Fundamental Analysis: Financial Statements

Financial statements allow investors to gain essential insights into companies financial health. They can be used to spot emerging changes in long-term trends, both positive and negative. The information within the financial statements can be used to compute ratios that can be used to quantify and compare the values of various companies.

Income Statement

The income statement reports the revenues and expenses of an organization. The expenses are grouped and classified according to the type of cost. After expenses are deducted from revenues, net income is reported at the bottom of the financial statement. This income figure is used as an overall summary regarding the profitability of the entity.

Balance Sheet

The balance sheet reports the assets of a company along with the owners equity associated with those assets. In general, an asset can be financed through debt or owned by the company. Therefore, the total dollar amount of assets equals the total dollar amount of liabilities and owner’s equity. The balance sheet is most useful in short periods of time it is the only financial statement based on a particular moment. While other financial statements like the income statement aggregate sales throughout a period, the balance sheet only reflects the current balance – such as how much cash is in the bank at the date of the report. This makes the report useful for liquidity and solvency analysis.

Cash Flow Statement

The cash flow statement reports the cash inflows and outflows of an organization based on multiple categories. Although there are two different methods of reporting a cash flow statement, both revolve around the concept of cash entering and exiting a business for different reasons.

Fundamental analysis is essential because it allows us to more easily differentiate real opportunities to create value and fads, such as tulips, or more recently bitcoin. In the seventeenth century, speculators drove up the prices of tulip bulbs to an unsustainable level, resulting in massive losses for unlucky investors.


Fundamentals usually have three bread classifications:


1. Financial Strength: Does the company have a significant amount of assets at its disposal?

2. Working Capital: Is there enough liquidity for the company to grow and still pay all of the bills?

3. Profitability: Is the company making money?