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Fundamentals of Financial Accounting , Canadian Edition

Fundamentals of Financial Accounting , Canadian Edition. Chapter 13. Measuring and Evaluating Financial Reporting. Calculating Change in Dollar Amounts. Trend Analysis. Dollar Change. Current Year Figure. Base Year Figure. =. –. Calculating Change as a Percentage. Horizontal Analysis.

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Fundamentals of Financial Accounting , Canadian Edition

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  1. Fundamentals of Financial Accounting, Canadian Edition

  2. Chapter 13 Measuring and Evaluating Financial Reporting

  3. Calculating Change in Dollar Amounts Trend Analysis Dollar Change Current Year Figure Base Year Figure = –

  4. Calculating Change as a Percentage Horizontal Analysis Percentage Change Dollar Change Base Year Figure × 100% =

  5. The following slides illustrate a trend analysis for High Liner Foods for the years ended December 31, 2002, 2003 and 2004. Trend Analysis

  6. Trend Analysis

  7. Trend Analysis % change in total assets ($166,995 - $207,367) = 19% decrease

  8. Trend Analysis % change in property & equipment ($27,176 - $27,492) = 38% decrease

  9. Trend Analysis

  10. Trend Analysis % change in total liabilities ($47,170 - $118,339) = 60% decrease

  11. Trend Analysis

  12. Trend Analysis % change in revenues ($269,494 - $293,253) = 17% decrease

  13. Trend Analysis % change in operating income ($10,374 - $9,886) = 5% increase

  14. Framework for Financial Statement Ratio Analysis Revenues Assets • Solvency Ratios: • Debt to assets • Times interest earned • Capital acquistions • Cash coverage • Efficiency: • Asset turnover • Fixed asset turnover Net Income Debt & Equity Financing Receivables turnover Inventory turnover • Other: • Net profit margin • Gross profit % • ROE • EPS • Quality of income • Liquidity ratios • Receivables turnover • Inventory turnover • Current • quick

  15. Ratio Analysis • Profitability– relates to performance in the current period. The focus is on the company’s ability to generate income during the period. • Liquidity– relates to the company’s short-term survival. The focus is on the company’s ability to use current assets to repay liabilities as they become due. • Solvency– relates to the company’s long-run survival. The focus is on the company’s ability to repay lenders when debt matures.

  16. Tests of Profitability • Asset turnover • Fixed asset turnover • Net profit margin • Gross Profit % • Return on equity (ROE) • Earnings per share (EPS) We will use the financial statement of High Liner Foods to perform ratio analysis. The financial statements are shown on the next screen.

  17. Net Sales revenueAverage total assets Asset turnover = $269,494 (166,995+177,739)/2 Profitability Ratios Asset turnover 2004 2005 2006 Asset turnover 1.52 1.53 1.56 ** **

  18. Net Sales revenueAverage net fixed assets Asset turnover = $269,494 (27,176+27,492)/2 Profitability Ratios Fixed Asset turnover 2004 2005 2006 Fixed Asset turnover 8.17 7.12 9.86** **

  19. Net incomeNet sales revenue Net profit margin = $8,162 269,494 x 100% Profitability Ratios Net profit margin 2004 2005 2006 Net profit margin 15.6% 3.2% 3.0%** **

  20. Net sales – cost of goods Net Sales Gross profit % = $269,494-212,169 269,494 x 100% Profitability Ratios Gross Profit Margin 2004 2005 2006 Gross profit % 22.8% 21.6% 21.2%** **

  21. Net Income Average shareholders’ equity Return on Equity (ROE) = $8,162 (119,825+121,396)/2 x100% Profitability Ratios Return on equity (ROE) 2004 2005 2006 ROE 43.5% 12.0% 6.8%** **

  22. Net Income Average number of common shares Profitability Ratios Earnings Per Share (EPS) Earnings Per share EPS = 2004 2005 2006 EPS $0.93 $0.66** $4.49 ** Reported on the income statements

