If you were an investor, what would you look for in the balance sheet?

As an investor, you would be focused on both the book value of the company’s shares as displayed on the balance sheet, which can be calculated as total assets less liabilities. This shows how much the company is worth based only on its accounting books.

Another way of thinking of the book value of a company is that we are taking the original cost of the assets less any writedowns or depreciation and amortization (i.e. book value of the asset). Then we are taking out any liabilities to see what the company’s liquidation value would be worth, assuming the book value reflects how much the assets can be sold for. This number can then be compared to the market capitalization.

In fact, this is the premise in which a very commonly used multiple is based upon: price / book. Price / book shows if the market capitalization of the stock, which is determined by investors, is greater than the book value of the company. A company with a price / book less than 1 could be very attractive as a value investment, assuming there are no serious issues with the company. Another commonly used multiple is price / tangible book value, in which intangible assets, such as goodwill and intellectual property, are taken out of the book value of the company.

In addition to analyzing book value, you would look carefully at which assets are key to the operations, such as property, plant, and equipment (PP&E), as well as how they’ve changed over time. If capital assets continue to rise, this means the company is investing and expecting growth.

Similarly, you would look closely at the debt to see how it has been repaid over the years, or if the company continue to borrow at a rapid rate.

Finally, you would look at how net working capital has changed, since any increases in net working capital will affect cash. A sharp rise in accounts receivable would draw attention, for example, since it may mean the company is increasing revenue only by extending credit to customers, and the revenue growth may not be sustainable.