Let me set some context before we begin:
This is NOT the best way to read an annual report. It's just how I do it with limited time, while holding my 9-5 job.
I will use "10K / Annual report" interchangeably.
Let’s go:
1. Be clear on your intention
First, why are you reading the 10K?
"Understanding the business" is a terrible answer. It's too broad. You will end up reading passively. Because you don't know what to look for. For me, reading a 10k is purely to understand one thing:
A company's business model. That's it.
This includes:
what products they sell
how they make $$
basic unit economics
Fine tune your antenna to look for that.
2. Limit your time.
I find that 45-60 mins is a typical duration before I start feeling sleepy.
With this in mind, it creates urgency for me to move fast before steam runs out. I become more selective of what I read in the 10K.
This helps me remember the best ideas I need.
3. Read the "Business" section
Time: 30 mins
This section helps me understand a few things:
- what they sell
- what are the prices
- who are their customers
- how they make money
From here, I can already tell whether this interests me. If it doesn't, I stop right here.
4. Read the MDA section
Time: 15 min
This helps me understand the recent results and direction of the business. So I can evaluate whether they are executing well or not. Often, some stuff in this section is also repeated from the "Business" section.
So I can move quickly.
5. Financial Statements
Time: 15 mins
I check for the basic stuff like:
- revenue growth
- gross profit margin
- cash flow
- cash/debt position
This helps me understand the unit economics. That's all. I do NOT spend much time here. This might shock some of you. Here's why:
Because I don't get my numbers from the 10K.
I usually get them from the quarterly reports instead (10Q). I find that the 10Q provides more metrics and KPIs, which the 10K sometimes lacks.
Question: What about the Risks section?
I don't read it.
This will get me in trouble for saying this. But I wanna keep it real and share my actual process as it truly is... I do NOT read the Risks because I find there are more effective ways of getting that info.
How?
I use Seeking Alpha and Fintwit to find the bearish cases.
Firstly, it's easier and more entertaining to read. It's not so dry and dense. Secondly, most of these bear cases would naturally cover 90% of the company risks.
It's a more effective use of my time.
BONUS Tip #1: Highlight as you read
I do this mainly to keep my hands moving.
Prevents me from falling asleep. I highlight the parts that explain the business model and how they make money. Then I copy and pull out all these highlights onto a google doc. And I make a summary the next day on these highlights.
This takes me roughly an hour to do.
This is optional.
But it helps me understand the company well as I write it in my own words.
BONUS Tip #2: Read the S1 using these above steps
The S1 is the company's IPO prospectus.
I like to read both the 10K and S1, then compare them to each other. This is especially useful to understand companies that have been around a longer time. Because the contrast helps me see how they evolved.
For example, if you look at amazon's S1 in year 1997:
It talks about offering better prices and wide selection for customers
In 2021, it's still saying the same thing.
Though the words used have changed, the essence of the mission is still there. This tells you a lot about their consistency and sticking to their original Day 1 mission.
That's it.
This is how I go through a 10K in 1 hour.
Being in a 9-5 job, I don't have the luxury of reading it word for word. So this has worked really well for me.
If you'd like a more in depth way to read a 10K, check out this great youtube video below. His channel covers a lot of great content on how to read annual reports and financial statements.
*****
If you like what you read, then you should check out my top 20 investing lessons here on Twitter.
I share my investing journey of how I grew a 6 figure portfolio multiple times, and attained financial freedom before age 30.
You can read it in my pinned Tweet here.
Feel free to drop me a message too if you have questions or feedback. Happy to chat.
-Max
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