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WORKBOOK — THE STUDENT

Chapter I.04 · Reading a Balance Sheet as a Living System

For the person studying this alone, or in a seminar, with no organisation to change yet. You have something better than authority for this chapter: you have access to every set of accounts ever filed, for nothing, and the time to read them slowly.

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WHY THIS WORKBOOK IS DIFFERENT

The executive reading this chapter has one balance sheet and a great deal to lose by being wrong about it. You have every balance sheet in the world and nothing at all to lose. That is not a consolation prize. It is the better position for learning to read, and it is temporary, so use it now.

Every figure in the chapter came out of two documents that are free: a 10-K filed with the SEC and a financial statement release published on a company website. Nobody gave the author access. The whole apparatus of this chapter — the per-acre gap, the disposal decomposition, the roll-forward, the cross-framework comparison — was built from public filings and arithmetic. You can do the same thing tonight.

What you are building in this term is a reading skill, and reading skills do not expire. The specific companies will change. The four questions will not.

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PART ONE — DISCOVERY

Days 1–30: learn to open a real set of accounts

Exercise 1.1 — Get the document (45 minutes)

Go to the SEC's EDGAR full-text search at efts.sec.gov or the company filings browser at www.sec.gov/edgar. Choose one company that owns a living or depleting stock. Good candidates, and they are good for different reasons:

Download the most recent annual report. Open the consolidated balance sheet. Print it if you can. Rule the second column in the margin by hand. The physical act matters more than it sounds; it is what stops you reading the page as a finished object.

Exercise 1.2 — Sort every material line (90 minutes)

Take every line above one percent of total assets and run the four questions:

1. Regeneration rate above zero?
2. Rate under management?
3. Observable market in its present state?
4. Condition already measured by somebody?

Write the four answers beside each line, then the routing: fair value, physical schedule, disclose the dependency, or leave it alone.

Expect most lines to answer no to question one. Receivables, cash, prepayments, goodwill, deferred tax — none of them regenerate. If your sheet comes back with everything alive, you have been generous rather than accurate, and generosity is the failure mode of this method. Go again.

Exercise 1.3 — Find the policy note (60 minutes)

Find the accounting policy note — usually Note 1 or Note 2 — and read the paragraphs on the largest asset. You are looking for four sentences:

• How the asset is measured (cost? fair value? cost less depletion?).
• What is capitalised and what is expensed.
• How the depreciation or depletion rate is determined.
• What the rate calculation explicitly excludes.

The last one is where the gold is. Weyerhaeuser's policy states that depletion rate calculations do not include estimates for future silviculture costs, future reforestation costs at final harvest, or future volume from replanting after final harvest. Three sentences naming exactly what the number does not contain. A company that tells you what its number excludes is doing careful accounting, and it is also handing you the second reading.

Copy the four sentences out by hand. You will use them in the term project.

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PART TWO — THE ARITHMETIC

Days 31–50: compute before you conclude

Exercise 2.1 — Reproduce the chapter (2 hours)

Do not take the chapter's numbers on trust. Open lib/verify/I_04.py, read it, and then compute these independently, by hand or in a spreadsheet:

1. Carrying value per acre: $11,551 m ÷ 10.4 m acres. Confirm $1,111.
2. Transaction value per acre across the five disclosed deals: $894 m ÷ 311,000 acres. Confirm $2,875.
3. The gap and its total: confirm $1,764 per acre and $18.3 billion.
4. The 2023 disposal: proceeds $166 m, gain $84 m, and therefore basis. Confirm 50.6 percent of proceeds arrived as gain.
5. The depletion-rate illustration: $1,000,000 ÷ 500,000 t and ÷ 600,000 t. Confirm the rate falls 16.7 percent.
6. Stora Enso: EUR 229 m ÷ EUR 93 m. Confirm 2.46 times.

Then do the part that matters most: find one figure in this chapter that you can check against a source the chapter did not use, and check it. The filings are public. If you find a discrepancy, write it down and bring it to the seminar. This edition wants to be checked; that is the difference between a text and a doctrine.

Exercise 2.2 — The ninety-second diagnostic, twenty times (3 hours)

This is the single most transferable drill in the workbook.

Take twenty annual reports — any industry, any size. For each, find the disposal note, and compute:

  carrying basis = proceeds − recorded gain
  ratio          = proceeds ÷ basis

Record the ratio, the asset class, and roughly how long the asset had been held. Twenty data points take an evening and give you something almost nobody has: a feel for what normal looks like. When you next see a ratio of four, you will know it is unusual, and you will know it because you counted.

Then write the caution beside your own table, in your own words: a high ratio can mean drift, or an old purchase, or an improvement, or a good sale. A diagnostic that you cannot bound is a diagnostic that will eventually embarrass you.

Exercise 2.3 — Your own standing-stock schedule (90 minutes, then weekly)

Six columns. Physical units only. No money.

Fill the opening column tonight. Then leave it alone for four weeks and change nothing. Measuring before intervening feels like waste. It is the foundation of every claim you will ever make about whether something worked.

At four weeks, check that it foots: opening plus regeneration minus draw equals closing. Where it does not foot, you have found either a missing flow or a sloppy definition, and both are worth more than a tidy table.

