Understanding how balance sheets work is essential to both investing and to running a business. The purpose of this post is to demonstrate and explain how to briefly evaluate a company based on its balance sheet. Balance sheets have a lot of information on them but only a few lines of financials are important to us when we’re trying to analyze a company’s financial situation. Here is Apple’s most recent balance sheet. It is important to note that every number you see is in thousands. Simply add ‘000’ at the end of any number to get the real figure. That won’t be necessary for our uses, though, because we will be finding a ratio of two numbers.
The ratio we’re trying to find is the ratio of cash to debt. A company’s cash is three different figures added together: Cash and cash equivalents, short-term investments, and long-term investments. Their debt is simply the short-term debt plus the long-term debt. What we’re looking for is an investment with a ratio of at least 2:1. Investing in a company with a cash to debt ratio worse than that is an unnecessary risk.
Let’s begin, first, we find how much cash Apple has:
Cash and cash equivalents: $20,484,000
Short-term investments: $46,671,000
Long-term investments: $170,430,000
Total Cash: 20,484,000 + 46,671,000 + 170,430,000 = $237,585,000
Now, we find Apple’s debt:
Short-term debt: $11,605,000
Long-term debt: $75,427,000
Total Debt: 11,605,000 + 75,427,000 = $87,032,000
Finally, divide cash by debt:
237,585,000 / 87,032,000 = 2.73
Now we have found that Apple’s cash to debt ratio is 2.73 to 1. This is a fine balance sheet, this tells us that Apple is in good financial standing. There are companies that have absolutely no debt, resulting in their cash to debt ratio being infinity to 1, and there are companies out there that have cash to debt ratios of 1:35. There are thousands of companies to invest in, so never settle for a poor balance sheet.
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