for a job at CFRB 1010 – Canada’s biggest, most powerful radio station. Wore my best** suit and tie, met with the program director, laughed at his jokes and tried to make my laughter sound authentic. He shook my hand, I said I’d find my own way out.

Down the hallway, I passed a semi-open door and heard an unmistakable high-pitched voice.

One. All by himself, conducting phone surveys. With a headset attached to his head and a pen in his mouth.

Fortunately his back was turned, so I didn’t bother disturbing him. He wouldn’t have recognized me anyway.

At that moment, an epiphany: I vowed I would never give money to anyone, either via an institution or hand-to-hand, if that person had at least one functioning limb.

No example you give can trump this. The teenage mother with multiple kids, the illegal alien, the woman who ate herself into superobesity, the meth addict whose parents didn’t hug him enough: they can all go to the Fifth Ring and share a skewer when a man who’s completely helpless can find gainful employment.

Some ambulatory people like to self-tithe, or to convince themselves that their residency on this planet requires them to care for “the less fortunate” for some reason. Taken to its logical extension, that would mean we’d never do anything productive, creating any wealth. We’d each be spending our time endlessly transferring our money: from the most fortunate (Kobe Bryant, Angelina Jolie) through the slightly less fortunate (me, probably you) all the way down to crack babies.

You want to help someone who doesn’t have “enough” money? Offer them a job. If you can’t, the next best thing you can do is nothing. Seriously. That’ll help avail them of the inevitable truth – that giving people money out of guilt not only doesn’t do any good, it makes things worse. It lets whatever marketable talents those people have wither and weaken – and whatever contributions to society they could have made to society, will go unmade.

I’d always thought “if he can do it, anyone can” was a fluffy piece of motivational-poster nonsense. It took the most disadvantaged man I’d ever met to make a believer out of me.

*This was a completely legitimate aspiration to have back then. Thank God I didn’t achieve it in any meaningful sense.

**only

**This post is an editor’s pick at the Carnival of Money Stories**

**They love us at the Carnival of Money Stories**

Filed Under: Acts of God, Healthy Living, Making Smart Choices, Personal Finance Tagged With: , , , ,

A Fun Way To Spend A Saturday Afternoon

September 20, 2010

 

Poor little fella barely made it past the "Gross Revenue" line

 

If you’re already enough of a geek that you’re reading a personal finance blog despite being just a few keystrokes away from participating in The Golden Age Of Internet Porn, we invite you to take the next step.

Before you invest in any publicly traded stock, you need to understand how to read financial statements. This applies even if you let your company’s HR department handle your 401(k) and never bother to look at what mutual fund(s) it owns a piece of. You need to start looking. Stock prices move in both directions, in case you weren’t aware.

One more time: if you have a company-directed 401(k) then it probably owns part of a mutual fund, which is a basket of any number of stocks – usually around 80-100. Do you have time to measure the positive and negative indicators of 80 stocks? Probably not. That’s what fund managers and investment analysts are for.

If you rely on them, you’re not taking ownership of your finances. You’re passing the buck, almost literally. How many 401(k)s counted General Motors as a component a couple of years ago? You know, the most disastrously managed company in the history of American commerce*? When GM stock sank and ultimately got delisted – to say nothing of Fannie Mae, Freddie Mac, and other government wards that our elected officials insist on keeping on life support – how many of the people who indirectly held it via their mutual funds cared or noticed?

Would you like to know how to do this? If we taught you how to fish, would you ever worry again about going hungry? If we taught you how to weigh yourself, would that information come in handy for your next doctor’s appointment or Army special ops recruiting signup?

Understanding financial statements is more intricate than stepping on a scale, but not by much.

We needed a guinea pig, so we went down the list of America’s most profitable companies, stopping when we found one whose public image is pristine enough that people don’t routinely bitch about the company. That eliminated ExxonMobil, Microsoft, Wal-Mart, Pfizer, Merck, Philip Morris etc. We ended up at company #22, Corning. Besides, the Cincinnati-based glass and ceramics maker is only America’s 414th largest company by revenue, meaning it must have healthy profit margins.

We then give Corning the EDGAR treatment. EDGAR is the Securities and Exchange Commission’s Electronic Data-Gathering, Analysis, and Retrieval system: it’s where publicly traded companies are required by law to post their financials, and it’s at sec.gov/edgar.shtml.

You bored yet? Probably. Fix yourself a sandwich, turn on some music, meet us back here in 5. Here’s a Magic Eye picture to keep you occupied:

The money page on EDGAR is this one. Enter the relevant name or ticker symbol. Corning’s is GLW, which the company’s website says stands for “Corning Glass Works”. Apparently Jacques Demers is their vice president of investor relations.

It’ll ask for a “Filing Type”. The one you want is called the 10-K, which is essentially a company’s annual report without all the PR bullcrap.

It’s an htm file, should be easy to access. But don’t read it, it’s as interesting as watching glaciers move. Just search for the following phrases:
Consolidated Statements of Income (plural)
Consolidated Balance Sheets
Consolidated Statements of Cash Flows

 

There are other financial statements, but these are easily the most important. We’ll bang them out one at a time, starting with the income statement (a/k/a the “profit and loss statement”).

Look at a company’s financial statements, and you can learn more than you imagined. You’ll discover how much debt the company is carrying, and if it’s leveraging itself to the point where it’ll be tough to pay back all the people it’s borrowing from. You’ll be able to determine whether the company is consistently increasing profits year after year, or if it’s standing on a plateau. Or a cliff. You’ll distinguish legitimate assets that can help the company grow from overvalued ones that make little difference to the bottom line.

Sifting through this is a little dreary at first, but so what? You’re an adult: most of what you’re now doing is boring. Kids get to enjoy life: they don’t have to concern themselves with saving receipts and filing taxes and learning to keep the warranty cards for their household appliances. The trade-off is that kids are stupid and poor.

Perusing a 10-K is as convoluted as you want it to be. We promise to make it painless, or at least reasonably so.

Next up, the three major types of financial statements and how they work.

*GM easily gets the nod over Enron, which never created anything tangible and was never a significant cog in the economy to begin with. GM used to make tanks to flatten Nazis with. Now its primary output is Christmas baskets for union bosses.

**Featured in the Carnival of Personal Finance**

Filed Under: Education, Estate Planning, Finance, Personal Finance Tagged With: , , , ,
« Previous Page
Next Page »