Will your stocks weather the storm? Or blow away on the wind? Understanding a company’s cash position, cash burn rate, and growth strategy is key to picking winning biotech stocks, especially during the turbulence of the Coronavirus crises. Financial Analyst Howie Bick, of The Analyst Handbook, shows you how.
This is a Guest Post by Howie Bick of TheAnalystHandbook.com
One of the best skills you can have as an investor, is the ability to analyze, and interpret company’s financial statements. Once you understand how to analyze and evaluate the information given, you’re able to get a glimpse into the way the business has been operating, and the current state of the company. It gives you a look inside the past results, past earnings, and past operational performance the company or business has experienced. It’s your way to judge or evaluate whether a company is performing well, poised for growth, headed for a decline, or in a tough financial position. There’s a lot of insight and information to be understood and had through analyzing the financial statements of a company or a business.
Every company and every business have an array of different financial metrics. A lot of it depends on the company, the business they’re in, and the industry they operate in. The three main financial statements are the income statement, the balance sheet, and the statement of cash flows. These types of financial statements are used by almost every company and are important to understand in order to get an idea of the company’s financial standing, and the company’s operational performance. We’re going to take a dive into trying to figure how to analyze a company’s balance sheet, get a feel for the type financial standing they have, and the way they run their business.
Interpreting the Numbers
To many people the balance sheet and income statement may just be an assortment or a collection of numbers. There’s a lot going on there, and much to understand. The financial statements of a company give a glimpse into the company’s past performance, and the way it’s been operating. Beginning with the balance sheet, it’ shows you the company’s assets. The asset section shows you what the company owns, possess, or is owed. You’re able to see the amount of cash it has on hand, the type of current assets (short term assets within one year), and the type of longer-term assets (real estate, machinery, etc) the company has. What you want to see is how much income the company is generating, which is one the income statement. To determine whether they’ll be able to maintain it, or grow it in the future. And if they aren’t able to, how much does it cost them to run their business? What are their costs to operate? How much of their costs are fixed versus variable? And how much runway (how long can they run or operate without investment or income) they have on hand, and how are they positioned to weather a storm. The company’s balance sheets that have minimal cash or cash like assets (short term investments, accounts receivables) on hand, are going to be heavily dependent on future income or revenue to continue operating their business and running their day to day operations.
Depending on the higher ups management style, if they are aggressive, looking to develop new products, services, or techniques will play a role in what their balance sheet says. Companies looking to grow their business, services, or offerings, or are looking to be aggressive in the marketplace, often spend lots of money on research and development, or in trying to build or develop something new that’s successful. They try to operate or run the company on a limited amount of cash, allowing them to grow and build new income streams. The less cash or cash like assets a company has on hand, will give you an idea of the way the company is currently being run and the type of financial standing a company is in. If a company has a strong balance sheet, it most likely means they are well equipped, with lots of cash, cash like assets, or limited debt or liabilities, ready to handle whatever comes their way. They could be more focused on running or operating the business, maintain or growing the number of sales from existing products or services, or waiting to develop or spend to create new income streams. Businesses must always be growing or innovating, but it’s important to grow and move at the right pace, given the company’s current standing.
Understanding What’s Ahead
In understanding where a company is headed, and the direction it’s going to go in, there are a variety of factors you have to consider and look out for. The industry or market the company operates in, the senior management and their management style, and any major or planned events, whether it be capital expenditures, lease expirations, or future growth plans, are all important in getting an idea of where the company is headed, and the direction it’s planning to go in.
The management of a company is important in the way it performs and the way it operates. A lot of the way a company runs is based on the vision of the senior level management, and the way they feel is the best way to move forward. Depending on the way they feel, the outlook they see, and the future they envision for the company, they’ll decide which ways to move forward, the path they see fit, and the objectives they’re looking to achieve.
One of the main elements of the way a company operates, is the way it utilizes or invests its resources. Meaning the capital, it has, the income it generates, and the assets they possess. The way a company uses its assets is one of the most important elements in determining the company’s future, and the path it’s going to take. The amount of capital a business has, whether it be in the form of assets or cash, determines the pace the company is able to grow and expand. Growing a business costs money. There are lots of expenses that come with growth. Increased inventory, increased marketing spends, and increased production. The more capital a business has, the faster it can grow. If a business is capital constrained, then it’ll have to grow at a slower pace.
It’s also important to get an idea of any major upcoming events within the company. Whether certain debt or notes are coming due. Any major leases expirations. Are there any major capital expenditures planned? A lot of these items are included within the summary, or in the footnotes in one of the documents. These events have the potential to incredibly effect the profitability of a company, the revenue it generates, or its market share within a given space. An important factor to consider in the biotech space, is when does the patent expire on certain drugs and medications. These patents provide companies with incredible head starts, enormous earning potential, and the ability to have a protected income stream for many years.
When you’re analyzing a company, an investment, or a stock, there are lots of factors to consider when trying to get a read, or a better understanding of the company, or the direction it’s headed in. Learning more about their balance sheet, getting a glimpse into the way they operate, and the current state of the company shows you the type of standing they’re in. By reading financial insights into a company, you’re able to get a sense of what they’re objectives are, the type of position they have in the marketplace, and the type of agenda they’re trying to achieve. By seeing the type of management, the decisions they’re making, and some of the major events ahead you’re able to get a glimpse into the direction the company is headed in. A lot of what financial analysts do, is to understand what a company is doing, why they’re doing it, and how it’s going to perform. You’re trying to be a financial analyst of your own, and try to determine whether the company, investment, or stock is going to perform well. Each company, each investment, each asset, and each business perform differently, and depends on a variety of different factors. We hope you were able to gain a bit of insight, and more of an understanding how to analyze a company’s financial statements, and some of the important things to consider.
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