Warren Buffett’s Financial Statement Rules of Thumb:
INCOME STATEMENT RULES OF THUMB:
1: Gross Margin
→Equation: Gross Profit / Revenue
→Rule: 40% or higher
→Logic: Signals the company isn’t competing on price.
2: SG&A Margin
→Equation: SG&A Expense / Gross Profit
→Rule: 30% or lower
→Logic: Wide-moat companies don’t need to spend much on overhead to operate.
3: R&D Margin
→Equation: R&D Expense / Gross Profit
→Rule: 30% or lower
→Logic: R&D expenses don't always create value for shareholders.
4: Depreciation Margin
→Equation: Depreciation / Gross Profit
→Rule: 10% or lower
→Logic: Great businesses don't need a lot of depreciating assets to maintain their competitive advantage.
5: Interest Expense Margin
→ Equation: Interest Expense / Operating Income
→ Rule: 15% or lower
→Logic: Great businesses don’t need debt to finance themselves.
6: Income Tax Expenses
→ Equation: Taxes Paid / Pre-Tax Income
→ Rule: Current Corporate Tax Rate
→Logic: Great businesses are so profitable that they are forced to pay their full tax load.
7: Net Margin (Profit Margin)
→ Equation: Net Income / Sales
→ Rule: 20% or higher
→ Logic: Great companies convert 20% or more of their revenue into net income.
8: Earnings Per Share Growth
→ Equation: Year 2 EPS / Year 1 EPS
→ Rule: Positive & Growing
→ Logic: Great companies increase profits every year.
⚖ BALANCE SHEET RULES OF THUMB:
9: Cash & Debt
→ Equation: Cash > Debt
→ Rule: More cash than debt
→ Buffett's Logic: Great companies don't need debt to fund themselves.
10: Cash & Debt
→ Equation: Cash > Debt
→Rule: More cash than debt
→Logic: Great companies generate lots of cash without needing much debt.
11: Adjusted Debt to Equity
→Equation: Total Liabilities / Shareholder Equity + Treasury Stock
→Rule: < 0.80
→Logic: Great companies finance themselves with equity.
12: Preferred Stock
→ Rule: None
→ Logic: Great companies don't need to fund themselves with preferred stock.
13: Retained Earnings
→ Equation: Year 1 / Year 2
→ Rule: Consistent growth
→Logic: Great companies grow retained earnings each year.
14: Treasury Stock
Rule: Exists
→ Logic: Great companies repurchase their stock.
💸 CASH FLOW STATEMENT:
15: Capex Margin
→Equation: Capex / Net Income
→ Rule: <25%
→ Logic: Great companies don't need much equipment to generate profits.
Caveats:
1️⃣ There are plenty of exceptions to these rules.
2️⃣ CONSISTENCY IS KEY!
Want to go deeper into analyzing financial statements?
Join me tomorrow (Thursday, Oct 12th) for a FREE webinar.
Topic: How to analyze unprofitable business.
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What "rule of thumb" do you like best?
Bagaimana jika kami bahas kasus penyalahgunaan fasilitas KITE di era Dirjen BC Heru Pambudi (sekarang Sekjen Kemenkeu) yg merugikan perekonomian negara triliunan?
Kami bahas jika banyak yg tertarik.
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If you’re interested in LEARNING all of these for FREE:
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Project management
Business analytics
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Agile
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Open, RT this and thank me later:
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