Accounting as the Language of Business

We, as passive investors should be shrewd businessmen, having the technical operations of the business delegated but still mindful and prudently watchful of the state of our assets. 

This is Part 4 of a Series. Go to Part 3: Conservative Expectation on Rate of Return

The following is a portion of a letter addressing my partners which states, clarifies, and addresses the operating principle behind that private investment partnership (i.e. hedge fund) I began. I would recommend that you start your reading at the beginning.

I’m sure none of us are strangers to the basic dynamics of how a business works financially. Generally, we are faced to lay out some cash, depending on the industry, to allot for initial working capital (e.g. inventory, revolving fund, etc.) or to spend on capital expenditures (e.g. fixtures, equipments, etc.) hoping the venture would payback these outlays later on; transactions are inevitable when conducting the affairs of a business.

While you may have likewise kept records of transactions to keep track of your own business, in our partnership, we intend to take this a step further by accurately capturing and documenting these activities as they actually happen through professionally maintained books of accounts (i.e. journal and ledger), deriving from them transparent financial reports laid out in standard accounting format. Accordingly, we, as passive investors should be shrewd businessmen, having the technical operations of the business delegated but still mindful and prudently watchful of the state of our assets. As such, we should be well accustomed and honed in interpreting standard financial statements. Accounting is the language of business, and our performance shall be presented by its prescribed format, so reading them should eventually be second nature. In any case, financial literacy duly gears us be it in our goal to document and present our investing activities in transparent, conducive financial reports, or in our pursuit of owning great businesses.

In reporting performance, I shall be attaching financial reports. Financial statements are primarily composed of the balance sheet (captures the snapshot financial position of the firm at a certain point in time), statement of comprehensive income (summarizes all transactions and unrealized gains to report changes in the financial position from one point to another), statement of cash flows (shows the inflow and outflow of cash, the firm’s lifeblood), statement of changes in equity (presents the standing of our net worth and the changes which took place therein), and notes to financial statements (supplements and serves as reference to better understand the accounts of the various statements). Continued to Part 5: Reporting Hedge Fund Performance