The primary focus of the security analyst should be the firm's real economic earnings rather than its reported earnings. Accounting earnings as reported in financial statements can be a biased estimate of real economic earnings, although empirical studies reveal that reported earnings convey considerable information concerning a firm's prospects.

A firm's ROE is a key determinant of the growth rate of its earnings. ROE is affected profoundly by the firm's degree of financial leverage. An increase in a firm's debt-to-equity ratio will raise its ROE and hence its growth rate only if the interest rate on the debt is less than the firm's return on assets.

It is often helpful to the analyst to decompose a firm's ROE ratio into the product of several accounting ratios and to analyze their separate behavior over time and across companies within an industry. A useful breakdown is

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Other accounting ratios that have a bearing on a firm's profitability and/or risk are fixed-asset turnover, inventory turnover, days sales in receivables, and the current, quick, and interest coverage ratios.

Two ratios that make use of the market price of the firm's common stock in addition to its financial statements are the ratios of market to book value and price to earnings. Analysts sometimes take low values for these ratios as a margin of safety or a sign that the stock is a bargain.

Good firms are not necessarily good investments. Stock market prices of successful firms may be bid up to levels that reflect that success. If so, the price of these firms relative to their earnings prospects may not constitute a bargain.

A major problem in the use of data obtained from a firm's financial statements is comparability. Firms have a great deal of latitude in how they choose to compute various items of revenue and expense. It is, therefore, necessary for the security analyst to adjust accounting earnings and financial ratios to a uniform standard before attempting to compare financial results across firms.

Comparability problems can be acute in a period of inflation. Inflation can create distortions in accounting for inventories, depreciation, and interest expense.

Fair value or mark-to-market accounting requires that most assets be valued at current market value rather than historical cost. This policy has proved to be controversial because ascertaining true market value in many instances is difficult, and critics contend that financial statements are therefore unduly volatile. Advocates argue that financial statements should reflect the best estimate of current asset values.

International financial reporting standards have become progressively accepted throughout the world, including the United States. They differ from traditional U.S. GAAP procedures in that they are principles-based rather than rules-based.