How to read financial statements: profit, assets and cash flow
A company can report a profit while waiting for customers to pay. It can also have cash because it borrowed money. Reading one number without the surrounding accounts makes these situations easy to confuse.
Follow a hypothetical sale
Imagine a business sells goods for $1,000 on credit. The goods cost $600. Ignoring other costs and taxes, the transaction creates $400 of gross profit. The customer has not yet paid, so the $1,000 is a receivable rather than cash received.
The income statement describes revenues and expenses over a period. The balance sheet shows assets, liabilities and equity at a date. The cash-flow statement records cash movements across operating, investing and financing activities. Each statement answers a different part of the example.
Three checks when opening a report
Confirm the reporting period and units. A table in thousands should not be compared directly with one in millions. Check the currency and whether the previous period has been restated.
Read the notes explaining recognition and significant accounting estimates. Then compare profit with operating cash flow. If they differ substantially, look for working-capital movements and non-cash items before deciding that one number proves the other wrong.
Keep the tables and notes together in your research process. A chart of the share price cannot tell you whether a receivable has been collected.
For practice, trace the example through the statements twice: first when the sale is recognised, then when the customer pays. The second event changes cash and receivables without creating a second sale.