Reading Financial Statements in Fundamental Analysis: A Step-by-Step Guide
Fundai Education Team · · 8 min read
A step-by-step guide to reading the income statement, balance sheet and cash flow statement using real figures from Tabriz Oil Refining (SHABRIZ), and to calculating the twelve-month P/E.
In the first part of this guide we saw What is fundamental analysis? A complete guide to fundamental analysis of stocks on the Iranian stock market and why a share's value comes from the company's performance. The next step is reading financial statements: the income statement, the balance sheet and the cash flow statement. In this article we read all three using real figures from Tabriz Oil Refining (SHABRIZ), a company that, in the reports Fundai has collected from Codal, has no consolidated report, which is why you see only one set of financial statements for it on Codal. Financial reports are published on the Codal system, and daily prices and trading on the Tehran Securities Exchange Technology Management Co. (TSETMC) website.
What does reading financial statements tell you about a company?
Reading financial statements shows what the company owns and owes, how much profit it earned in a period, and how much cash actually came in or went out. Each statement answers one question:
| Financial statement | What it shows | Time frame |
|---|---|---|
| Balance sheet (statement of financial position) | Assets, liabilities and equity | A specific date |
| Income statement | Revenue, expenses and profit on an accrual basis | A period |
| Cash flow statement | Actual cash inflows and outflows across three sections: operating, investing and financing | A period |
Companies publish these statements on Codal for three-month, six-month, nine-month and annual periods. These reports are cumulative: the six-month report covers performance from the start of the fiscal year to the end of the sixth month, not just the second three months. This matters when calculating trailing twelve-month profit.
How do we read the income statement?
The income statement starts from operating revenue and, by deducting costs step by step, arrives at net profit. Read the three main steps in order:
Gross profit is operating revenue minus cost of goods sold; it shows the gap between the selling price and the cost of production.
Operating profit is gross profit minus selling, general and administrative expenses, plus other operating income and expenses; it is the profit that came from the core business.
Net profit is operating profit after finance costs, non-operating items and income tax.
| Line item | Amount |
|---|---|
| Operating revenue | 232,161.2 |
| Cost of operating revenue | (203,584.7) |
| Gross profit | 28,576.5 |
| Selling, general and administrative expenses | (2,330.6) |
| Other operating income and expenses (net) | 3,968.9 |
| Operating profit | 30,214.8 |
| Finance costs and non-operating items (net) | (238.4) |
| Income tax | (6,001.1) |
| Net profit | 23,975.3 |
How are earnings per share (EPS) and the trailing twelve-month P/E calculated?
Basic earnings per share (EPS) is a figure the company reports at the bottom of the income statement for each period; the EPS in an annual statement shows only the profit of the latest fiscal year. To keep the figure current, analysts use trailing twelve-month (TTM) earnings: the sum of net profit for the last four quarters. Because Codal reports are cumulative, TTM can be built from three reports:
Basic earnings per share
Trailing twelve-month earnings (the comparable period means the same period in the previous year)
Price to trailing twelve-month earnings
| Quarter ended | Quarterly net profit (billion tomans) |
|---|---|
| Shahrivar 1403 | 2,142.1 |
| Azar 1403 | 2,253.8 |
| Esfand 1403 | 4,071.9 |
| Khordad 1404 | 4,632.3 |
| Shahrivar 1404 | 4,377.1 |
| Azar 1404 | 8,173.7 |
| Esfand 1404 | 6,792.2 |
| Khordad 1405 | 9,638.8 |
The last four columns, from Shahrivar 1404 to Khordad 1405, are the four quarters that make up trailing twelve-month earnings; their sum is 28,981.8 billion tomans.
Trailing twelve-month earnings (billion tomans)
Trailing twelve-month earnings per share (rials)
Trailing twelve-month P/E
For comparison: P/E using annual EPS
Why do the two figures differ? The 1405 quarterly profit (9,638.8 billion tomans) was higher than the 1404 quarterly profit (4,632.3 billion tomans). That is why the trailing twelve-month EPS (9,661 rials) is higher than the annual EPS (8,002 rials), and the trailing twelve-month P/E of 5.77 is lower than the annual P/E of 6.96. A small part of the gap also comes from the share-count basis: annual basic EPS is calculated with the period's weighted average number of shares, while trailing twelve-month EPS uses the current number of shares. The 5.77 figure is the one shown on Shabriz's page on Fundai.
