fin stat analysis

8/10/2019 Fin Stat Analysis

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F I N A N C E 1 0 1

M A M U N U R R A S H I D

Financial Statement Analysis1

Chapter Objectives2

To discuss briefly about different financialstatements.

To analyze the financial statements using differenttechniques like ratio analysis, common sizestatement, DuPont Method.

To learn how to write a report on financial statementanalysis.


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Financial Statements3

Financial statements are end result of companyperformance.

Types of financial statements:

Balance Sheet

Income Statement

Cash flow Statement

Owners Equity Statement Value Added Statement

Balance Sheet4 Balance Sheet is

a financialstatement that

representsAssets, Liability

and OwnersEquity; where

Asset itemsmust be

balanced withLiability

+OwnersEquity items.

31 , 2005( )

+

+ 100 50

220 50

180 150 500 250

100 350

600 + 600


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Income Statement5

Income Statementis a financial

statement thatrepresents

income, expensesand net profit orloss for a certain

period of time.

31 , 2005( )

1000

: () 800

200

: 120

80

: 20: 30

30

Cash Flow Statement6 Cash flow statement is a financial statement that represent the cash inflow, cash

outflow and net cash flow for a certain period of time. Calculation steps:

Prepare the sources and uses statement

Allocate the source and uses items into Operating, Financial and Investing activities.

Rules for Sources and Uses: Increase in asset items will decrease cash and vice versa.

Increase in liability items will increase cash and vice versa. Depreciation is always a source of cash. Net income is source but net loss is use of cash.

Cash Flow Statement: Allocating sources and uses into Operating activities: Short term asset and liabilities, and income statement items.

Investing activities: Long run investment in fixed asset and financial assets.

Financing activities: Long run collection of fund and related activities.


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Example of Cash flow Statement7

31/12/04 31/12/05

40 15 25

160 180 20

200 270 70

600 680 80

15 30 15

55 60 5

35 40 5

255 300 45

(25 ) 130 130

54: 50

104 104

29 29

19 9 19 9

31, 2005

54

50

15

5

(20)

(70)

34

(80)

5

45

(29) 21

(25)

40

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Owners Equity Statement8 O/E Statement is

a financialstatement that

shows thechanges in

owners capitalposition

generally interms of share

capital, retainedearnings,

reserves anddividends.


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Value Added Statement9

Valued AddedStatement isthe financial

statement thatrepresents the

contributionof the

company tothe economy

or society.

Financial Statement Analysis - Objective10

P

Performance analysis.

P

Problem identification.

P

Plan to solve the problem.


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How to Analyze Performance?11

Ratio Analysis: Ratios are mathematical variablesshowing the interrelationship between two or more

variables.

Common-size Statement

DuPont Method

Ratio Analysis12

Advantages:

Easy to calculate.

Easy way to understand financial health of the company.

Through comparison, problems can be identified easily.

Disadvantages:

Difficult to interpret the results. Window Dressing System might affect the result.

Ratios are affected by economic variables.


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Types of Ratios (Clockwise)13

Liquidity Ratios

AssetManagement

Ratios

DebtManagement/

LeverageRatios

ProfitabilityRatios

Market Ratios

Liquidity Ratio

Popular Ratios

Current Ratio

Quick Ratio or Acid Test Ratio

Cash Ratio

Internal Measure

NWC to Total Asset Ratio

.

.

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Current Ratio

Current Ratio measures the reserve of current asset for paying current liability.

x5.1sLiabilitieCurrent

AssetsCurrentRatioCurrent ==

Interpretation: Company has total current asset of $1.5 to pay for $1 of currentliabilities.

Decision

Current Ratio; Reserve of Current Asset to pay for Current Liabilities.

Current Ratio; Liquidity but the profitability.

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Quick or Acid Test RatioQuick Ratio measures the reserve of quick asset for paying current liability. Inventory is the least liquid

current assets and its required to be converted to A/R and cash will be collected. So, inventory isdeducted to show the reserve of quick asset to pay for current liability.

x0.1sLiabilitieCurrent

Inventory-AssetsCurrentRatioQuick ==

Interpretation: Company has quick asset of $1 to pay for $1 of currentliabilities.

Decision

Quick Ratio; Reserve of Quick Asset to pay for Current Liabilities.

Quick Ratio; Liquidity but the profitability.

