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Understanding the Financial Statements


Reporting of the Financial Statements

Understanding the Financial Statements - Reporting; picture of an investor analyzing the financial statements on a computer screen for earnings and revenue growth trends

Companies report their financial activities by lodging a financial report to the U.S. Securities and Exchange Commission (SEC). These reports are typically lodged every quarter for the first three quarters and then for the fourth quarter they lodge a final report that covers the entire fiscal year's financial activities. The quarterly reports are known as '10-Q filings' and the annual report is known as a '10-K filing'.

The financial reports are quite comprehensive and lengthily documents that can be well over a hundred pages long. The report outlines management's goals and direction for the company and details how they propose to be achieve these. Pretty much any thing pertaining to the operation of the company is detailed in these reports.

The most important information contained in the financial report for the stock investor is the financial statements and managements future direction for the company.

All financial reports contain three main financial statements which are the Income statement, Balance sheet statement and the Cash Flow statement. Typically, a fourth statement called the Stockholders' Equity statement is also include which is actually a detailed section of the balance sheet statement.

While the financial report may at first seen extremely lengthy, a large portion of the report deals with information that is not really of interest to the stock investor. For example, the stock investor is not normally concerned with the details of the company's pension plan or other employee benefit plans.

The main benefits to the stock investor in reading these financial reports is that, firstly it provides a through outline of how the company makes its money and how management plans on increasing its profits into the future. Secondly it provides the stock investor with the important financial information that is required to perform a through fundamental analysis of the company, which is extracted from the financial statements contained within the report.

The financial statements contained in the report universally conform to a standardized layout, thus making it easier for the stock investor to become familiar with reading these financial statements as all companies essentially use the same basic layout.

The series on reading the financial statements gives investors practical experience with reading actual income and balance sheet statements with instructional guidance.

Accounting conventions are generally conservative so that the opportunities for companies to distort the financial statements are limited, thus increasing the reliability of the information presented in these financial statements.

Understanding the Financial Statements - Reporting; picture of the financial statements printed out on paper with a calculator on top of paper sheets with a pen

As an example of this conservative approach, assets are always reported at their original cost, thus even if the asset has increased in value this is not reflected in the statement. Further more, any depreciation of the asset is included as an item in the financial statement, which means that the true market value of the asset may well be higher than that indicated within the financial statement.

If the discrepancies between the assets market value and that reported are significant, this is included in the notes of the financial statement. These notes contain valuable and important information about the various items in the financial statements.

The financial report also contains supplemental schedules which provide greater detail of specific items where needed. Additional information is also available in the notes to the financial statements.

The stock investor does not need to take a course in accounting in order to understand what is contained within these financial statements, as the standardized format and rules of reporting are fairly simple and straight forward. It merely takes a bit of time to read and understand the basic layout of these financial statements. Once understood, they are all basically the same.

Some stock investors may have heard of accounting scandals with companies cooking the books or key employees embezzling funds from the company. To a large extend this is minimized by the independent auditing of each company's financial statements. The auditing firms thoroughly examine the company's income and expenditures and strive to ensure that the information presented is accurate.

While cooking the books or embezzling may not be immediately detected through creative accounting, it is only a matter of time until these auditing firms detect these abnormalities, which is usually sooner than later. In all fairness, most companies do the right thing and report their financial position as it is rather than run the risk of criminal prosecution.

The information that is contained in these financial statements is readily available in a summarized format through various websites which can be found in the resources page. While the stock investor does not necessarily need to go through these statements, it is extremely beneficial to at least understand the key components that are contained within these financial statements. Investors without any accounting experience will find the article understanding basic accounting useful for understanding the basic accounting principles.

Reading the Income Statement

The company's profit and loss

Understanding the Financial Statements - Reading the Income Statement; picture of profit sign on a light grey background board with light green capital letters

The income statement used to be known as the profit and loss statement, and this statement can also be referred as an operations statement.

The income statement shows all of the company's revenues and expenses for each accounting period. The most common accounting periods are quarterly for the first three quarters and then one final annual report.

Thus the income statement sheet provides a snapshot of the company's profitability, with the first three quarterly reports accounting for a three month period and the final annual report accounting for the full year. The financial data taken from the income statement and from the balance sheet statement are used to evaluate a company's financial position and its risk of bankruptcy.

The income statement is divided into several items as follows.

