Monday, 8 June 2015

Income Statement - What To Look Out For?

In the Income Statement, it is revealed to the investors how much revenue and profits the company is currently making. Also, it shows us the expenses that the company has incurred.

When analysing the income statement of a company, I will first look that the revenue growth over a certain time frame. Revenue growth denotes that the company is expanding its market and this creates the opportunity for it to generate more income. Generally, I require the company to have a revenue growth of at least 10% over the period of 7 years.

After which, I will look at the company's gross margin over the same time frame as well. What I would like to see will be that its gross margin is increasing over the years or minimally, kept stable. This shows that the company has the ability to raise its prices up, at least in line with inflation. Similarly, I will glance through the company's operating margin and hope to see that it is above 20% consistently. Having an operating margin of minimally 20% shows that the company has the ability to keep its expenses down and in turn, be able to generate more earnings for its shareholders.

Finally, I will be looking at its net income. Net income should be rising at least in line with revenue's growth rate or faster. Generally, I hope to see that net income will be able to rise faster than revenue because this indicates that the company is buying back shares.

Basically, this is it for my analysis of the income statement. I like to keep this portion really simple and use it as a screener for companies. I want to be able to purchase shares in companies that are growing and is able to keep cost low. If the companies are able to pass this screen, I will then do a more in depth analysis on their balance sheets and cash flow statement.

I want to inform the readers that this is purely my interpretation of the financial statement. It could differ from how you are currently reading the statements and to be clear, mine might not be the best method.

Please do comment below to have an active discussions on what could be improved on! :)

The Journey To Financial Freedom,
SGInvestingSuccess

3 comments:

  1. Hi SGInvestingSuccess

    Another thing which seems to be common sense but usually missed is one-off expenses or one-off income which investors need to look out for. This translates directly into price to earnings ratio which could skewed the result which many investors take at face value.

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  2. Hi B,

    Thank you for your comment.

    I do agree with you that it is important to strip out all one time charges as this will provide a more level playing field for comparison between companies.

    Usually I will do that step when calculating the ROE of the companies because I do not place that much emphasis on P/E Ratios.

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