Why is the bottom line figure—net income—not necessarily a good indicator of a firm’s financial success?

Question

Why is the bottom line figure—net income—not necessarily a good indicator of a firm’s financial success?

Answer 1

as a stand alone number it can be very deceiving, you don't know the companies history or what the average is for the industry. Also if the owners of the company dumped money into the company to boost revenue. looking at also the balance sheet and (my favorite) the cash flow statement will give you more of the picture.

Answer 2

because it takes no consideration of the companies overall financial position, asset value or sales projections.

Many companies make a large net profit, but are in large amounts of fixed, long term debt.

Answer 3

Far too many things can be manipulated to make income look bigger, cash infusion, single sales event, or even non-factual financial statements (these are statements that are in and of themself true but not reflective).  And there are many things that income does not reflect such as debt carried, cash on hand, sales trends, capital asset condition (do they need a new factory).

No single number or fact is a good measurement of a company.  All financial records are like statistics, easy to support most any statement you want to make.

Answer 4

Net income is a snapshot picture of how well the firm is doing.  There are a number of factors that make up net income that may not be indicative of a firm's overall success.  For example, a sudden change in the value of the dollar can affect the bottom line if the firm happened to hold currency that would benefit by the change - this is not really indicative of how well a firm is doing, just what its cash holdings happened to be.  Also, a firm can artificially inflate the bottom line - let's say a pharm company cut all research - that would increase net income, but in the long run harm the company since it would have no new products in the pipeline.

For that reason, net income coupled with cash flow, liabilities, and certain financial ratios taken overall is a much better way of looking at whether a company is successful.