Net Sales

Net sales are also referred to as revenue. This item may be shown as a single line, or may be shown with several lines which include Gross Sales, Returns and then Net Sales.

Revenue is extremely important, as a company can only grow as fast as its revenue grows in the long run.

Cost of Sales

Cost of sales includes all costs that are directly attributed to obtaining the above revenue. It includes any costs directly incurred in manufacturing such as materials and labor, and any costs directly incurred in selling the products such as sales staff salaries and commissions.

Cost of sales excludes any expenditure such as rent or utility bills. These are classified as expenses and reported separately.

The cost of sales is usually shown with several items on the income statement.

Gross Income

Gross income or gross profit as it is often referred to as, is the Net Sales less the Cost of Sales.

General, Selling and Administrative Expenses

This item includes the company's operational expenses. This is the item where all the other expenses are included. These were the expenditures that could not be included in the direct cost of sales item, such as rent and utility bills.

Operating Income

Operating income is the profit that's left after the General, Selling and Administrative Expenses are deducted from the Gross profit. This profit figure represents the company's profitability in performing its core business function. This does exclude any non-operating expenditure such as interest payments on borrowed money.

Other Income and Other Expenses

This is where any interest expenses are included and any interest payments received. Also included here is any profit or loss from foreign currency exchanges.

Pretax Income

The pretax income or pretax profit as it is often referred to, is the operating profit less the net result of the Other Income and Other Expenses item.

Income Taxes

This item includes the tax liabilities incurred on the company's Profit. This income tax amount has not actually been paid yet, but is accounted for here in this period and it is an expense that must be paid.

Net Income

This item is the profit that is left after the income tax liability has been deducted from the pretax profit. This figure represents the actual profit that the company made and is often referred to as the bottom line. The Net Income is also referred to as the Net Profit. If this figure is negative, it means that the company made a loss and thus now has less money than what it had a period ago.

Income Statement

After the company pays a dividend if any, the remaining net income is then referred to as retained earnings and becomes part of the shareholders' equity on the balance sheet statement.

For an annual statement, the income statement shows the current fiscal year along side the previous fiscal year for comparative purposes. For a quarterly statement, the income statement shows the current period along side the previous corresponding period (which is the same quarter a year ago).

An example of a simplified income statement outlining the main items is shown below in Table 1.



Table 1. Example of a simplified income statement

2017 2016 2015
Net Sales 73,000 70,000 65,000
Cost of Sales 50,000 48,000 45,000
Gross Income 23,000 22,000 20,000
General and Administrative Costs 4,000 4,000 4,000
Operating Income 19,000 18,000 16,000
Other Income 1,000 1,000 1,000
Pretax Income 20,000 19,000 17,000
Income Taxes 4,000 4,000 4,000
Net Income 16,000 15,000 13,000

A company's actual income statement will have more items listed for most categories than the simplified example given above. The amount and the type of items listed vary from company to company and between industries. However, the basic format of listing the categories remains consistent between company reports.

Reading the Balance Sheet Statement

What the company owns and what it owes

Understanding the Financial Statements - Reading the Balance Sheet Statement;  picture of a road sign post with two signs saying liabilities and assets on a green background in white letters

The balance sheet statement reports the dollar value of the company's assets and liabilities at the end of each accounting period. The most common accounting periods are quarterly for the first three quarters and then one final annual report.

Thus the balance sheet statement provides a snapshot of what the company owns and what it owes, which is effectively reported every three months (four times a year). The financial data taken from the balance sheet statement and from the income statement are used to evaluate a company's financial position and its risk of bankruptcy.

The balance sheet statement is also known as the financial position statement and has three main sections; Assets, Liabilities and Stockholders' Equity.

Assets

Assets are the dollar value of everything the company owns. It includes cash in the bank, office equipment, plant and machinery, stocked products waiting to be sold and any money yet to be received from products sold or services provided.

The assets owned by the company are subdivided based on the asset type. This subdividing is useful for fundamental analysis as many of the ratios use the figures from these subcategories.

Assets are divided into Current assets and Noncurrent assets. Intangible assets are Noncurrent assets that have a special meaning. These are explained as follows.

