Learn to read an income statement to improve your investing skills | by Khuong Lan Cao Thai | Sep 2022

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Let’s go through the basics and practice the Nvidia Q2 revenue report

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“You have to understand accounting and you have to understand the nuances of accounting. It’s the language of business and it’s an imperfect language, but unless you want to make the effort to learn accounting – how to read and interpret financial statements – you really shouldn’t pick stocks yourself. same.

Warren Buffett—CEO of Berkshire Hathaway

If you invest in stocks, you to have to be able to read the 3 financial statements:

  • The income statement
  • The balance sheet
  • The cash flow

I’m going to start a series on each of these three statements. I will use NVIDIA as a case study for the income statement.

1. Basics of the income statement

It is also known as the profit and loss account (Profit & Loss). It shows a company’s income and expenses over time.

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Let’s take it one step at a time:

Always start at the top with income and work down by deducting various expenses.

  • Revenue (also called top line): number of net sales generated by selling products/services to customers. Net means it includes discounts, returns and other deductions.
  • Cost of Goods Sold (COGS): tThese are the costs incurred by the company to produce the product/service. It is also known as direct costs. The COGS percentage is calculated by dividing the revenue by the COGS percentage.
  • Gross Margin (GM): the difference between revenue and cost of goods sold It demonstrates the efficiency of the company in producing goods and services. Income is also commonly divided. The higher the GM value, the better.
  • Functionnary costs: These are the costs incurred by the company to carry out its day-to-day operations. Some companies divide it into multiple categories, while others group it together.
  • Operating result: obtained after deducting operating expenses
  • Non-operating income/expenses: all other costs not related to the operation of the business. It can be a loss or a gain on exchange, a gain or a loss from the sale of an asset or finance charges.
  • Earnings before tax (EBIT): Net of non-operating income/expenses.
  • The income tax charge: It includes all taxes that the business is required to pay.
  • Net revenue: These are actual gains or profits, also known as “net income”.
  • Earnings per share (EPS): It is a popular metric. Profits are divided by the total number of shares outstanding.

Now that we’ve covered the fundamentals, let’s practice with a recent real-world profit and loss statement.

2. Practice on a concrete example: Nvidia

picture by Christian Wiediger on Unsplash

DISCLAIMER: None of this is financial advice. This newsletter is strictly educational and does not constitute investment advice or a solicitation to buy or sell assets or make financial decisions. Please be careful and do your research.

Nvidia is a global company that manufactures graphics processors, mobile technologies and chipsets.

I chose Nvidia’s latest revenue report (link here) and read my comments on the main highlights:

P&L Analysis

There are three common standard practices to follow when evaluating the P&L:

  • Make a ratio of P&L costs to sales is a common practice. It allows you to declare:

“For every $100 in sales, the company spends $xxx on COGS.” (for example)

  • The previous period (quarter, year…): how is the company doing compared to last year? Which lines of the income statement have changed significantly?
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  • The comparison with the industry and the competitors: what seems like a high gross margin may be low compared to the industry average. For comparison, I chose AMD, and you can find their Q2 earnings report here.

Let’s compare Nvidia and AMD. The ratios are comparable to Q2-22 between the two companies for some of the main cost lines.

Analyzing the income statement is not enough. It must be combined with the balance sheet and the cash flow.

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