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Chapter 13

Chapter 13. Financial Analysis & Ratios. Comparative Analysis. There are three types of comparisons to provide decision usefulness of financial information: Intra-company basis Inter-company basis Industry averages. Comparative Analysis.

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Chapter 13

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  1. Chapter 13 Financial Analysis & Ratios

  2. Comparative Analysis • There are three types of comparisons to provide decision usefulness of financial information: • Intra-company basis • Inter-company basis • Industry averages

  3. Comparative Analysis • Intra-company basis – comparisons within the company. • Inter-company basis – comparisons with other companies. • Industry averages – comparisons with other companies in the same industry.

  4. Financial Statement Analysis Three basic tools are used in financial statement analysis : 1. Horizontal analysis 2. Vertical analysis 3. Ratio analysis

  5. Horizontal Analysis • Is a technique for evaluating a series of financial statement data over a period of time. • Did an increase or decrease take place? • Pages 698 - 699

  6. Horizontal Analysis • P1 – P0 • P0 • $9,614 – $8,812 = 9.10% • $8,812 • The amount of cash for Chicago Cereal Company increased approximately 9.10% from fiscal 2007 to 2008.

  7. Vertical Analysis • Expresses each item in a financial statement as a percent of a base amount. • Total Assets is the base amount on a Balance Sheet. • Common-size balance sheet • Net Sales is the base amount on an Income Statement. • Common-size income statement • Pages 701 - 702

  8. Ratio Analysis • Five types: • Liquidity ratios • Solvency ratios • Turnover ratios • Profitability ratios • Market value ratios

  9. Liquidity Ratios Measure the short-term ability of the enterprise to pay its maturing obligations and to meet unexpected needs for cash. WHO CARES? Short-term creditors such as bankers and suppliers

  10. Current Ratio Indicates short-term debt-paying ability Current Assets Current Liabilities

  11. Acid-Test Ratio Indicates immediate short-term debt-paying ability Current Assets - Inventory Current Liabilities

  12. Cash Ratio Indicates short-term debt-paying ability (cash basis) _ Cash _ Current Liabilities

  13. Solvency Ratios Measure the ability of the enterprise to survive over a long period of time WHO CARES? Long-term creditors and stockholders

  14. Debt to Assets Ratio Indicates % of total assets provided by creditors Total Liabilities Total Assets

  15. Times Interest Earned Ratio Indicates company’s ability to meet interest payments as they come due _ EBIT _ Interest Expense

  16. Cash Debt Coverage Ratio • Indicates long-term debt-paying ability (cash basis) • Cash provided by operations • Average total liabilities

  17. Turnover Ratios Measure how efficiently, or intensively, a firm uses its assets to generate sales . WHO CARES? Short-term creditors such as bankers and suppliers

  18. Inventory Turnover Ratio Indicates liquidity of inventory Cost of Goods Sold Inventory

  19. Average Days in Inventory • Indicates liquidity of inventory and inventory management • 365 days • Inventory Turnover Ratio

  20. Receivables Turnover Ratio Indicates liquidity of receivables Net Sales Accounts Receivable

  21. Average Collection Period Indicates liquidity of receivables and collection success 365 days Receivables Turnover

  22. Asset Turnover Ratio Indicates how efficiently assets are used to generate sales Net Sales Total Assets

  23. Profitability Ratios • Measure the income or operating success of an enterprise for a given period of time • WHO CARES? Everybody • WHY? A company’s income affects: • its ability to obtain debt and equity financing • its liquidity position • its ability to grow

  24. Profit Margin Ratio Indicates net income generated by each dollar of sales Net Income Net Sales

  25. Return On Assets Reveals the amount of net income generated by each dollar invested Net Income Average Total Assets

  26. Return on Equity • Indicates profitability of common stockholders’ investment Net Income Average Total Equity

  27. Market Value Ratios Deals with market value of stock. . WHO CARES? Stockholder’s

  28. Earnings Per Share (EPS) Indicates net income earned on each share of common stock sales Net Income Shares Outstanding

  29. Price Earnings Ratio Indicates relationship between market price per share and earnings per share Stock Price Earnings Per Share

  30. Payout Ratio Indicates % of earnings distributed in the form of cash dividends Dividends Net Income

  31. Retention Ratio Indicates % of earnings plowed back into the corporation. Addition to Retained Earnings Net Income

  32. Limitations Of Financial Analysis • Horizontal, vertical, and ratio analysis are frequently used in making significant business decisions. • One should be aware of the limitations of these tools and the financial statements.

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