  • Current assets: These are tangible assets that a company can readily use or convert to cash fairly quickly (generally within one year). They typically include the dollar balances of all bank accounts, accounts receivable and any inventory (unsold goods on hand). Current assets can include prepaid expenses or anything else that can be converted into cash within one year.
  • Noncurrent assets: These tangible assets are also referred to as fixed assets and can not be quickly converted to cash. These assets are long-term assets and include all property, plant and equipment, office furniture, motor vehicles. These assets can not be treated as an expense in the year they are acquired and must be depreciated over their lifespan. Depreciation is an accounting process where the original cost of the asset is divided by the expected usable life of the asset, and this value is then a deductible expense. Depreciation may also be listed as amortization. An exception to the depreciation rule is the Land value in real estate property, because land does not depreciate as it cannot be worn out. Only the value of the buildings can be depreciated.
  • Intangible assets: These are assets that have no physical value. That is, they can not be physically touched or picked up. Brand names are good examples of intangible assets, the product itself is physical but the brand name of the product is not physical, its just a name but it can have significant value (Coco Cola for example). Another example of an intangible asset is the "covenant not to compete". This occurs when a business is sold and the seller contractually agrees not to set up a new competing business for a certain number of years. While not a physical asset, the value to the business buyer is in the lowered competition and customer loyalty received from the previous owner. Goodwill is a distinct type of intangible asset which represents the amount of money a company is worth above its assets value.

Intangible assets are considered long-term and are included with the Noncurrent assets section on the balance sheet statement.

Liabilities

This is the dollar value of all the borrowed money that the company owes. It includes loans from banks, money obtained from issuing corporate bonds and any unpaid bills.

  • Current liabilities: These are short-term liabilities that will be paid within the next 12 months. Current liabilities include any accounts payable (such as utility bills), any taxes to be paid to local, state and federal agencies for payroll or other taxes, and includes 12 months worth of any loan repayments. Current liabilities are short-term and can be directly compared to current assets, and the net difference between current assets and current liabilities is known as working capital.
  • Noncurrent liabilities: These are long-term liabilities which will not be repaid within the next year. Noncurrent liabilities include all long-term loans made to the company, typically money that was used to acquire its long term noncurrent assets.

Stockholders' Equity

This is the net value of the company and it is what the Stockholder's own. The Stockholders' Equity is simply the difference between what is owned and what is owed, which is the company's net assets.

Stockholders' Equity also includes any net earnings that the company did not pay out to their stockholder's via a dividend and thus reinvested back into the company as retained earnings.

The Stockholders' Equity is not necessarily the business value of the company as any goodwill and intangible assets which are internally generated are not included. Only the goodwill and intangible assets from businesses acquired are included. The Stockholders' Equity will only equal the company's business value if all of its assets were acquired from other businesses.

The Stockholders' Equity is usually reported in a summary format on the balance sheet statement and typically includes the value of common stock, treasury stock and any retained earnings along with the total value.

Normally the Stockholder' Equity is also reported in a separate statement which contains a more detailed breakdown of its items, with only a summary included in the Stockholders' Equity section of the balance sheet statement.

The main reasoning for this is that most institutional investors require detailed information on Stockholders' Equity and if the accountants were to include this, the balance sheet statement would become too large and skewed with stockholders' information. Therefore it is common practice for accountants to only include a summary in the balance sheet statement and to provide a separate fourth statement detailing Stockholders' Equity.

Book Value

The book value of a public company used to refer to its net tangible assets which excluded goodwill and intangible assets. This is generally the same with private businesses.

Nowadays the book value of public companies usually includes the goodwill and intangible assets which make it the same as the Stockholders' Equity.

To avoid confusion, the term "tangible book value" is used when the intangibles and goodwill are excluded from the book value.

Balance Sheet

For the balance sheet to balance, the total assets less total liabilities must equal the Stockholders' equity.

For an annual statement, the balance sheet statement shows the current fiscal year along side the previous fiscal year for comparative purposes. For a quarterly statement, the balance sheet statement shows the current period along side the previous corresponding period (which is the same quarter a year ago).

An example of a simplified balance sheet statement is shown below in Table 1.



