TABLE OF CONTENTS The income statement gives a company lots of ways to look good by inflating its revenues and, as a result, inflating its profits. But there is another approach: reduce expenses. Although this ploy isn't as common as inflating revenues, many companies do play fast and loose with the expense lines on the income statement. WorldCom, for example, basically cooked its expense items to lower costs and boost profits.
On the other hand, well-run companies try to find ways to improve their efficiency and lower the cost structure for real. Dell has proved expert at this, and it has meant above-average rates of return for investors.
This chapter will give you a look at the main cost items and provide the analytical techniques to spot both the manipulations and the signs of a well-run organization.
For the most part, growth investors focus on the income statement. The belief is that, as long as companies are growing profits, stock prices should increase. (See the sidebar titled "Growth Versus Value Investing.")
Companies take one of two approaches to the income statement: single step or multiple step. By far, the single step is the most common and the easiest to set up and use. Basically, it presents the following equation:
Revenues - Expenses = Net income
Growth investing did extremely well in the middle to late 1990s, then performed miserably in 2000-2001. But some growth portfolio managers were able to deal with the...
