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How to dig for gems of ideas in companies annual reports

This is the time of the year when we as investors start gett..

This is the time of the year when we as investors start getting emails of annual reports from companies where we are invested in. We start going through them one by one.

I want to share some of the tips and tricks I have learnt over the years – some from my own experience and some picked up from other senior investors – on how to read these annual reports.

Maintain a list of companies
Having a list of companies which I am interested in reading annual reports for even when I am not a shareholder means I get notified when it is published. I use screener.in and keep all such companies in my watchlist. I get an automated message, which informs me when the company makes a BSE/NSE announcement regarding publication of its annual report.

Cluster annual reports from the same industry
I make a folder on my computer and keep saving all the annual reports based on their respective industries. Reading annual reports of companies from an industry as a group gives a lot of insights into the competitive landscape, new developments and differentiators for any company. For example, when I want to look at annual reports of banks, I will read HDFC Bank, Kotak Mahindra Bank, SBI, IndusInd Bank, Yes Bank, PNB (!!) one after the other covering both private and PSU banks. Sometimes just looking at reports from the same industry helps identify the good and bad ones. Comparing management compensation and board composition across companies in the same industry also provides better insights than reading reports across multiple industries.

Read reports of global leaders
When I am at it, I usually pick one or two global leaders and read their annual reports. So, for the banking sector, reading Jamie Dimons letter in JP Morgan Chase or following the Wells Fargo annual report to understand how they are progressing to root out their mis-selling problems. In some industries, global reports can provide a glimpse of things to come. Annual reports of Google and Amazon are a must read for anyone interested in technology and its impact on our day-to-day lives.

Opening last 3-5 years annual reports together
As annual reports come as PDF files, it makes it easier to reference the previous years reports. I tend to open the reports for last three, and sometimes five, years in different tabs. Then when I am reading through, say, the management discussion and analysis, I will glance through what was written in the same passage last year or two years back. This would help me understand how the management commentary has changed over time. Is the same passage being copy-pasted every year? Are there same spelling mistakes every year? Has the management said something three years back and then not mentioned it ever again? Is the management in the habit of over-promising and under-delivering or vice versa?

Focus of Directors report and MD&A
My main intention of reading an annual report is mainly to understand the developments and management view of the business climate. Secondary focus is on the financials, which I glance through at a high level. The directors report and the management discussion and analysis help the most in this respect.

Know what to look for
This is more important for companies in the portfolio and which I have been invested in for a long time. I am aware of the story in those stocks and know what to look for in terms of management commentary. For those where I am looking to invest, I take a more sceptical approach and try to drill holes in my investment thesis.

Annual reports are the primary sources of investor information and reading them in a disciplined way can give a lot of information and insights on the workings of a company and industry.

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