Table 1. Example of a simplified balance

sheet statement

2017 2016
Current Assets
Cash 7,000 6,000
Accounts receivable 15,000 16,000
Inventory 2,000 1,000
Total Current Assets 24,000 23,000
Noncurrent Assets
Property and equipment 10,000 11,000
Intangible assets 2,000 1,000
Goodwill 3,000 3,000
Total Noncurrent Assets 15,000 15,000
Total Assets 39,000 38,000
Current Liabilities
Accounts payable 4,000 3,000
Taxes payable 1,000 1,000
Total Current Liabilities 5,000 4,000
Noncurrent Liabilities
Long term debt 11,000 12,000
Other liabilities 2,000 2,000
Total Noncurrent Liabilities 13,000 14,000
Total Liabilities 18,000 18,000
Stockholders' Equity
Common stock 20,000 18,000
Retained earnings 1,000 2,000
Total Stockholders' Equity 21,000 20,000
Total Liabilities and Stockholder's Equity 39,000 38,000

A company's actual balance sheet statement will have significantly more items listed for each category than the simplified example above. The amount and the type of items listed in each category vary from company to company and between industries. However, the basic format of listing the categories remains consistent. The Current assets are listed first, then the Noncurrent assets, then Current Liabilities, then Noncurrent Liabilities and finally the Stockholders' Equity.

Reading the Cash Flow Statement

Understanding the Financial Statements - Reading the Cash Flow Statement; picture of a tap with water dripping that is shaped like dollar sign for cash

The company's cash position

The cash flow statement shows all of the company's actual cash payments it made and all the cash payments it received for each accounting period. The most common accounting periods are quarterly for the first three quarters and then one final annual report.

The cash flow statement is similar to the income statement with one important difference. Whereas the income statement records when the revenue and expenditures actually occurred, the cash flow statement records when the actual cash payment was received from any revenue and when the actual cash payments are made for any expenditure.

This comes about since most businesses have a working line of credit. So for example, if a company purchases some office supplies, it may have 60 days to actually pay for it, which may mean the actual payment is made in the following period, while it is booked as an expense in the current period.

The cash flow statement is required in addition to the income statement as this statement handles the recording of what period the revenue was received and expenditures paid (this is known as an accrual accounting system).

The cash flow statement has three main sections as follows.

Cash Flows from operating activities

This section details the actual cash payments received and the cash payments made by the company during the reporting period.

It includes all cash payments received from the sales of its products and/or its services and these are listed as cash inflows. All the cash payments made to produce these products and any cash payments made to provide the services are also included here and are listed as cash outflows.

Cash inflows are positive values and cash outflows are negative values (usually expressed in brackets).

Cash Flows from investing activities

The actual cash payments made from large capital expenditures are included in this section. Included here are items such new equipment purchases, new vehicles and basically any major expenditure. This also includes acquiring other companies and any other large cash payments made.

Any cash payments received are also included here, such as the net proceeds received from the sale of older equipment or the sale of a business unit.

Cash Flows from financing activities

The cash payments received from new loans, issuing corporate bonds or selling stock to raise additional financing are included in this section as cash inflows.

The cash payments made such as paying a dividend or repaying a bank loan are included as cash outflows.

Cash Flow Statement

For an annual statement, the cash flow statement shows the current fiscal year along side the previous fiscal year for comparative purposes. For a quarterly statement, the cash flow statement shows the current period along side the previous corresponding period (which is the same quarter a year ago).

An example of a simplified cash flow statement is shown below in Table 1.



Table 1. Example of a simplified cash flow statement

2017 2016 2015
Operations
Net Income 10,000 8,000 7,000
Depreciation (3,000) (3,000) (3,000)
Gains on investments 1,000 0 0
Net cash from operations 8,000 5,000 4,000
Financing
Debt repayments (1,000) (1,000) (1,000)
Dividends paid (2,000) (2,000) (1,000)
Net cash used in financing (3,000) (3,000) (2,000)
Investing
New equipment (1,000) (1,000) (1,000)
Purchase of investments (2,000) 0 0
Net cash used in investing (3,000) (1,000) (1,000)
Net change in cash 2,000 1,000 1,000
Cash at beginning of period 8,000 7,000 6,000
Cash at end of period 10,000 8,000 7,000

A company's actual cash flow statement will have more items listed for each category than the simplified example given above. The amount and the type of items listed vary from company to company and between industries. However, the basic format of listing the categories remains consistent between company reports.

Understanding Basic Accounting

We all use basic accounting throughout our lives - whether we realize it or not

Understanding the Financial Statements - Understanding Basic Accounting; picture of an investor conducting basic simple accounting analysis of a stock

Accounting is an aspect of investing that many investors would rather avoid. For most investors, their background does not involve accounting and it just seems like one of those obscure financial things that's best if it's ignored.

