Welcome back to MBA Insights! This week, we're diving into the fundamentals of corporate finance and exploring how companies use it to inform investment decisions.
In finance, the primary source of information on a company's health is its financial statements. These reports, following standards like US GAAP or IFRS, offer insights into a company's past performance and current financial standing.
The Balance Sheet
The balance sheet, or statement of financial position, reveals a company's assets, liabilities, and equity at a specific point in time, following the equation: Assets = Liabilities + Equity. This equation reflects how a company's resources (assets) are financed, either through debt (liabilities) or ownership contributions (equity). Assets include items the company owns, like cash and equipment. Liabilities cover its debts and obligations, while equity represents the owners' investment in the company.
The Importance of Market Value
While the balance sheet provides a historical record, the market value – or the price investors are willing to pay for shares – often differs from book value, highlighting how future cash flows factor into a company's true worth.
The Income Statement
The income statement, also called the statement of comprehensive income, tracks a company’s performance over time by detailing revenues, expenses, and net income. Profitability ratios like earnings per share (EPS) and return on equity (ROE), derived from the income statement, are essential for gauging financial health.
The Cash Flow Statement
The cash flow statement monitors cash movement in and out of the company through operating, investing, and financing activities, giving investors insight into how a company generates and spends cash.
Fair Value vs. Historic Cost
Accounting traditionally records assets at their historic cost, or original purchase price. However, there's a shift toward fair value, which reflects current market prices, to give a more accurate financial picture.
That’s a look into corporate finance basics. Join us next week as we explore financial statement analysis and its role in investment decisions!