Exercise 2.4 — Find where the method fails (45 minutes)

Take your own schedule and identify the line where fair value would be absurd. Write one paragraph explaining why — using the threshold from the chapter:

  S · g  >  k · C     =>     S  >  k · C / g

Then look up the June 2014 bearer plants amendment and read the IASB's stated reasons in the Basis for Conclusions. Write 200 words on whether you find those reasons persuasive. If you cannot make the case against fair value at its strongest, you do not yet understand the case for it.

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PART THREE — DREAM AND DESIGN

Days 51–70: build something somebody else can use

Exercise 3.1 — The one-page second reading (2 hours)

Take the company from Exercise 1.1 and write one page — genuinely one page — containing:

1. What fraction of total assets is a living or depleting stock, with the denominator stated.
2. The carrying value per physical unit, and how you derived it.
3. Any arm's-length transaction value per unit disclosed in the same filing.
4. The gap, with two or three honest limits on the comparison stated in the same breath.
5. One sentence on what this company is sitting on that its balance sheet cannot say.

The honest limits are the assessed part. Anyone can divide. The skill being taught is the ability to bound your own number in public, and the person who does that is believed the next time.

Exercise 3.2 — The definition document (45 minutes)

Choose one stock from your own schedule and write its definition so precisely that another person could count it identically without speaking to you.

"Reading" is not a definition. "Pages of primary source read, logged the same day, where primary source means a paper, filing, statute or dataset rather than a summary of one" is a definition.

Sign it. Date it. Then do not change it for a year, however much you want to. A trend across a changed definition is not a trend.

Exercise 3.3 — The verifier (30 minutes, then monthly)

Ask one named person to confirm your counts once a month. Not to encourage you — to check the number. Tell them explicitly that their job is to disagree.

This is the rule that converts a schedule into evidence, and it is the rule students skip. The person who produced a number may not be the person who confirms it. That sentence is worth more than any other sentence in this workbook, and it is worth the awkwardness of asking.

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PART FOUR — DESTINY AND DELIGHT

Days 71–90: make it hold, and enjoy the reading

Exercise 4.1 — Attach it to a decision (30 minutes)

A schedule that informs no decision will be abandoned. Pick one decision that your schedule will actually govern this term — what you read, what you decline, when you stop. Write the rule in one line: when the closing figure on this line falls below X, I do Y.

Exercise 4.2 — The margin habit (ongoing)

Read one set of published accounts a week for the rest of the term. Not to analyse — to read. Fifteen minutes, the balance sheet and one note. Keep the ratios in a single file.

By the end of a year you will have read fifty sets of accounts, which is more than most people in finance read closely in a decade, and you will have done it in the time other people spend on a commute.

Exercise 4.3 — Delight, on purpose (ongoing)

Make the reading pleasant on purpose. The particular café, the printed page rather than the screen, the pencil you actually like. This is not indulgence; it is the adoption mechanism, and it decides whether you are still doing this in March.

Write one sentence: the part of this I look forward to is ___. If you cannot complete it, redesign the practice until you can.

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THE TERM PROJECT

One company, read all the way through

Choose one listed company with a material living or depleting stock and produce a second reading of its most recent accounts.

Deliverables.

1. The routing sheet (1 page). Every material balance-sheet line, the four questions answered, the treatment assigned. Most lines will say leave it alone, and a sheet that does not is a sheet that has been generous.
2. The policy extract (1 page). The four sentences from the accounting policy note, quoted exactly, with the filing reference. Include what the rate calculation explicitly excludes.
3. The arithmetic (800 words plus workings). Carrying value per unit, transaction or market value per unit where disclosed, the gap, the disposal decomposition, and the roll-forward of the main stock line for one year. Every number reproducible from the filing.
4. The honest limits (300 words). At least three reasons your headline ratio is not a valuation. This section is worth as much as the arithmetic.
5. The standing-stock schedule you would propose (1 page). Six columns, the units you would use, and the name of the function inside that company that already holds the data.
6. The instrument (400 words). What financing decision this schedule could be attached to, and the inequality that decides it, computed with stated assumptions and both breakevens.

How it is assessed. Not on whether you found a dramatic gap. On whether another person could reproduce every number from the same public filing, and on whether your limits section would survive being read by the company's own finance director.

A modest, well-bounded finding is a first-class piece of work. A spectacular ratio with no denominator is not.

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SELF-ASSESSMENT

Score yourself honestly. This is for you.

The two that matter most are the third and the sixth. Everything else is mechanical and can be learned in a fortnight. Refusing to find life in a line that has none, and bounding your own number in public, are habits — and habits take a term.

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CARRYING IT FORWARD

At the end of this term you will have:

• Fifty sets of accounts read, and a file of disposal ratios nobody else has.
• One complete second reading of a real company, reproducible from public documents.
• Four weeks of your own standing-stock schedule, footed and confirmed by somebody who is not you.
• The four questions, which take ninety seconds and work on any balance sheet you will ever be handed.

That last one changes what rooms you are useful in. Most people in a meeting about a set of accounts are reading the first column. You will be the person who asks what the depletion rate calculation excludes — and that question, asked politely, once, is how a person with no authority becomes the person who gets asked next time.

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APPRECIATIVE QUESTIONS FOR YOUR SEMINAR

1. Which of us found a policy note that told us plainly what its own number excludes — and what made that company willing to say so?
2. When has one of you measured something in physical units and found it more persuasive than the money version? What made the difference?
3. What is already working in how this group checks each other's arithmetic, and how would we get more of it?
4. If every one of us kept one footed schedule for a year, what would this group know at the end of it that nobody currently knows?