So why bother with accounting. To put it simply, money is a motivator. The more money you make, the more you are worth. Similarly, the more money a company makes, the more the company is worth. Now if you bought shares in this company, the more your shares are worth.

Stock investors who have a basic understanding of accounting are at an advantage and can more readily profit from the stock market. The investor has no need to become an accountant, as accounting is designed to provide monetary information in a summarized format that the average person can readily read.

The typical investor actually knows a lot more about accounting than they think. They are using accounting whenever they deal with money, whether it's receiving their pay check or paying for their groceries. So just exactly what is accounting?

Accounting is all about recording money, where it came from, where it was spent and how much you are left with! Investors are dealing with this in their personal life and with their investments.

The easiest way to understand the basic concepts of accounting is to relate it to the investor's personal finances. That way the investor already has a familiarity with it, which makes the concepts easier to relate to. Arbitrary figures will be used for illustrative purposes to help explain the main accounting terms and concepts.

Your Personal Income Statement

The first concept in accounting is to record how much money you earn (this is referred to as your revenue) and record how much you spend (this is referred to as your Expenses). This is your personal income statement.

How much you get to keep is the difference between your revenue and your expenses (which is referred to as your Net Income).

This can be illustrated using a hypothetical example as shown in Table 1. for one month of income and expenses.



Table 1. Example of a personal

income statement

Salary $8,000
Dividends $200
Income $8,200
 
Tax -$2,000
Transport -$400
Groceries -$1,200
Utility Bills -$300
Expenses -$3,900
 
Net Income $4,300

As can be seen from Table 1. above, the hypothetical investor's monthly income is $8,200 which comes from a combination of their salary and from stock dividends. But the investor does not keep all of this money as they have expenses which came to $3,900. This was money spent on living expenses and if the investor did not spend this money, they would not be in a position to earn their revenue. After all, you have to eat, you need electricity and you need general transport which includes traveling to work. In addition there is also a tax liability.

The money the investor actually gets to keep is less than their income as they have expenses. The money that's left over is the net income which comes to $4,300.

Displaying the summarized monetary information in a tabular format is referred to as a financial statement. Since Table 1. displays income related information, it is referred to as an income statement.

Understanding the Financial Statements - Understanding Basic Accounting; picture of an investor putting money into a piggy bank showing basic accounting principles used

It is common practice not to show the negative sign on the income statement. This means that negative numbers or subtractions are implied by the term used such as costs or expenses.

The period of time that the income and expenses are recorded over is referred to as an accounting period. The hypothetical example in Table 1. used a monthly accounting period. Companies listed on U.S. stock exchanges typically use a three month accounting period and also a yearly accounting period.

Your Personal Balance Sheet Statement

The second concept in accounting is to record how much you are worth. This is done by recording the dollar value of everything you personally own (this is referred to as your Assets) and by recording the dollar amount of all the money you owe (this is referred to as your Liabilities). This is your personal balance sheet statement.

How much you are worth is simply calculated by subtracting your liabilities from your assets (what you own minus what you owe). Your worth is referred to as your Net Assets, which is also known as your Net Worth or your Equity.

This can be illustrated using a hypothetical example as shown in Table 2.



Table 2. Example of a personal balance

sheet statement

What you own What you owe
Assets Liabilities
House $500,000 -$200,000
Furniture $50,000 -$30,000
Car $50,000 -$10,000
Stocks $65,000 $0
Cash $5,000 $0
Total $670,000 -$240,000
 
Net Assets $430,000

As can be seen from Table 2. above, the hypothetical investor's assets are worth $670,000 but they owe 240,000 in loans. If the investor sold everything they own and repaid all their loans, they would be left with $430,000 which is what their net assets are.

Understanding the Financial Statements - Understanding Basic Accounting; picture of a sign with a bright blue background showing the word asset in large white font capital letters

Now since the investor probably has a spouse (and assuming no prenuptial agreement) then the investor's share is half of the net assets which is $215,000. Thus, the investor and their spouse are both shareholders' of the net assets and each share is worth $215,000.

The information displayed in Table 2. is of an assets and liabilities nature and is referred to as a balance sheet statement.

