Analyzing a Sample Balance Sheet From Microsoft
The main purpose of balance sheet analysis is to determine a company's financial strength, as well as its economic efficiency. These statements are among those that publicly traded companies must file with the U.S. Securities and Exchange Commission. You'll find condensed versions of Microsoft's balance sheet and income statements for the first quarter of the fiscal year 2020 ("FY20 Q1" for short) at the bottom of the page.
Reference those numbers as we work through some of the key points to look for in any company's financial disclosures.
Quick Notes on Balance Sheets (and How Many Zeros to Add)
Before we begin analyzing, you will see that the most recent data is on the right-hand side in bold. This column is highlighted to help you focus on the correct figures. However, keep in mind that the data is current as of October 23, 2019 (the day Microsoft had its FY20 Q1 earnings call). Even though the time frame in question is part of Microsoft's 2020 fiscal year, the figures here reflect the quarter that ended September 30, 2019.
In addition, when companies put together their financial statements, they tend to omit zeros at the end of long numbers to save space. The zeros are omitted in groups of three. If you see at the top of a balance sheet that numbers are supposed to be stated "in thousands," for instance, you will need to mentally add ",000" to the number you see ($10 stated in thousands would be $10,000).
If you see "in millions" at the top of the balance sheet, as you will with Microsoft's balance sheet, you will need to add six zeros to the figure ($10 stated in millions would be $10,000,000).
Cash and Debt Positions
You will notice that Microsoft had $136.6 billion in cash and equivalents as well as short-term investments in FY20 Q1.
To contextualize this figure, you should first look for the long-term debt on the balance sheet: roughly $66.5 billion. Next, you should look for any short-term debt on the balance sheet, since some businesses fund day-to-day operations with short-term loans. Such debt should be listed as total current liabilities. According to the balance sheet, the value of Microsoft's total current liabilities in FY20 Q1 was $58.1 billion.
You will then want to compare Microsoft's debt to its $136.6 billion worth of cash and short-term investments. Microsoft's balance sheet has more than enough to pay off current liabilities and long-term debt (excluding receivables and other assets). In turn, at the time, the company did not appear to be in danger of going bankrupt.
You can calculate the company's working capital by subtracting the total current liabilities ($58.1 billion) from the total current assets ($165.9 billion). The resulting figure should be $107.8 billion.
To calculate the working capital per share, you should look to the bottom of the balance sheet. You will see that there are 7.634 billion shares outstanding. If you take the working capital of $107.8 billion and divide it by 7.634 billion shares outstanding, you will find that Microsoft had $14.12 of working capital per share in FY20 Q1.
To calculate the working capital per dollar of sales, you will also need to look to Microsoft's income statement. The total revenue (which is the same as total sales) was $33.1 billion. If you take the working capital of $107.8 billion and divide it by $33.1 billion, you will find that Microsoft had $3.26 of working capital per dollar of sales.
Current and Quick Ratios
Generally speaking, a company's current ratio should be at least 1.5, but probably not more than 3. The current ratio is calculated by dividing the total current assets by the current liabilities. In FY20 Q1, Microsoft had a current ratio of 2.86 ($165.9 billion divided by $58.1 billion). Unless the business is saving resources to launch new products, build new production facilities, pay down debt, or pay a dividend to shareholders, a current ratio above 3 usually signals that management does not use its cash efficiently.
To calculate the quick ratio, you will need to divide quick assets for that year by the current liabilities for that year. Inventory levels cause the biggest difference between the current and quick ratios. The quick ratio was designed to measure the immediate resources of a company against its current liabilities. In other words, it's a more conservative measurement than the current ratio.
However, Microsoft has a relatively low inventory, compared to companies in different industries. That's because so much of its business is based on software, which can be downloaded from the cloud or shared with a USB drive. There's no need to store software on the shelf, but a clothing company, for example, needs to produce and store its T-shirts before customers can buy them.
The total current assets in FY20 Q1 was $165.9 billion. The inventory (not listed on the condensed balance sheet) was $2.6 billion. Other entries on the balance sheet that are not liquid are deferred income taxes ($234 million) and "other" current assets ($7.6 billion). Subtracting these three figures from $165.9 billion results in $155.5 billion. This figure represents the amount the company can turn into cash almost immediately. If you divide $155.5 billion by the total current liabilities ($58.1 billion), you get $2.68. Even under the most stringent test of financial strength, Microsoft has $2.68 in current assets for every $1 in liabilities.
Microsoft's Financial Sheet Excerpts
|Microsoft's Balance Sheet|
- October 23, 2019
|June 2019||Sept. 2019|
|Cash and equivalents||$11,356||$13,117|
|Total cash and short-term investments||$133,819||$136,636|
|Deferred income taxes||$233||$234|
|Total current assets||$175,552||$165,896|
|Property, Plant and Equipment, Net||$36,477||$38,409|
|Total current liabilities||$69,420||$58,118|
|Common stock and paid-in capital - shares authorized 24,000; outstanding 7,634 and 7,643||$78,520||$78,882|
|Retained earnings, accumulated other comprehensive loss of ($61) and ($340)||$24,150||$27,240|
|Total stockholders' equity||$102,330||$106,061|
|Total liabilities and stockholders' equity||$286,556||$278,955|
Microsoft's Income Statement
- October 23, 2019
Revenue for three months ending September 30, 2019: $33,055
Revenue for three months ending September 30, 2018: $29,084
Total cost of revenue for three months ending September 30, 2019: $10,406
Total cost of revenue for three months ending September 30, 2018: $9,905