Why Are Financial Statements Important in Fundamental Analysis

Hello, I am Umesh Tripathi, and we are learning about the concepts of Fundamental Analysis.
In this video, we will understand why Financial Statements are important in Fundamental Analysis.
We will learn about why Financial Statements are required for overall analysis, why companies release their Financial Statements, and what crucial information we investors get from these statements.

As far as the question of why companies release Financial Statements is concerned, the first point is that companies basically follow certain rules and regulations.
As per certain SEBI norms, a publicly listed company has to release its Financial Statement at the end of the quarter.
Along with this, it ensures accountability and transparency.
So, if any company is consistently releasing its Financial Statements, it helps maintain transparency, builds trust, and enhances the market credibility of that particular company.
It also attracts new investments and stakeholders.

When we are analyzing the overall Financial Statements of a company, it helps us in wise decision-making.
We can do comparisons with industry peers, and it helps stakeholders assess the relative performance of the company.
Along with this, Financial Statements are also required for acquisitions, mergers, partnerships, and even IPOs.
So, whenever a private company or an LLP company is going to become a publicly listed company, it needs Financial Statements during the IPO process.

Financial Statements are basically of two types — Quarterly Financial Statements and Annual Financial Statements.
As far as Quarterly Financial Statements are concerned, these are basically published four times in a financial year — Quarter One, Quarter Two, Quarter Three, and Quarter Four.
They are basically a snapshot of short-term performance, where we tend to figure out the overall short-term trend, volatility, and momentum.
It is basically useful for short-term traders.

Here, auditing is not mandatory, meaning that if a company is publishing Quarterly Financial Statements, auditing is not compulsory. However, it has to be reviewed.
The Quarterly Statement has to be published by the company within 45 days of the quarter end.
It basically talks about profit/loss, a limited balance sheet, segment-wise reporting, and key ratios. As far as the Annual Statement is concerned, it is a bit different compared to the Quarterly Statement.
The Annual Statement is a thorough and comprehensive Financial Statement, which is an audited statement.
Here, auditing is mandatory. The Annual Statement has to be thoroughly audited by certain CAs.
It has to be published within six months of the financial year-end.
It is basically helpful for long-term investors because the Annual Financial Statement or Annual Report is a comprehensive report of what the company has done throughout the year — its sales track record, profitability track record, balance sheet position, and overall cash flow.
All of this is recorded in detail in the Annual Reports, which basically help long-term investors take wise decisions.

Now comes the question — what crucial information do shareholders get from Financial Statements?
Let us first talk about the Profit & Loss Statement, also called the Income Statement.
This basically provides us with records of revenues, overall expenses, and profitability, along with a record of the EPS (Earnings per Share) and the overall trend of the business.

If we talk about the Balance Sheet, it provides us with information about assets.
Along with this, we get information on overall liabilities and equity as well, which is basically the net worth or even the book value of the company.
So, if we remove liabilities from assets, the remainder is called shareholders’ equity.
Since the Balance Sheet tells us about overall debt, and we also get to know about equity, we can derive the Debt-to-Equity ratio by analyzing the Balance Sheet.
It also gives us a clear picture of the company’s liquidity position.

As far as the Cash Flow Statement is concerned, we get important information from it.
From here, we get to know about the Operating Cash Flow, which is basically the income or cash generated from operations — the income generated from the underlying business of the company.
We also get Investing Cash Flow information from this particular statement, where we learn about the interest earned from investments or cash spent on equipment and acquisitions.
Along with this, we also get information about Financing Cash Flow from this particular Cash Flow Statement — which tells us about cash from issuing shares, borrowing or repaying loans, and dividends.

From the Cash Flow, we can basically derive the Free Cash Flow, which helps us figure out whether the company is able to reinvest or return money to shareholders or not.

Now comes the point — why is the Financial Statement a key factor in deciding investment opportunities?
Basically, when we do Financial Analysis, we analyze certain financial ratios which tell us about the overall fundamentals of the company and help us derive the company’s valuations.
When we know the valuations of a certain company, we actually know whether the company is undervalued or overvalued — which helps us in wise decision-making for long-term investment.

Along with this, certain red flags can also be identified from the analysis of Financial Statements.
For example, if a company’s profitability is declining, it becomes evident from the analysis of Financial Statements.
If a company’s debt is increasing, it can also be understood from the Financial Statements analysis.

So, all in all, we can figure out red flags in a certain company by doing Financial Statement analysis and make strategic decisions based on it — such as whether to hold a company we already own, sell it, or invest in a new company we are analyzing through its Financial Statements.

So, in this video, we learned that Financial Statements are basically tools for investors and stakeholders to make long-term and short-term investing decisions.
They enable transparency and trust.
For investors, they are a blueprint of a company’s health.
All in all, they are a must-read for anyone evaluating long-term investing opportunities.

That’s all for this video.
See you in the next one.

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