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How to read accounts: backwards
There is one old but good piece of advice for investors that is often forgotten. This means start with the notes, then read the main body financial statements, and only then read the the directors’ review and other similar material.
The most important advantage of doing this is that by reading the notes first, you know the basis on which the financial statements are drawn up before you read the primary statements. You understand and little bits before you try to put them to together to make the big picture.
The first note, which is invariably the accounting policies, is particularly useful. It summaries all the assumptions, choices between alternative policies, and deviations from normal practice in the accounts. It is essential for understanding everything else.
The first note is especially useful for those without extensive experience or great knowledge of accounting standards.
Another advantage is that by reading the directors report and CEO’s and Chairman’s statements last, the (important) additional details they provide can more easily related to the rest of the information. It is also good to leave these, that can more easily be spun, until you are armed with a good idea of their context.
Both the accounting polices note and the directors’ review are good places to look for what a company is not disclosing. If details that others in the industry reveal are not mentioned, ask yourself what there may be that needs to be hidden.
Although this is a useful technique for everyone, I cannot emphasise too much how useful it is to the inexperienced. It takes experience and sector knowledge to skim a set of accounts quickly — even then it always risks missing something important. Reading from the bottom up encourages thorough reading of everything.
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