Way back when, if you owned stock in a company, you'd often find
a glossy annual report in your mailbox. Nowadays, all you may
receive is a letter telling you where to download the report on the
company's Web site. And truth be told, annual reports are being
supplanted by the Form 10-K, the annual filing required by the
Securities and Exchange Commission. Don't be put off by the form's
intimidating appearance. We've highlighted some key sections--and
what to focus on in each.
1. Business. The first part of the 10-K provides a thorough look
at what the firm does or makes, its divisions, and where in the
world its products are made and sold. It also gives info on key
customers and competitors, and where the company stands in its
industry. You may even learn an interesting fact or two--for
example, that there really were a Mr. Procter and a Mr. Gamble, and
that they founded P&G in 1837.
2. Risk factors. Listed in order of importance, these are the
factors that may adversely affect the company's business. Much of
this section, found just after the "Business" description, may
elicit a big duh, such as P&G's disclosure that "our businesses
face cost fluctuations and pressures that could affect our business
results." But read carefully and you may ferret out less-obvious
risks, such as a disproportionate share of sales coming from a
single product or customer.
3. Management's discussion and analysis. In Part II of the 10-K,
the company reports and analyzes its performance over the past year
compared with the previous year's results.
4. Income statement. This is a basic report of sales, expenses
and profits. Ideally, you want to see a trend of rising sales and
earnings. A 10-K typically shows three years of results, as well as
a five-year summary in the section called "Selected Financial
Data." Focus on the trend in net earnings rather than earnings per
share, in part because
, which cut the number of outstanding shares, can skew earnings per
share and thus camouflage a drop in overall profits.
5. Balance sheet. This is a snapshot of the company's assets
(such as cash and inventory) and its liabilities (such as
outstanding debt). Zero in on how much long-term debt the firm
carries and whether retained profits, the earnings a company
reinvests in its business, have grown in each of the past three
years. Great companies have little or no long-term debt on their
balance sheets--or they generate enough profit annually to pay off
that debt within three to five years.
6. Notes to financial statements. To some people, the 10-K notes
matter as much as the statements. That's because Note 1 describes
the accounting methods used to prepare the financial statements. If
a company has made a change to its methodology from the previous
year, any results from prior years, as well as the current year,
that are stated in the current 10-K will be adjusted to reflect
7. Auditor's report. Look for this key sentence: "In our
opinion, the financial statements present fairly...the financial
position of the company." That means the company has honestly
described its finances over the past year to the best knowledge of
the accounting firm that is auditing the 10-K.