Investing 101: Balance Sheet – Receivables & Inventory

By Chad Henage - February 23, 2012 | Tickers: LULU, NKE, UA | 0 Comments

• Email
• Print

More losses in the stock market are caused by not knowing how to evaluate a company's fundamentals. When it comes to analyzing a company you need to know what is on their balance sheet. I'll walk you through some of the basics and give you an example of how this relates to your finances to make things easier. Given that books have been written on how to read a balance sheet, I'll try to keep this simple. I've already covered cash and investments on the assets section in a prior post. For this post let's look at two line items called Net Receivables and Inventory. In this example we'll use Under Armour's  (NYSE: UA) balance sheet. In following posts I'll explain other parts of the balance sheet.

You can find the company's balance sheet on many finance web sites like Motley Fool, Yahoo Finance, Google Finance, etc. The balance sheet is usually broken into three parts, assets, liabilities, and stockholders equity. (Keep in mind when you see numbers on a balance sheet they are normally quoted “all numbers in thousands or millions”. This is how $10,300,000 or $10,300 can actually mean $10.3 billion, don't forget to add those 3 or 6 zeros!)

Net Receivables

Receivables are just a fancy way of saying, someone owes the company money. Since these payments are expected to be made, this isn't as good as cash or investments. Until the customer pays this money is just a number on a piece of paper. In your personal situation, this might be you loaned $20 to a friend and they haven't paid you back yet. If receivables are growing, and the company is growing, I don't worry too much. I only get concerned when I see receivables growing, and the company's growth is slowing down. Just like the person you loaned money to, you don't mind making the loan as long as it gets paid back. Under Armour shows receivables of $254 million. When we compare this to a year ago Under Amour had about $117.2 million in receivables. This is an increase of over 116% in the last year. The best way to compare receivables is to look at revenues. If receivables are increasing relative to revenues it might indicate an issue. A year ago Under Amour had about $1 billion in revenue and their receivables were $117.2 million for a 11.72% ratio. A year later under Armour has $1.37 billion in sales and receivables are up to $254 million for a 18.5% ratio. This increase is noticeable, but not as drastic as the $117.2 to $254 million increase might first suggest. Part of a company's ability to run its business is its management of inventory, the next line item we need to look at.

Inventory

Inventory is the materials the company needs to make whatever it sells. A common issue, in particular with retailers, is inventory grows faster than sales. You can find this data in quarterly reports. If a company says sales were up 20%, but inventory grew by 40% you need to check into it. The company might be stocking new stores, and it might not be a big deal. If the company is having problems selling their wares, they might hide this with inventory growth. If a company's inventory continues to outgrow their sales, you have to worry that maybe they can't sell what they've made. Since markdowns to sell old inventory lead to lower earnings, this could be a sign of trouble. Under Armour shows about $318 million in inventory, and that has grown by about 48% in the last year. Since, as we just examined sales were up over 30% in the last year, this 48% spike in inventory does get our attention. What we need to know is does the company have a problem, or are they working through their design process? Like receivables, it's easiest to compare inventory to revenue. Four quarters ago, Under Amour had about $1 billion in sales and $215 million in inventory for a ratio of 21.5%. Today the company has about $1.37 billion in sales and $318.8 million in inventory for a ratio of 23.2%. Under Amour's numbers in perspective are not really that bad.

When you are looking for a good investment, you want reasonable receivables and inventory growth. If you are looking at a growing company don't worry if inventory grows, just if it continually outpaces sales growth. To see how Under Amour compares in these two categories let's quickly compare their numbers to two of their competitors:

You can see that Under Armour has some work to do. Lululemon operates with an extremely low level of receivables relative to revenue. Nike beats both companies in using the least inventory to level of revenue. When you look at receivables and inventory, it helps not only to know how the company you are looking at is doing over time, but also compared to their competition. Let me know if you have any questions or comments in the section below.

• Email
• Print
• Feedback