Before investing in any company, you must understand its financial health. Financial statements are the official records that show how a business earns, spends, owns, and owes money.
Think of financial statements as the report card of a company.
This lesson will help you understand what financial statements are, why they matter, and how beginners should read them.
What Are Financial Statements?
Financial statements are standardized documents that companies publish regularly (quarterly and annually) to report their financial performance and position.
They answer three critical questions:
- Is the company making money?
- Is the company financially stable?
- Is the company generating real cash?
To answer these, we rely on three core financial statements.
The Three Key Financial Statements
1️⃣ Profit & Loss Statement (Income Statement)
This statement shows performance over a period of time.
It tells you:
- How much revenue the company earned
- What expenses it incurred
- Whether it made a profit or loss
Simple structure:
Revenue – Expenses = Profit
📌 Beginner insight:
A company can have growing revenue but still struggle if expenses grow faster.
2️⃣ Balance Sheet
The balance sheet shows the company’s financial position at a point in time.
It answers:
- What does the company own?
- What does it owe?
- What belongs to shareholders?
Simple structure:
Assets = Liabilities + Shareholders’ Equity
📌 Beginner insight:
A strong balance sheet usually means lower risk during bad market conditions.
3️⃣ Cash Flow Statement
This statement tracks the actual movement of cash.
It answers:
- Is the company generating real cash?
- Can it sustain operations without borrowing?
Cash flows are divided into:
- Operating activities
- Investing activities
- Financing activities
📌 Beginner insight:
Profits can be manipulated by accounting, but cash is hard to fake.
Why Financial Statements Matter to Investors
Financial statements help you:
- Avoid investing in weak or risky businesses
- Compare companies objectively
- Understand whether growth is sustainable
- Detect early warning signs
📌 Key idea:
Price tells you what the market thinks.
Financial statements tell you what the business actually is.
How Beginners Should Read Financial Statements
You do NOT need to memorize formulas or calculate ratios initially.
Focus on these basics:
- Is revenue growing consistently?
- Are profits stable or improving?
- Is debt under control?
- Is operating cash flow positive?
📌 Beginner rule:
First understand the story, then move to numbers.
Common Beginner Mistakes
Avoid these errors:
- Looking at only one year of data
- Ignoring cash flow
- Focusing only on profits, not debt
- Blindly trusting ratios without context
📌 Remember:
Numbers make sense only when seen together.
Key Takeaways
- Financial statements reveal a company’s true health
- Profit & Loss shows performance
- Balance Sheet shows strength and stability
- Cash Flow shows real money movement
- Beginners should focus on trends, not formulas
What’s Next?
Now that you understand financial statements, the next step is learning how to interpret them together and identify quality businesses.
👉 Proceed to Lesson 4 – Reading Financial Statements Like an Investor