The goal of analyzing an income statement is essentially to determine whether the story it tells is good, bad, or indifferent.
To accomplish this objective, the analyst draws a few initial conclusions, then puts the income statement into context by comparing it with income statements of earlier periods, as well as statements of other companies.
These steps are described in the section of this chapter entitled “Making the Numbers Talk.”Simple techniques of analysis can extract a great deal of information from an income statement, but the quality of the information is no less a concern than the quantity. A conscientious analyst must determine how accurately the statement reflects the issuer’s revenues, expenses, and earnings. This deeper level of scrutiny requires an awareness of imperfections in the accounting system that can distort economic reality.
The section entitled “How Accurate Are the Numbers?” documents the indefatigability of issuers in devising novel gambits for exploiting these vulnerabilities. Analysts must be equally resourceful. In particular, students of financial statements must keep up with the innovations of the past few years in transforming rising stock values into revenues of dubious quality.