The balance sheet statement produced by accountants do not show the assets and liabilities side by side, but actually show the assets first and then show the liabilities below the assets. An actual balance sheet statement shows the current year along with the previous year or two side by side. The reason the assets and liabilities were shown side by side in Table 2. is that it is easier to understand the concept of what is owned and what is owed, even though real balance sheets are not displayed in this manner.

Table 3. shows the investor's personal balance sheet statement again for the current year and also shows the previous year side by side



Table 3. Example of a personal balance

sheet statement

2014 2013
Assets
House 500,000 480,000
Furniture 50,000 55,000
Car 50,000 60,000
Stocks 65,000 55,000
Cash 5,000 10,000
Total Assets 670,000 660,000
 
Liabilities
Mortgage 200,000 220,000
Furniture loan 30,000 35,000
Car loan 10,000 15,000
Total Liabilities 240,000 270,000
 
Net Assets 430,000 390,000

Showing the previous year's assets and liabilities along side the current year allows an investor to readily compare any changes in assets and liabilities from year to year.

It is common practice not to show the negative sign on the balance sheet statement. This means that negative numbers or subtractions are implied by the term used such as liabilities.

Your Personal Cash Flow Statement

The third concept in accounting is similar to the income statement. Referring to Table 1. while the income statement recorded the amount of money earned and the amount of money that was spent in a particular month, it does not take into account that money spent can be spent on a credit card and actually paid for a couple of months later. Similarly, money earned from say dividends is always paid some weeks after the ex-dividend date.

While the income statement records when the hypothetical monthly income and expenses occurred, the cash flow statement records the month when the income (such as a dividend payment) is actually received and the month when an expense (such as groceries paid on a credit card) is actually paid.

If the dividend payment were received on the ex-dividend date and if all expenses were paid at the time they occurred (no credit cards), then the cash flow statement will be exactly the same as the income statement and thus make it surplus. But in the real world of credit, the cash flow statement is required to record the period when the actual payments were received and paid.

Table 4. shows a more realistic cash flow example for three months. The dividends are not normally paid monthly but every three months. Also the utility bills we will assume are paid every three months rather than monthly, but are paid in the second month in Table 4.



Table 4. Example of a personal cash flow statement

Month 1 Month 2Month 3
Income
Salary 8,000 8,000 8,000
Dividends 0 0 600
Total income 8,000 8,000 8,600
 
Expenses
Tax 2,000 2,000 2,000
Transport 400 400 400
Groceries 1,200 1,200 1,200
Utility bills 0 900 0
Total expenses3,600 4,500 3,600
 
Net income cash4,400 3,500 5,000

While the income statement in Table 1. showed the income and expenses, the cash flow statement shows when the income is received and when the expenses are paid. Thus, the monthly Net Income in cash varies over the three monthly periods shown in Table 4. rather than the fixed $4,300 from Table 1.

An actual income statement shows the Net Income as a summarized item rather than splitting it into Income and Expenses and detailing it as shown Table 4. It was shown this way to help the investor understand the concept of cash flow. It is common practice to show the negative values on the cash flow statement with brackets for each summarized item that has a negative result.

Reading the 8-K company report

This is where companies report anything they need to disclose

Understanding the Financial Statements - Reading the 8-K company report; picture of an investor reading the 8k company report for a stock portfolio

Listed companies are required to file a report known as an 8-K to the U.S. Securities and Exchange Commission (SEC) whenever a significant event occurs that is required to be disclosed. Companies may file numerous 8-K reports throughout the year, or they may only file an 8-K to release their earnings results if there is nothing else that's required to be declared throughout the year.

These events can be anything from a director resigning, to the preliminary earnings, or a company filing for bankruptcy protection. Stockholders can readily ascertain the significance of these events and make investment decisions accordingly in a timely manner.

The 8-K reports can be viewed and downloaded from the SECs EDGAR website. Summary versions are available from a variety of sources including yahoo finance.

The 8-K report is a standardized reporting format and the items are the same for every company that files an 8-K with the SEC.

The list of disclosure items is quite extensive and following is a list of items that stock investors tend to find more important.

Item 1.01 - Entry into a Material Definitive Agreement

Certain agreements that a company enters into which are not part of its ordinary business, these must be disclosed here. These agreements could be a new long-term loan the company makes to finance its expansion.