Based on Fundai data for the same day, the trailing twelve-month P/E of the whole industry is 6.24 and of the whole market is 8.41. The industry and market figures on Fundai are the total market capitalization of the entire group divided by its total trailing twelve-month net profit, not a simple average of company P/Es.
What is a balance sheet, and how do you calculate net working capital?
The balance sheet shows, at a specific date, that total assets equal total liabilities plus equity. Assets and liabilities that will be converted to cash or settled within one year or one operating cycle are current, and the difference between the two is net working capital.
| Item | Amount |
|---|---|
| Current assets | 45,739.6 |
| Non-current assets | 14,469.6 |
| Total assets | 60,209.1 |
| Current liabilities | 19,113.4 |
| Non-current liabilities | 2,182.5 |
| Total liabilities | 21,296.0 |
| Total equity | 38,913.2 |
Current assets minus current liabilities (billion tomans)
The balance sheet changes every quarter. According to SHABRIZ's three-month balance sheet at 31 Khordad 1405 on Codal, dividends payable reached 14,432.8 billion tomans and total liabilities rose to 39,672.2 billion tomans. Fundai's ratios are calculated using this latest balance sheet: SHABRIZ's debt-to-assets ratio is 53.7% versus 35.3% for the whole industry, and its debt-to-equity ratio is 1.16 times versus 0.55 times for the industry.
How do we gauge earnings quality from the cash flow statement?
Earnings quality is measured by comparing net profit with net cash flow from operating activities. Under accrual accounting, a credit sale generates profit on the same day, but the cash arrives later; the cash flow statement shows this gap. A single year is not enough, because changes in receivables, inventory and payables shift each year's operating cash. In the cash flow statement you will see cash generated from operations before tax payments and net operating cash flow after them; to compare with net profit, use the second figure.
Net operating cash flow divided by net profit
How do we review reading financial statements on Fundai step by step?
On each company's page on Fundai, the financial statements and financial ratios appear in separate sections, and each ratio is shown next to the industry and market figures.
Open the financial statements On the company page, in the "Financial Reports" section, view the income statement, balance sheet and cash flow statement across different periods.
View the figures in dollars too To remove the effect of rial inflation, view each period's figures in thousand dollars, using the average dollar rate (NIMA or free market) over the months of that period.
Compare the ratios with the industry In the "Financial Ratios" section, read the twelve-month P/E, profit margin and debt ratios next to the figures for the whole industry and the whole market.
Reading the balance sheet, income statement and cash flow statement together gives a clear picture of a company's past liquidity and profitability; however, past figures do not guarantee the future. For the basics of valuing stocks, read the guide What Is Fundamental Analysis? A Complete Guide to Fundamental Analysis of Stocks on the Iranian Stock Exchange.
Frequently asked questions about reading financial statements
Where does reading financial statements on the stock exchange begin?
Usually with the income statement to see revenue and profit, then the balance sheet to understand assets and liabilities, and finally the cash flow statement to see whether profit has turned into cash.
What does the balance sheet show?
The company's assets, liabilities and equity on a specific date; total assets always equal total liabilities plus equity.
What is the difference between profit in the income statement and operating cash flow?
The income statement is prepared on an accrual basis and counts credit sales as revenue as well, but the cash flow statement records only the actual inflows and outflows of cash and cash equivalents.
How is the trailing twelve-month P/E (P/E TTM) calculated?
The closing price divided by twelve-month EPS; that is, the sum of net profit for the last four quarters divided by the current number of shares. With cumulative Codal reports, twelve-month profit equals the previous year's profit, plus the current period's profit, minus the profit for the same period in the previous year.
How can we tell the quality of earnings?
By comparing net profit with net operating cash flow over several consecutive years; when operating cash flow is consistently close to profit or higher, the profit has been converted into cash.
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