In the previous article, we touched on what you should be looking out for in an annual report. We shared with our readers that many investors skim through the annual report and perhaps only go into detail in 1 or 2 sections of the annual report, namely the financial statements.
However, we argued that they are not fully exploiting the utility of analysing annual reports. We believe that the annual report reveals much more than such numbers and figures. Hence, we highlighted three large segments that investors should be focusing on, in order.
- Letter to shareholders
- Comments and remarks about financial performances
- Financial Statements
We believe that understanding the story first before interpreting the numbers is very important to gain a complete picture of the company’s profile. Only then will you be able to compare the company with others to determine investment suitability.
In this article, we will be taking a step further and highlight how you should be reading the annual report.
Know what you read
Before reading the annual report, we strongly urge you to do your homework first. To fully understand and reap maximum insights from the annual report, you need to first know the technical skills necessary to read them.
Would you dare to read a masters-level engineering textbook without first learning the basics of dynamics? Even if you do, you probably won’t understand a thing.
First, read widely and gain the pre-requisite knowledge to interpret annual reports meaningfully. If you do not know what to look out for, it will be pointless to read financial statements after statements.
Reading it actively
Most investors have heard of how great value investors like Warren Buffett who read hundreds of annual reports within a short span of time. Naively, they believe that by skimming through hundreds of reports themselves, they can achieve market-beating performances too.
The annual report reveals a lot about the business, the industry and the management. However, we are not going to lie to you, this information isn’t readily observable to the naked eye. You need to put in conscious effort to analyze the statements, interpret them and question everything.
This is so important to reduce the number of mistakes made. Having a good understand enhances your judgement. Some companies are cheap because they are deservingly so. These are otherwise known as value traps. The investments value investors look out for are cheap quality stocks and are often confused with value traps.
To know the difference is to fully understand the inner- and outer workings of the company. The only way to do this is to read annual reports actively.
Reading it repeatedly
Believe it or not, reading the annual report second and third time will provide you much greater insights than the first time. The first glance will provide you a superficial sense of how everything clicks but repeated times will reveal invaluable insights the lazy won’t bother.
Of course, putting in too much effort may be unnecessary. 80% of the information can be acquired using 20% of the time while the remaining 20% information is not worth the other 80% of the time.
Most investors, however, can’t even spare that 20% to dig out the 80%. By putting in sufficient effort, you have already gained an edge over the rest.
Undoubtedly, everyone has their own style. My method may not work for everyone, however, I believe it is a good starting point. I have seen some dissecting every detail, right down to the english used in the corporate governance act, I kid you not.
One thing certain is that reading your 100th Annual Report is easier than your 1st Annual Report. An Annual Report is like a book with its own plot and climax. Boring as it may seem, one has got to better learn to love it if they wish to be a better investor. Often, I would load up Annual Reports dating back 10 years on my iPad to accompany me on the plane trip to read.