Balance Sheet Reading Guide: Income Statement Analysis

Balance sheet reading and income statement analysis form the backbone of fundamental analysis in stock market investing. Examining the financial reports showing the financial status of a company before partnering with it prevents investing blindly. A balance sheet is a table showing a company's assets (what it owns) and how these assets are financed (liabilities or equity). The income statement shows how much revenue the company generated, how much expense it paid, and consequently how much profit it achieved during a specific timeframe. Analyzing these two tables allows evaluating the financial health of the company.

One of the first things to look at in balance sheet analysis is the balance between current assets and non-current assets. Current assets are assets that the company can convert into cash within a year (cash, receivables, inventories). Non-current assets are long-term investments such as factories, machinery, and real estate. A healthy company's current assets should be greater than its short-term liabilities. This is called the current ratio, and this ratio being above 1.5 shows that the company's short-term debt payment power is high. In the debt structure, the ratio of short-term debts to long-term debts should be balanced.

In income statement analysis, focusing only on the net profit figure is a major mistake. A company's net profit may stem from a one-off sale of a non-current asset (e.g., land sale), and this situation is not sustainable. Therefore, the increase in the company's 'Operating Profit' and 'EBITDA' (Earnings Before Interest, Taxes, Depreciation, and Amortization) figures must be monitored. EBITDA is the purest indicator of how much cash the company generates from its core business. The increase in EBITDA margin while sales revenue increases is proof that the company's operational efficiency is rising.

The equity section is another important area showing the real growth of the company. Return on Equity (ROE) indicates how efficiently the company uses the capital contributed by its shareholders. An ROE above the country's inflation rate means that the company is growing in real terms. In addition, the company's retained earnings and reserves are the guarantee of dividends it can distribute in the future. The erosion of equity in a debt-ridden company is the biggest harbinger of financial distress.

On our Sermaye Borsasi Telegram channel, as soon as the quarterly balance sheets of Borsa Istanbul companies are announced, we simplify complex financial statements and present them to our investors accompanied by charts and ratios. We share which company increased its sales and which one decreased its net debt with instant analyses. Learning to read balance sheets is the only way to invest based on rational data instead of chasing tips in the stock market. As Sermaye Borsasi, we make it our mission to raise the financial literacy level of our investors.