Evaluating a Company

Q How should I examine the financials of a company in which I'm thinking of investing?

— R.D., Dover, N.H.

A There are many numbers to look at and a bunch you can crunch. The more you learn, the more confidence you'll have in your decision to buy or not buy.

On the balance sheet, if inventory levels or accounts receivable are growing faster than sales, that's a worrisome sign. So is a rising debt level with high interest rates. Examine the statement of cash flows to see how cash is being generated.

Generally, you want to see most cash coming from ongoing operations — products or services sold — and not from the issuance of debt or stock or the sale of property.

Look at a company's profit margins (gross, operating and net). Higher margins suggest that a firm has a proprietary brand or technology it can charge more for. They often indicate a higher-quality company.

You could also examine return on equity and return on assets, comparing a company with its competitors. See which firm is generating more earnings for each dollar invested in the business. Check previous years' numbers, too, to see whether the trends are positive.

Learn more in "The Motley Fool Investment Workbook" by David and Tom Gardner (Fireside, $14) and "Reading Financial Reports for Dummies" by Lita Epstein (For Dummies, $22).

Q What should someone who knows nothing about stocks read to learn to invest?

— S.T., Davenport, Iowa

A First, don't invest anything until you're comfortable with what you're doing. Investing books by Peter Lynch are great for beginners, as are the www.betterinvesting.org and www. fool.comWeb sites. When you're ready to open a brokerage account, visit www.broker.fool.com for more info.

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