Value Investors Tribe

Understanding business of any kind requires understanding its financials which requires understanding accounting basics. In this series of blogs focused on accounting basics, we will try to understand accounting principles required to decode financials of a business. In the previous blogs we understood the basics of income statement and from this section, we explore the balance sheet.

This is part 4 of decoding balance sheets and as customary, we’ll discuss five line items of the balance sheet, continued from part 3. Five line items from the balance sheet are explained below:

• Short-term Debt: Short-term debt is the debt or money owed by the business which is due within one year. Sometimes, some businesses account for these in commercial paper and/or short-term bank loans.
• Long-term Debt: As the name suggests, long-term debt is the money owed by the business which is due in periods longer than one year. The period in which it is due can vary from business to business and in the notes to financial statements, this period in which the debt is due is noted. It is important to check if the debt is financed with fixed interest rates or floating interest rates. This can impact how capable the business is in paying out the debt.
• Deferred Income Tax: Deferred income tax is the income tax which is due but the business has not paid it out yet. There can be multiple reasons why the business chose not to pay it out and the justification for the same can be found in annual report and in notes to the financial statements.
• Minority Interest: When a business acquires major stake in a company, the remaining stake which the business does not own is accounted for in the minority interest. For instance, if company A acquired 95% of company B, the remaining 5% of company B is accounted for under minority interest.
• Other Liabilities: Other liabilities contains all the money owed by a business which is not accounted for in other line items of liabilities. This can include costs such as interest on deferred income tax, possible fine in case a business is in a legal battle, unpaid fines and similar other miscellaneous costs.

Action Items:

• Dig through the balance sheet of your favorite company and see what these line items look like.
• Dig through the balance sheet of the businesses we analyzed and see if you see a pattern in it!
• Do you see any correlation between numbers in income statement and balance sheet?