Item 1.02 - Termination of a Material Definitive Agreement

If an agreement is terminated early by either party, then this must be disclosed here. For example, a company enters into a 20 year loan and after 5 years the company decides to refinance with a new loan at a lower rate. Only agreements that are terminated early need to be disclosed here, if they expire as part of the agreement they are not required to be disclosed.

Item 1.03 - Bankruptcy or Receivership

This item provides investors with information regarding any bankruptcy or receivership court filings imposed on the company. Any orders for reorganization or liquidation are included.

Item 1.04 - Mine Safety - Reporting of Shutdowns and Patterns of Violations

This item deals with mines such as coal mines who must disclose of any shutdowns or any violations of mandatory health or safety standards

Item 2.01 - Completion of Acquisition or Disposition of Assets

If a company acquires or disposes of a significant amount of assets that is not in the course of its normal business operations, then details must be disclosed in this item. This includes buying another business or merging with another company.

Item 2.02 - Results of Operations and Financial Condition

Companies may include a summary of their quarterly (10-Q) or annual (10-K) financial statements in this item. Usually the 8-K is released first which may include a press release prior to the quarterly or annual reports being released.

Item 2.03 - Creation of a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement of a Registrant

Any long-term financial agreements that a company enters into must be disclosed here. These include any loans or leases. Also included are short-term loans that are not part of the company's ordinary business operations.

Item 2.04 - Triggering Events That Accelerate or Increase a Direct Financial Obligation or an Obligation under an Off-Balance Sheet Arrangement

If a company can not repay a loan or falls behind in its repayments as a consequence of cash flow problems the company may have, then this must be disclosed here.

Item 2.05 - Costs Associated with Exit or Disposal Activities

If a company disposes of a significant asset or terminates employees under a plan of termination, the company is required to disclose the estimated costs, such as the cost to dispose of the asset or the cost to lay-off these employees.

Item 2.06 - Material Impairments

If a company determines that the estimated value of its assets (including intangible assets and goodwill) will be significantly reduced and it determines this before preparing its 10-Q or 10-K reports, then this is required to be included in this item.

Item 3.01 - Notice of Delisting or Failure to Satisfy a Continued Listing Rule or Standard; Transfer of Listing

If a company has received notice from a stock exchange that it does not satisfy a rule or standard for continued listing on the exchange, then this must be stated here. The noncompliance may be that the company's stock price has been trading below a minimum level set by the exchange for an extended period of time.

Item 3.02 - Unregistered Sales of Equity Securities

A company must disclose if more than 1% of its shares outstanding in that class of stock has been sold that the market is not aware off. A 5% rule applies to smaller companies.

Item 3.03 - Material Modification to Rights of Security Holders

A company is required to disclose any information that will affect the rights of its stockholders such as the company issuing preferred stock or canceling its dividend payments.

Item 4.01 - Changes in Registrant's Certifying Accountant

If a company dismisses an independent accountant who was engaged to audit the company's financial statements, this must be disclosed here. Also, if the auditing accountant declines to conduct any future audits, this must also be disclosed. If the company engages a new auditing accountant, this is also required to be disclosed. Some stock investors may be concerned when the auditing accountant changes, but this does depend on the reasons for the change which are stated in this item.

Item 4.02 - Non-Reliance on Previously Issued Financial Statements or a Related Audit Report or Completed Interim Review

If a company or its auditing accountant becomes aware of any reason that the previously issued financial statements should no longer be relied upon because of an error in these financial statements, this must be disclosed here. The company will then reissue the affected financial statements, but this can take some time. Stock investors may be concerned with this as there may be alterations to the previously reported earnings.

Item 5.01 - Changes in Control of Registrant

Any change in the control of the company along with the percentage of voting stock owned is required to be disclosed in this item.

Item 5.02 - Departure of Directors or Certain Officers; Election of Directors; Appointment of Certain Officers; Compensatory Arrangements of Certain Officers

If a director has resigned or refuses to stand for re-election to the board of directors, or a director has been removed from the board, then the company must outline the circumstances. Also if a key employee resigns or is dismissed, details need to be provided here. If the company appoints a new director or key employee, details are provided here including their salary and bonus information such as shares or options.

Item 5.03 - Amendments to Articles of Incorporation or Bylaws; Change in Fiscal Year

Should a company alter its articles of incorporation or bylaws or changes the month its fiscal year starts, this is disclosed here.