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Cash Ratio

Cash Ratio measures the reserve of quickest asset for paying current liability. Itmeasures the instant liquidity of the company.

x50.sLiabilitieCurrent

M/SCashRatioCash =

+=

Interpretation: Company has quickest asset, (the most liquid asset) of $0.50 topay for $1 of current liabilities.

Decision

Cash Ratio; ability to pay liabilities very instantly.

Cash Ratio; Liquidity but the profitability.

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Trade off between Liquidity vs. Profitability

Liquidity - Profitability

Liquidity - Profitability

Which one to choose?

Liquidity - company will run well in short term.Suppliers will be happy but owners will be unhappy.

Liquidity owners will be happy but company wont beable to collect raw materials and therefore cannot sustainfor long.

Make a Trade Off

Managers responsibility to choose a balance betweentwo options, so that both the suppliers and the ownersbecome happy. In fact the basic responsibility of anymanager is to manage the stakeholders.

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Inventory Turnover Period (ITOP)

ITOP shows, how many days it takes to convert inventory to AccountReceivables (or Sales or Turnover) each time.

days90

360

COGS

InventoryITOP ==

Interpretation: It takes average 90 days to sell inventories for each time.

Decision

ITOP; efficiency in managing inventory.

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Receivables Turnover Ratio (RTOR)

RTOR shows, how many times receivables is converted to cash within a year. Itmeans, how many times A/R is collected to cash?

x6A/R

SalesAnnualRTOR ==

Interpretation: Company can collect sell on credit from customers 6 times every year.

Decision

RTOR; efficiency in managing receivables.

RTOR; faster is the collection of cash, liquidity and profitability will go up.

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Receivables Turnover Period (RTOP)

RTOP shows, how many days it takes to convert receivables to cash each time.This is also called Average Collection Period or Days Sales Outstanding.

days

360

SalesAnnual

sReceivableRTOP 60==

Interpretation: It takes average 60 days to collect receivables for each time.

Decision

RTOP; efficiency in collecting cash from clients.

Company cannot pay before 60 days. So, company shout get into credit terms withthe suppliers for at least 60 days (with some days kept as precaution i.e. + 5 days).

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Fixed Asset Turnover Ratio (FATOR)

FATOR shows, how much sales is generated by using per unit of fixed asset? Itmeasures the efficiency of fixed asset management.

x3AssetFixedet

SalesAnnualFATOR ==

Interpretation: Company generated $3.0 of sales by investing $1 in fixed asset.

Decision

FATOR; efficiency in managing fixed asset.

High FATOR shows that fixed assets were properly utilized.

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Total Asset Turnover Ratio (TATOR)

TATOR shows, how much sales is generated by using per unit of total asset? Itmeasures the efficiency of total investment management.

x2.1AssetTotal

SalesAnnualTATOR ==

Interpretation: Company generated $1.2 of sales from $1 of total investment.

Decision

TATOR; efficiency in managing total investment.

TATOR shows the integrated efficiency of production, marketing and financedepartment.

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Debt Management Ratio

Popular Ratios

Debt to Asset Ratio(D/A Ratio)

Long-term Debt toAsset Ratio

Times Interest Earned(TIE) Ratio

Debt Management Ratio showscompany efficiency to manage

the outside/ borrowed fund.

This ratio measures thepercentage of fund from outside

sources both for short-term andlong-term.

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Debt to Asset Ratio (D/A Ratio)

Debt to Asset Ratio shows the percentage of fund collected from outside debtsources in the capital structure.

%9.50AssetTotal

DebtTotalRatioD/A ==

Interpretation: Company financed 50.9% fund from outside debt sources.

Decision

D/A; more fund collected from outside, less fund can be collected form issuance of share.

High D/A ratio also exhibits high level of risk. Company with high D/A ratio, usually carrieshigh risk and tends to offer more premium with other financing modes.

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Long-term Debt to Asset Ratio (Lt.D/A Ratio)

Long-term Debt to Asset Ratio shows the percentage of fund collected from long-termoutside debt sources in the capital structure.

%20AssetTotal

Debtterm-LongTotalRatioLt.D/A ==

Interpretation: Company financed 20% fund from long-term debt sources.

Decision

Lt. D/A; more fund collected from long-term outside sources, less fund can be collectedform issuance of share and short-term sources.

High Lt. D/A ratio exhibits an opportunity loss since the company is collecting less short-term debt sources, therefore by not taking the chance of credit purchase or accruals, thoseare much safer than long-term debt and equity.

