Quick summary
This post explains the most useful steps to judge a company before you invest. You’ll learn how to read a balance sheet, income statement, and cash flow statement. You’ll also see which non-financial checks matter and which simple metrics to use right away.
Disclaimer: This is educational content, not financial advice. Investing involves risk and your capital is at risk.
1. Start with the basics: What is a stock?
A stock is part ownership in a company. When you own a share, you own a small piece of that business. Stocks trade on exchanges and each stock uses a short ticker, like AAPL or TSLA.
Before buying, learn about the company by reading its financial statements. These are the best source for hard facts about a business.
2. The three financial reports you must know
- Balance sheet — shows what the company owns and owes at a point in time.
- Income statement — shows revenue, expenses, and profit over a period (quarter or year).
- Cash flow statement — shows actual cash coming in and going out.
Together, these reports give a clear picture of financial health.
3. Balance sheet — think of a cookie jar
Use this quick analogy:
- Current assets = cookies you can grab now (cash or things that become cash within 12 months).
- Long-term assets = cookies stored deeper (buildings, equipment).
- Intangible assets = the secret recipe (patents, brands, goodwill).
- Liabilities = promises to others (debts and bills).
Quick test: divide total current assets by total current liabilities — this is the current ratio. A number above 1 means the company can cover short-term debts.
Current assets = $26.73B
Current liabilities = $23.57B
26.73 ÷ 23.57 ≈ 1.13 → $1.13 in current assets for every $1 of short-term debt.
Learn more about the balance sheet on Investopedia: Investopedia — Balance Sheet.
4. Income statement — the company’s report card
The income statement shows how much money a company made and spent:
- Revenue = total sales.
- Operating income = revenue minus day-to-day costs (salaries, rent, materials).
- Net income = profit after all expenses and taxes.
Profitability check: operating margin = (operating income ÷ revenue) × 100.
Rule of thumb: ~5% is low, ~10% healthy, ~20% high.
Revenue = $45.75B
Net income = $10.71B
Operating margin ≈ 25.7% — a strong margin for a large, established company.
Learn more about income statements: Investopedia — Income Statement.
5. Cash flow — where the cash goes
The cash flow statement splits cash movement into three parts:
- Operating activities — cash from core business (you want this positive).
- Investing activities — cash used for buying equipment, buildings, or other companies. A negative number here can mean investment in growth.
- Financing activities — cash from or to shareholders and lenders (borrowings, dividends, share sales).
Red flags:
- Large dividend payments while operating cash flow is negative.
- Constant heavy borrowing without clear payback plans.
Good overview: Investopedia — Cash Flow Statement.
6. Qualitative checks — numbers aren’t everything
Beyond the numbers, check these three qualitative areas:
- Brand strength: Does the company keep customers coming back?
- Leadership: Who runs the company? Experienced, steady leaders are a plus.
- Competitive advantage (moat): Patents, network effects, or exclusive tech that protect profits.
Find this information on company websites, earnings call transcripts, and reliable news sources. For filings, use the SEC EDGAR site: SEC EDGAR.
7. When to sell — rules, not panic
Avoid selling based only on headlines. Short-term news often causes panic that reverses later. Consider selling when:
- You need cash for an emergency.
- You reach a planned financial goal.
- The company’s fundamentals clearly worsen (falling revenue, rising unsustainable debt).
Plan exit rules before you buy to avoid emotional decisions in a crisis.
8. Portfolio basics and diversification
Diversification spreads risk. Basic rules:
- Avoid more than 5% of your portfolio in one stock.
- Avoid more than 20% in one sector.
- Aim for holdings across multiple sectors and regions and consider 25+ holdings for broad spread.
If you want simple exposure, consider index funds from trusted providers like Vanguard: Vanguard.
9. Growth vs. value — choose a style
Growth stocks aim for faster revenue and price gains, often reinvesting profits and paying little to no dividends. They are more volatile.
Value stocks trade at lower prices relative to earnings, often pay dividends, and are usually more stable.
Use the P/E ratio to compare stocks, but compare companies within the same industry. Learn more about P/E here: Investopedia — P/E Ratio.
Simple metrics to start with
- Current ratio: current assets ÷ current liabilities — aim for > 1.
- Operating margin: higher is usually better for mature firms.
- Free cash flow: positive is good.
- P/E ratio: compare to industry peers.
Combine these numbers with brand, leadership, and moat checks. Start small, use simple rules, and focus on steady research over tips and noise.
