Analyzing a company’s financial results is a structured approach used by financial analysts, investment funds, and professional investors to assess a company’s health, profitability, and growth potential.
But how do they perform it?
The following is a summary of the commonly used approaches:
1. Obtaining and understanding financial documents
- Main Financial Statements:
- Balance sheet (assets, liabilities, shareholders’ equity)
- Income statement (revenue, expenses, net income)
- Statement of cash flows (operating, investment, financing cash flow)
- Supplementary reports:
- Management’s Discussion and Analysis
- Notes to the accounts
- Investor Presentations and Press Releases
2. Vertical and horizontal analysis
- Vertical analysis
- Consists of examining each item in the financial statements as a percentage of a total (e.g. each balance sheet item as a % of the total assets).
- Allows you to compare the financial structure over time or between companies in the same sector.
- Horizontal analysis
- Studies the evolution of the main items over several years.
- Highlights growth, profitability, or risk trends.
3. Calculation and interpretation of financial ratios
Investors use a series of ratios to objectify their analysis:
- Profitability ratios
- Gross margin, operating margin, net margin
- ROE: Return on Equity
- ROA: Return on Assets
- Solvency and debt ratios
- Debt-to-equity ratio: financial debt to equity
- Interest Coverage Ratio (ICR): EBIT / interest expense
- Debt Service Coverage Ratio (DSCR): Net Operating Income / Debt services (principal + interest + lease payments)
- Liquidity Ratios
- Current liquidity ratio: Current Assets / Current Liabilities
- Immediate liquidity ratio: (cash + short investments) / current liabilities
- Efficiency ratios
- Stock rotation
- Debt collection period
- Asset Turnover
4. Qualitative analysis
- Study of the sector and competition: positioning, market shares, barriers to entry.
- Quality of management: experience, strategy, governance.
- Specific risks: dependence on a customer/supplier, geographical exposure, regulatory risks.
- Innovation and growth prospects: product pipeline, R&D investments.
5. Valuation assessment
Comparing the company’s valuation to that of its peers and its growth prospects:
- Market Multiples :
- PER: Price Earnings Ratio
- EV/EBITDA: Entreprise value / EBITDA
- Price to Book: stock price / book value
- Discounted Cash Flow (DCF) methods:
- Forecasting future flows
- Discounting at cost of capital
6. Cash flow analysis
- Ability to generate free cash flow
- Investments necessary to maintain activity
- Distribution policy (dividends, share buybacks)
7. Thorough due diligence
- Verification of assumptions: robustness of forecasts, consistency of margins.
- Control of legal and tax risks
- Interviews with management teams
8. Synthesis and decision-making
- Production of an analysis report summarizing the strengths, weaknesses, opportunities and threats (SWOT).
- Providing recommendation: buy, sell or hold depending on the investment strategy.
Summary table of steps
| Steps: | Main objective: |
| Collection of documents | Understanding the overall financial situation |
| Vertical/horizontal analysis | Identify key trends and structures |
| Financial Ratios | Quantify performance and risk |
| Qualitative analysis | Assessing non-financial factors |
| Valorization | Compare the competition and market expectations |
| Cash-flow analysis | Measuring the ability to generate cash |
| Due diligence | Validate data and anticipate risks |
| Synthesis | Making an investment decision |
Investor best practices
1. Sector comparison: always compare ratios to those of comparable companies.
2. Cautious forecasting: apply pessimistic and optimistic scenarios.
3. Constant monitoring: follow the news of the company and its sector.
4. Diversification: never base a decision on a single indicator.
This rigorous and structured methodology makes it possible to obtain a complete and objective view of a company’s financial performance in the manner of investment professionals.