Investment Guide: Deciphering The Annual Report
This article is sponsored by Securities Commission Malaysia, under its InvestSmart initiative.
As a shareholder, the act of buying stocks in a company automatically makes you a partial owner of the company. Therefore, it is extremely important for you to find out how well the company has performed previously and also to determine how it can potentially grow in the future. Read the annual report check whether the company is performing according to your expectations, or if you are planning to invest in that company, whether the company is worth investing in.
When evaluating a company’s annual report, always look out for the following:
1. Financial highlights
Generally, most companies will publish financial highlights with a five to ten-year historical comparison in their annual reports. Do remember to analyse revenue trends, earnings before interest, tax, depreciation and amortisation, profit-after-tax and more, among others. Additionally, focus on shareholders’ equity, assets, debtors, liability and the total debt from its balance sheet over the years.
Example of a financial highlights page
2. Director’s report
This section provides a brief summary on financials, an explanation and key developments in the company. Terms used to discuss company operations will depend on the sectors, so get to know the industry terms or use the glossary to find out their meanings.
Read at least the director’s report from as far back as five years ago to see whether the management has achieved their revenue target over the years, or whether strategies adopted over the years were favourable, or did the management continue to perform during an economical roller coaster.
Also, take note of the Director’s report while reading. Ideally, it should sound positive when the company has a good year and negative when the company has a bad year. Being able to sense their tone will give you a better idea of what they themselves actually feel about their own performance.
3. Management discussion and analysis (MDA)
This section provides information on trends in the industry, a SWOT analysis, and insights on key items of financial statements as well as risk factors affecting the company’s performance. This section of the annual report will help you to better understand the industry the company is in.
4. Corporate governance
This section gives an insight on the corporate governance practised by the company, such as the composition of board of directors, brief background information on independent and non-independent directors, and remuneration for directors.
Use the information provided to analyse whether the profile of each independent director matches the requirements of the company and the sector which it operates in.
5. Information on shares
This section provides information on the historical performance of the company’s share price(s), shareholding patterns, pledging of shares, split of shares, bonus shares distributed, and so on.
Stock value is derived from a company’s long term ability to create cash profits from the capital that investors have contributed – and this information is intended to show how successfully the creation of value was being accomplished.
However, the key to successful investing is to regard your shares as a long-term investment and overlook the short-term movements in the market.
6. Auditors report
This section provides comments by auditors on the financials of the company you have invested in. Among the things the auditors may highlight include the changes in accounting policy, lapses in compliance with rules or other abnormalities, deferred revenue expenses, wrong classification of expenses and treatment of deferred revenue expenditure.
The auditor’s report is an essential tool for identifying the authenticity of the financial information provided by the company. While many investors prefer certification of independent auditors to ensure it is authentic, many companies equally rely on auditor reports to certify their information to attract investors and improve corporate image.
7. Financial statements
In general (but not guaranteed), a company that makes a profit or performs well will see its stock prices rise, and give you a good return on your investment in the form of dividends or capital gains. To see how well a company has performed – whether to verify your returns or to gauge if the company has potential, you need to check the financial statement section in the annual report.
Here, you will also see the income statement, which shows profit and loss, balance sheet, cash flow statement and schedules of the financials from previous years.
While some may find reading the annual report a tedious exercise, we strongly advise you to read, analyse and understand at least two to three past annual reports of a company to make sense of its ins-and-outs financials, as well as its management’s stand in dealing with various economic trends.
Once you know what you need to look out for, extracting, deciphering and understanding the relevant information from the annual report will become a much easier experience.
The annual report can be easily obtained from the invested company through mail, email or on their official website.
* Screenshots of an Annual Report’s 2013 Income Statements.
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