What the Numbers Tell
The Core Measures of How a Company Makes Money
Every business earns revenue, incurs direct costs to deliver its product or service, and keeps the difference as gross profit.
These three metrics reveal pricing power, cost efficiency, and the fundamental health of the business model.
Revenue — The Total Income From Sales
Revenue shows how much money the company generates from its core offering.
Revenue is shaped by:
• Price
• Volume
• Mix of products or services
• Customer retention
• Market growth
• Seasonality
• Contract structure (subscription vs. transactional)
Stable or growing revenue indicates demand and competitive relevance.
Revenue Quality Matters
High-quality revenue is:
• Recurring or repeatable
• Predictable
• Diversified
• Low-churn
• Essential to the customer
• Supported by strong customer relationships
Low-quality revenue is volatile, concentrated, or one-time.
COGS — Cost of Goods Sold
COGS includes all direct costs required to deliver the product or service.
For product companies:
• Raw materials
• Components
• Direct labor
• Manufacturing overhead
• Freight and distribution
• Packaging
For service or software companies:
• Labor
• Hosting
• Support costs
• Third-party tools
Lower COGS → higher gross margin → stronger economics.
Gross Margin — Revenue Minus COGS
Gross margin reflects pricing power and cost structure.
High gross margin businesses can reinvest more heavily in growth.
Three Layers of Profitability
Profitability is measured at multiple levels.
Each adds more expenses and tells a deeper story.
EBITDA — Operating Performance Before Non-Cash Items
EBITDA excludes:
• Interest
• Taxes
• Depreciation
• Amortization
It shows core operating performance before capital intensity or financing structure.
Why Investors Use EBITDA
• Comparable across companies
• Provides a clean first look
• Helps in valuation (EV/EBITDA)
• Useful for asset-light businesses
Operating Income (EBIT) — Profit After Depreciation & Amortization
EBIT = EBITDA – Depreciation – Amortization
EBIT reflects:
• Equipment wearing down
• Software/intangibles being amortized
• True operating profitability
EBIT is more accurate for capital-intensive businesses.
Net Income — Profit After Everything
Net income includes:
• Interest
• Taxes
• All expenses
• All non-cash items
Net income is essential for long-term sustainability and valuation, but not enough on its own.
How Money Actually Moves Through a Business
A company can show strong accounting profits but run out of cash — or weak profits but strong cash flow.
The cash flow statement separates reality from accounting.
Operating Cash Flow (OCF)
OCF measures cash generated by day-to-day operations.
Includes:
• Cash from customers
• Cash to suppliers
• Cash to employees
• Changes in AR/AP/inventory
• Non-cash items (depreciation, amortization)
Why OCF Matters
Shows whether the business can:
• Sustain itself without external funding
• Invest in growth
• Pay dividends or buy back stock
• Reduce debt
• Survive downturns
OCF is the most important long-term health indicator.
Investing Cash Flow (ICF)
ICF reflects long-term investments.
Includes:
• CapEx
• Acquisitions
• Joint ventures
• Asset sales
Negative ICF is normal for growing companies.
Financing Cash Flow (FCF)
FCF includes:
• New debt or repayments
• Equity issuance or buybacks
• Dividends
Reveals how a company funds itself and rewards owners.
The Cash Tied Up in Daily Operations
Working capital measures how much cash the business needs to run every day.
Good working capital management → better cash flow & lower risk.
Poor management → bottlenecks, shortages, financial stress.
Accounts Receivable (AR)
Money owed to the company.
High AR may indicate:
• Slow customer payments
• Weak credit practices
• Billing disputes
Low AR → strong collection discipline.
Key metrics:
• Days sales outstanding (DSO)
• Aging schedules
• Bad debt trends
Accounts Payable (AP)
Money owed by the company.
High AP can signal:
• Strong negotiation leverage
• Favorable vendor terms
…or stress, if growing faster than revenue.
Key metric:
• Days payable outstanding (DPO)
Inventory
Represents cash tied up in goods.
High inventory → slow sales, forecasting issues
Low inventory → efficient operations, strong demand
Key metric:
• Days inventory outstanding (DIO)
Long-Term Investments That Keep the Business Running
CapEx includes:
• Manufacturing equipment
• Facilities
• Technology
• Vehicles
• Tools
• Infrastructure upgrades
CapEx builds capacity, efficiency, and competitiveness.
Two Types of CapEx
1. Maintenance CapEx
Keeps current operations running:
• Replace worn equipment
• Maintain facilities
• Meet safety/regulatory needs
2. Growth CapEx
Expands capacity or creates new revenue:
• Add production lines
• Enter new markets
• Build new technology
How Effectively a Company Turns Capital Into Profit
These ratios show how well the company uses money — both its own and others’ — to generate returns.
ROIC — Return on Invested Capital
ROIC = NOPAT ÷ (Debt + Equity)
ROIC shows:
• Business quality
• Pricing power
• Operational efficiency
• Discipline in capital allocation
High ROIC is one of the strongest signs of a great business.
ROE — Return on Equity
ROE = Net Income ÷ Shareholder Equity
Shows how well management uses equity to produce profit.
ROA — Return on Assets
ROA = Net Income ÷ Total Assets
Shows efficiency of asset use.
How They Work Together
Income statement — Did we make a profit?
Balance sheet — What do we own and owe?
Cash flow statement — How does cash actually move?
Together they reveal:
• Performance
• Liquidity
• Risk
• Long-term health
Income Statement
Measures profit over a period.
Shows:
• Revenue
• COGS
• Gross profit
• Operating expenses
• EBIT
• Interest and taxes
• Net income
Reveals margin structure, profitability, and cost discipline.
Balance Sheet
Snapshot at a point in time.
Shows:
• Assets
• Liabilities
• Equity
Reveals financial strength and risk.
Cash Flow Statement
Shows actual cash movement.
Connects:
• Net income
• Working capital changes
• CapEx
• Debt & equity actions
How Fast a Business Turns Operations Into Cash
CCC =
Days Inventory Outstanding (DIO)
Days Sales Outstanding (DSO)
– Days Payable Outstanding (DPO)
Shorter = stronger cash generation.
Longer = more capital required, higher financial risk.
Turn Revenue Into Profit → Profit Into Cash → Cash Into Growth
A strong financial engine lets a company:
• Scale
• Reinvent
• Invest
• Survive downturns
• Create long-term value
Financials tell the story of how well the business actually works.
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