Form 10-K is the most comprehensive compilation of information on a company. The 10-K is a document required by the Securities and Exchange Commission (SEC) for all public companies. It is the best source of information on a company, providing — among other information — a description of the business and industry, risks, a summary of legal proceedings and financial statements. It is both a quantitative and qualitative review.
However, this document has its downsides, the most obvious of which is that it is backward-looking. Also, the 10-K can be overwhelming as the document often exceeds 100 pages in length. That said, in addition to other data investors gather on a company, the 10-K provides critical information investors need to assemble an investment puzzle.
Breaking Down Form 10-K
A 10-K has many different sections, called items, which are broken up into parts.
Part I focuses on a description of the company and business. This section provides typically static information that is useful for any investor who requires a general understanding of the industry and company. It has various sections including business, risk factors and legal proceedings. Investors should review this section, even if they are familiar with the company or business, paying special attention to any changes in the language, particularly those related to risk factors and legal proceedings.
The company also will typically provide an update to the competitiveness of the industry, including business trends and any other pertinent information that may affect market share and the company's ability to reach its goals. For example, new laws or regulations passed by the federal government that may impact the company's ability to operate the business would be included.
Part II focuses on the company's financial results of the operations. This includes the very important management discussion and analysis (MD&A). The MD&A informs the investor of management's explanation of financial results and the factors that impacted the past year. A summary of financial performance, discussion of acquisitions or divestitures and a comparative analysis of the current reporting year to the previous year and the previous year to two years earlier are listed here.
Part III focuses on corporate governance issues like executive compensation. It also requires information about the company’s code of ethics, and certain qualifications for directors and committees of the board of directors.
Part IV contains exhibits, including the actual financial statements. It requires items such as the company’s bylaws, information about material contracts, and a list of the company’s subsidiaries.
Form 10-K can be found along with other SEC required forms and investor information on company websites, generally within an "investors" or "investor relations" section. In addition, the SEC publishes these documents on the EDGAR web site.
The best place for investors to start who are unfamiliar with a company or industry is at the beginning of the document, Part I, Item 1: Business. An industry overview is provided to give the investor a picture of the competitive landscape, the opportunities and the threats from a risk standpoint.
Company-specific qualitative information is also discussed, including legal proceedings specific to the company as well as to the industry. Generally, a competitive analysis is also provided; typically the names of all competitors are discussed. Investors can compare the wording of the current 10-K to the wording of the previous 10-K, zeroing in on any variations in tone to see if slight changes have occurred that may affect the future operating environment.
Once general knowledge of the industry and company is obtained, more company-specific information can be ascertained in Part II, the MD&A section.
Company fundamentals, prospects for new businesses or products and risks as well as a comparison to the previous two years' financial outcomes are provided. In addition, business segment information is disclosed and discussed in this section. Often companies with either multinational operations or multi-segment businesses separate the operational results from the consolidated results so investors can analyze the growth drivers for the company. Reviewing results on a consolidated basis is useful, but understanding what drives the performance for the company via segment analysis augments an investor's ability to determine whether the investment could be profitable in the future.
What's in the Numbers?
Form 10-K includes the annual financial statements — the balance sheet, income statement (statement of earnings), statement of retained earnings and statement of cash flows — for the current reporting year and up to the previous five years. This is a good opportunity to compare annual financial performance on a year-over-year basis. Often investors use a percent of revenue method to analyze the numbers.
In addition, investors like to look at certain financial ratios to determine whether financial performance is improving or declining. The comparison across multiple years makes this information very helpful.
(Want to learn more about financial statements? Take a look at our Financial Statements Tutorial.)
More 10-K Components
Form 10-K also includes the requirements of the Securities Exchange Act of 1934 and Sarbanes-Oxley regulations — the acknowledgment by management that they certify the results contained in the report. The auditors also provide an opinion based on their audit. Many investors pass over these exhibits, but they are an important outcome from legislation after several instances of fraud resulted in shareholder loss.
On the first page, the number of shares outstanding is listed as of the published date of the report. Investors will notice that this share count differs from the numbers used to calculate the earnings per share on the statement of earnings. The number of shares outstanding used in the statement of earnings is the average shares outstanding during the period, not the ending value.
Form 10-K/A is compiled and filed when the company makes an amendment to the Form 10-K after it has been published. It is not an uncommon occurrence to file a 10-K/A. Investors should review these amendments to ensure that they do not materially change the investment thesis.
The Bottom Line
Form 10-K provides a comprehensive review of the industry and company, which should help investors form an investment thesis. Although it is an extremely lengthy document, investors will gain a valuable perspective by reviewing the information contained therein. Not only should new investors who are trying to understand a business examine the document, but current investors already familiar with the business should also review it to analyze any changes to the information reflecting changes in the business and operating environment as these may affect a company's ability to operate and grow.
(For related reading, check out The Flow of Company Information.)