  23. Net cash flows from operating activities Net Income $16,779 8,162 Profitability Ratios Quality of Income Quality of Income = 2004 2005 2006 Quality of Income .20 2.85 2.06** **

  24. Liquidity Ratios • Receivables turnover. • Inventory turnover. • Current ratio. • Quick ratio

  25. Net credit sales revenue Average net receivables $269,494 ($28,167+$31,840)/2 Liquidity Ratios Receivables turnover Receivables turnover = 2004 2005 2006 Receivables turnover 8.8 10.1 9.0** **

  26. Cost of good sold Average inventory $212,189 ($45,322+$49,870)/2 Liquidity Ratios Inventory turnover Inventory turnover = 2004 2005 2006 Receivables turnover 4.5 4.5** 4.6 **

  27. Current Assets Current Liabilities $82,019 $39,122 Liquidity Ratios Current Ratio Current Ratio = 2004 2005 2006 Current Ratio 1.91 1.47 2.10** **

  28. Cash +Short-term investments + A/R Current Liabilities $506 + 0+ 28,167 $39,122 Liquidity Ratios Quick Ratio Quick Ratio = 2004 2005 2006 Quick Ratio 0.68 0.56 0.73** **

  29. Solvency Ratios • Debt-to-Assets. • Times Interest Earned • Cash Coverage Ratio • Capital Acquisitions Ratio

  30. Total liabilities Total Assets $47,170 $166,995 Solvency Ratios Debt-to-assets Debt- to – Assets = 2004 2005 2006 Debt-to-Assets 0.32 0.57 0.28** **

  31. Solvency Ratios Times interest earned Times Interest earned Net income + interest expense + income tax expense Interest expense = 2004 2005 2006 Times Interest earned 21.6 3.1 36.1** ($8,162 +339+3,735) $339 **

  32. Solvency Ratios Cash Coverage Ratio Cash Coverage Net cash flows from operations + interest paid + income taxes paid Interest paid = 2004 2005 2006 Cash coverage 4.8 5.5 51.1** ($16,779 + 339 +209) $339 **

  33. Solvency Ratios Capital Acquisitions ratio Capital Acquisitions ratio Net cash flows from operations Cash paid for PPE = 2004 2005 2006 Cash acquisitions ratio 1.24 6.0 3.15** $16,779 $5,333 **

  34. Price/Earnings Ratio Stock Price Per ShareAnnual Earnings Per Share = Relationship Between Earnings and Stock Prices Price/Earning Ratio a high P/E ratio means investors expect the company to do better in the future a low P/E ratio means investors don’t expect strong future performance

  35. The Conceptual Framework Objectives of Financial Reporting Qualitative Characteristics of Financial Information Elements of Financial Statements Recognition and Measurement Criteria Assumptions Principles Constraints

  36. Conceptual Framework Objectives • To provide information: • Useful for decisions. • That helps predict cash flows. • About economic resources, claims to resources, and changes in resources and claims. Recognition andMeasurementConcepts Elements QualitativeCharacteristics FinancialStatements Constraints Continued

  37. Objectives Recognition andMeasurementConcepts AssumptionsSeparate entity Unit of measure Time period Going concern Principles Historical cost Revenue recognition Matching Full Disclosure Elements Assets Liabilities Equity Shareholders Equity Revenues Expenses Gains Losses QualitativeCharacteristics Understandability Relevance Reliability Comparability Consistency Financial Statements Balance sheet Income statement Statement of cash flows Statement of shareholders’ equity Related disclosures Constraints conservatism Materiality Cost-benefit

  38. Relevance Reliability PredictiveValue Feedback Value Timeliness Verifiability Neutrality RepresentationalFaithfulness Comparability Consistency Qualitative Characteristics - Understandability Decision Usefulness Understandability

  39. Practical Constraints to Achieving Desired Qualitative Characteristics Conservatism CostEffectiveness Materiality

  40. End of Chapter 13

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