Question

In: Finance

Please give us one example from your research, work, or personal life of an application whilw...

Please give us one example from your research, work, or personal life of an application whilw Describing what concepts of Financial Economics and the contexts within which it is practiced. Describe the elements of financial statement analysis and how they are applied Explain the principles of Finance Describe how these principles apply in managerial and economic contexts.

Solutions

Expert Solution

If I was going to teach you how to analyze financial statements and I only had a short time, honestly that would be tough. There are so many items to look at on just the 2 most important financial statements, which are:

  1. INCOME STATEMENT
  2. BALANCE SHEET(or its new name Statement of Financial Position)

However if someone locked me up and said the only way you can get out is if you explain financial statement analysis in 2 minutes, here's what I would say:

  1. The most important thing in any company is profitability. Go to the Income Statement and look at the gross profit(that must be positive or there is something seriously wrong) and then all the way to the bottom for the net profit. If it is a loss instead of a profit, there better be a good explanation, otherwise that company is not doing well.
  2. Other than profitability, cash flow is the next most important thing for a company. Go to the Balance Sheet and look at the Current Assets. Then look at the Current Liabilities. Which one is bigger? At any point in time, you want to be able to use your Current Assets like Cash or Accounts Receivable to pay off your Current Liabilities, like short term loans and accounts payable. This means your company has positive cash flow.

It should be obvious as to why these are the two most important things on statements.

If a company is not profitable, well that company will not last very long and will eventually shut down. Whether the amount of profit is enough, that's very subjective and involves a more detailed analysis.

And without cash flow, the company can't buy things when needed, in order to grow, or in an emergency. Now you may be able to get investors to cover a cash flow shortage, but ultimately it's a good business practice to always be able to pay down your short term debts at any given time. Otherwise one little error and the company goes under.

And there are a million other things to look at on the statements but that's my interpretation of a quick look at financial statement analysis.


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