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Times Interest Earned (TIE)

TIE Ratio measures the ability of paying fixed financing liability i.e. interest. How muchinterest company can with current operating income, is the main theme of TIE Ratio.

x3Interest

EBITRatioTIE ==

Interpretation: Company can pay interest twice with the current operating income available.

Decision

TIE Ratio; ability to pay interest.

Company with high TIE ratio can easily get loan. Because bank will check companys TIERatio, whether the company is able to pay the interest in time or not.

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Profitability Ratio

Popular Ratios

Profit Margin on Sales(PMOS)

Return on Asset (ROA)

(also called ROI) Return on Equity

(ROE)

Profit + Ability = Profitability

This ratio measures theability to earn profit.

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Profit Margin On Sales (PMOS)

PMOS ratio calculates the percentage profit earned on sales.

%3Sales

IncomeNetPMOS ==

Interpretation: Company earned $3 on each $100 sales.

Decision

PMOS; ability to earn profit

Higher PMOS ratios shows the integrative profit management in thecompany.

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Return on Asset (ROA) or ROI

ROA ratio measures the percentage of income earned on total investment.Sometimes also called Return on Investment.

%5.1AssetTotal

IncomeNetROA ==

Interpretation: Company earned $1.5 for each $100 of total investment.

Decision

ROA; profitability on marginal investment.

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Return on Equity (ROE)

ROE ratio measures the income earned on the fund provided by the owners.

%5EquityTotal

IncomeNetROE ==

Interpretation: Company earned $1.5 for each $100 of total equity.

Decision

ROE; profitability on owners fund, therefore, potential investors will beattracted to invest in this company.

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Market/Book Ratio (M/B Ratio)

Popular Ratios

Earning Per Share (EPS)

Dividend Per Share (DPS)

Price Earning Ratio (P/E

Ratio) Market/Book Ratio (M/B

Ratio)

Market/Book ratiomeasures the value of

the company in the stockmarket in terms of

market share. Itrepresents the value of

the company to theowners.

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EPS

EPS returns the earning for each share.

10$gOutstandinSharesofNo.

IncomeNetEPS ==

Interpretation: Company earned $10 for each share of the investors.

Decision

EPS; profitability for existing shares, therefore, secondary market activitywill increase. Market value will increase as well.

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DPS

DPS returns the actual dividend earning for each share.

5$gOutstandinSharesCommonofNo.

DividendDPS ==

Interpretation: Company has given $5 as dividend per share to the shareholders.

Decision DPS; profitability for existing shares.

Earning oriented investors will be attracted to purchase the share.Secondary market activity will go up and the market as well.

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P/E Ratio

P/E Ratio measures the willingness of investors to purchase the share.

x2EPS

MPSRatioP/E ==

Interpretation: Investors are willing to spend $2 for each dollar of earning for the company share.

Decision

P/E; investors willingness to purchase the share.

It measures growth opportunity of the company. Investors will pay more ifthe growth opportunity is high.

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M/B Ratio

M/B ratio measures the comparative market and book value for the company.

x2shareperValueBook

MPSRatioM/B ==

Interpretation: Company market value (image in the market) is 2 times higher than thevalue in the book (balance sheet).

Decision

M/B Ratio; market image of the company.

Higher M/B might be successful to generate more investment opportunities for thecompany when the market becomes clear about its image and activity.

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Du Pont Analysis

Du Pont is a multinational diversified company. It identifiedan analysis method for judging its financial performance.After the name of the company, therefore the name of theanalysis is Du Pont Analysis.

Du Pont analysis is the decomposition of financial variables

into smaller parts so that the problem can be easily identified.

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Du Pont Method

EquityTotal

IncomeNet

EquityTotal

AssetTotal

AssetTotal

IncomeNetx

+

:1. , 2. , 3. , 4. , 5. , 6. ,7. , 8. , 9. .

, /,


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Trend Analysis

Forecasting is the first responsibility of financial managers.Trend analysis helps in forecasting the financial variables forfuture, which eventually helps in decision making.

We can use a software which will give a trend forecast i.e.Ms. Excel or SPSS.

You need historical time series information of the targetvariable. You need to identify the dependent and

independent variables.

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Trend Analysis using Microsoft Excel

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Trend Graph

Sales $

Year

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Trend Line

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