Item 8.01 - Other Events

The company may disclose information here that it considers important and should be disclosed, but the company has not been required to disclose this in any of the other items.

Item 9.01 - Financial Statements and Exhibits

The financial statements are included in this item; these may be statements from a business it has acquired. Any items that the company completed in this 8-K form that require attachments, these are included here.

Reading the 10-K company report

This is the company's annual financial report

Understanding the Financial Statements - Reading the 10-K company report; picture of an accountant signing the 10k company report for an investor to build their portfolio

Listed companies report their financial activities by lodging a financial report to the U.S. Securities and Exchange Commission (SEC). These reports are typically lodged every quarter for the first three quarters and then for the fourth quarter they lodge a final report that covers the entire fiscal year's financial activities. Most U.S. listed companies are required to produce quarterly reports known as '10-Q filings' and an annual report known as a '10-K filing'.

The SEC also requires listed companies to send an annual report to their stockholders. This stockholder annual report can simply be the 10-K annual report, but a lot of companies will actually reproduce the 10-K report into a colorful glossy publication to send to their stockholders.

The 10-K reports can be viewed and downloaded from the SECs EDGAR website. Most companies will also provide the 10-K reports on their websites and summary versions are available from a variety of sources including yahoo finance.

The 10-K report is a standardized reporting format and the items are the same for every company that files a 10-K with the SEC. The items are listed as follows.

Part I

Item 1. Business: Provides a description of the company's business operations, its main products or services and other information.

Item 1A. Risk Factors: Details any significant risks to the company's business or its shares. These may include company specific risks or general economy risks.

Item 1B. Unresolved Staff Comments: The company is required to explain any comments it received from SEC staff about previous filled reports that have not been resolved. This item might not have any unresolved SEC staff comments.

Item 2. Properties: Provides information on any significant property the company owns such as manufacturing plants or coal mines or their headquarters.

Item 3. Legal Proceedings: Details any significant legal matters such as lawsuits against the company.

Item 4. Other information: This item has no required information and may be blank.

Part II

Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities: Provides information about the company's stock, including number of stockholders, dividends and stock repurchases.

Item 6. Selected Financial Data: This item may contain summarized information about the company for the last five years. This information might be included as an exhibit in item 15.

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations: This is the item where management discusses the financial results in item 8. but it may be included as an exhibit in item 15.

Item 7A. Quantitative and Qualitative Disclosures about Market Risk: Provides details on risks such as interest rates, currency exchange rates, commodity prices and stock prices. This might be included as an exhibit in item 15.

Item 8. Financial Statements and Supplementary Data: This is where the financial statements are found. The income statement, the balance sheets statement, the cash flow statement and the stockholders' statement. Some companies might include the statements as an exhibit in item 15.

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure: If the company changes its accountants, this is noted here.

Item 9A. Controls and Procedures: Provides information about the company's disclosure and the internal control over its financial reporting.

Item 9B. Other Information: Includes any information that was required to be reported during the last quarter but has not yet been reported.

Part III

Item 10. Directors, Executive Officers and Corporate Governance: Provides information on the background and experience of the company's key employees and directors. Also provides information on the company's code of ethics.

Item 11. Executive Compensation: Provides details on the compensation paid to the company's key employees.

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters: Provides information on the shares owned by key employees, directors and large stockholders.

Item 13. Certain Relationships and Related Transactions, and Director Independence: Provides information about the relationships and transactions between the company and its key employees and directors.

Item 14. Principal Accountant Fees and Services: Provides details on accounting fees paid by the company.

Part IV

Item 15. Exhibits and Financial Statement Schedules: Lists the financial statements and exhibits. The actual financial statements might be included here rather than in item 8. This Item tends to be the largest item containing the most pages. It includes various documents such as the company's bylaws.

Companies might provide the information required for certain items in a separate report known as a proxy statement, which companies provide to their stockholders for their annual meeting.

As the investor has probably observed, the all important financial statements are included in either item 8 or item 15. The 10-Q and 10-K reports have an index at the beginning of the report, so the investor can simply look up the page number and go directly to the financial statements, which is probably the most important information.

After checking the financial statements, the investor can then check the other items if needed. Some of the items that may be of particular interest to the investor are items 1, 1A, 3, 5, 7, 7A, 9, 12.

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