How to Understand Financial Statements for Stock Investing - What is Capital?

When investing, among the truly important financial statements, I'm going to explain 'capital' in a simple and easy-to-understand way. Let's learn together what capital is and why it's important.

Definition and Components of Capital

Capital refers to the remainder after subtracting liabilities from a company's assets. In other words, it represents the net assets owned by the company. Capital is one of the important indicators that shows the financial status of a company, and it is one of the factors that must be considered when investing in stocks.

Capital is composed of the following components.

• Capital Stock:It refers to the amount invested by investors when a company is first established. Capital stock is raised through stock issuance and is calculated by multiplying the par value per share by the number of issued shares.
• Capital Surplus:It refers to the surplus generated through capital transactions. For example, if the issue price of a stock is higher than the par value, the difference is recorded as capital surplus.
• Retained Earnings:It refers to the amount remaining from the profits generated through business operations after excluding dividends and other distributions. Retained earnings are one of the indicators that show the soundness of a company's financial status, and it becomes an important decision-making criterion when investing in stocks.
• Capital Adjustments:Items that do not belong to capital stock, capital surplus, or retained earnings, and play a role in adjusting the total capital. For example, treasury stock acquisition, discount on issuance of shares, and reduction of capital loss fall under this category.
• Accumulated Other Comprehensive Income (AOCI):It refers to the accumulated amount of other comprehensive income that occurred during a certain period.
• Non-controlling Interest:It refers to the portion of the equity of a subsidiary that is not owned by the parent company.

By understanding these components of capital, you can gain a more accurate understanding of a company's financial status and make more rational decisions in stock investment.

Relationship between Capital and Stock Investment

Capital plays a very important role in stock investment because stocks are one of the components that make up a company's capital.

By participating in a company's capital through stock investment, investors can earn profits along with the company's growth. At this time, the size and components of capital play an important role in determining the value of the stock.

For example, the larger the capital stock of a company, the higher its stability, and the higher the possibility of the stock's value increasing. Also, the larger the capital surplus and retained earnings, the more it indicates that the company's financial status is sound, and this is one of the factors that increase the value of the stock.

On the other hand, capital deficiency or excessive debt indicates that the company's financial status is unstable, and this is a factor that can decrease the value of the stock, so it should be carefully examined.

Therefore, when investing in stocks, it is important to meticulously analyze the size and components of a company's capital and make investment decisions based on this analysis. By doing so, you can achieve more stable and higher returns.

How to Understand Capital in Financial Statements

Here's how to understand capital in financial statements.

• Check the Balance Sheet:The balance sheet is a table that shows a company's assets, liabilities, and capital. Capital is located on the right side of the balance sheet and is composed of capital stock, capital surplus, retained earnings, etc.
• Capital Stock:The amount invested when establishing a company. It is calculated by multiplying the number of issued shares by the par value per share.
• Capital Surplus:It is a surplus generated through capital transactions, such as share premium and capital reduction profit.
• Retained Earnings:The profits earned through business activities that are not distributed outside the company as dividends, etc., and are retained internally.

Through this, you can understand the company's financial status and use it as a reference for stock investment. However, financial statements contain past information, so care must be taken when using them to predict the future.

Analyzing Capital Fluctuations

Analyzing capital fluctuations is one of the important factors in stock investment. Through this, you can understand how the company's financial status is changing and predict factors that may affect future stock prices.

Here's how to analyze capital fluctuations.

• Check the Capital Stock Fluctuation History:Through the capital stock fluctuation history, you can determine whether the company has issued additional shares or implemented a share reduction. If the number of issued shares increases, the stock value may decrease, and if a share reduction is implemented, the stock value may increase.
• Check the Capital Surplus Fluctuation History:Through the capital surplus fluctuation history, you can find out whether the company has implemented a rights offering or a bonus issue.
• Check the Retained Earnings Fluctuation History:You can find out how much profit was generated through business activities, how much the dividends are, etc. If retained earnings increase, the company's financial status improves, and the stock price is likely to rise.

If you periodically analyze the company's capital fluctuations and grasp the trend, it will be helpful in making judgments about stock investment.

Utilizing Capital Information for Investment Decisions

By looking at the capital items in the financial statements, you can understand the financial health and stability of the company. Based on this information, I will introduce a few tips that can help with investment decisions.

• The larger the capital size, the higher the stability of the company can be considered. If a company has sufficient equity capital, it is less likely to face financial difficulties even in situations such as economic recession or intensified competition.
• When examining the capital structure, it is necessary to distinguish between capital stock, capital surplus, and retained earnings. Capital stock is the amount invested by shareholders, and capital surplus is the surplus generated from capital transactions such as share premium and revaluation reserve. Retained earnings are the profits earned through business activities that are not distributed outside the company as dividends, etc., and are retained internally. The larger the retained earnings, the greater the company's growth potential can be considered.
• Through the statement of changes in equity, you should check the changes in capital stock, capital surplus, and retained earnings over the past 1-2 years. If a deficit has occurred, it may be a signal that the company's performance is not good, so caution is needed.
• You can evaluate a company's financial structure by calculating the capital ratio. Representative capital ratios include the debt-to-equity ratio (debt/equity) and the equity ratio (equity/total assets). Generally, a debt-to-equity ratio of 100% or less and an equity ratio of 50% or more are considered stable.

Actively utilize this capital information to carefully understand the financial status of the company you want to invest in.

Precautions Regarding Capital and Avoiding Mistakes

Let's learn about the precautions that should be considered when analyzing capital items and common mistakes.

• It is risky to judge based only on the total capital amount. The total capital is simply the sum of each item, so it is necessary to examine the details along with it. In particular, it is necessary to check whether retained earnings are sufficient or if there is a deficit. Companies with deficits have a higher likelihood of experiencing a deterioration in future profitability.
• It is essential to check for capital deficiency. Capital deficiency refers to a situation where a company's losses become significant, resulting in the depletion of retained earnings and even the erosion of paid-in capital. Once capital deficiency begins, the company's creditworthiness decreases, and it becomes difficult to secure funding through bank loans or bond issuance.
• Be careful not to confuse capital stock, capital surplus, and retained earnings. Capital stock is the amount invested by shareholders, and capital surplus is the surplus generated from capital transactions such as share premium and revaluation reserve. On the other hand, retained earnings are the profits earned through business activities that are not distributed outside the company as dividends, etc., and are retained internally.
• Many people make mistakes by not carefully reviewing the statement of changes in equity. The statement of changes in equity shows the changes in capital stock, capital surplus, and retained earnings, so it is necessary to carefully review it to avoid making wrong judgments.

Keeping these precautions in mind when analyzing capital items will be helpful in making more accurate investment decisions.