Financial Statement Analysis: A Practitioner’s Guide is a well-organized, thorough exploration of the challenges facing practitioners who rely on financial statements to make investment and lending decisions. In the preface, Martin Fridson and Fernando Alvarez state that their “intention is to acquaint readers who have already acquired basic accounting skills with the complications that arise in applying textbook-derived knowledge to the real world.”
Throughout the book, Fridson and Alvarez make a persuasive case that in the “real world,” accepting financial reporting at face value is both naive and dangerous and that the best analysis requires “the relentless pursuit of accurate financial profiles of the entities being analyzed.”
The book is divided into four parts: (1) “Reading between the Lines,” (2) “The Basic Financial Statements,” (3) “A Closer Look at Profits,” and (4) “Forecasts and Security Analysis.” The first three parts focus on the limitations of financial statements, and the fourth is a survey of techniques for use in forecasting and analyzing.The authors establish the focus of the book in Chapter 1, appropriately titled “The Adversarial Nature of Financial Reporting,” wherein they challenge the classic textbook view that the goal of financial reporting is to measure accurately the profitability and financial condition of a company. On the contrary, they argue,
the purpose of financial reporting is to obtain cheap capital. . . . Simply stated, the lower the interest rate at which a corporation can borrow or the higher the price at which it can sell stock to new investors, the greater the wealth of its shareholders. From this standpoint, the best kind of financial statement is not one that represents the corporation’s condition most fully and most fairly, but rather one that produces the highest possible credit rating and price–earnings multiple. If the highest ratings and multiples result from statements that measure profitability and financial condition inaccurately, the logic of fiduciary duty to shareholders obliges management to publish that sort, rather than the type held up as a model in accounting textbooks.
It is a sober assessment of the profession; throughout the remainder of the book, Fridson and Alvarez repeatedly demonstrate that financial statements often conceal as much information as they reveal. And to complicate matters, the authors show that much of what transpires in the industry is perfectly legal, even when it seems that it should not be.
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