financial analysis copyright © 2011 by the mcgraw-hill companies, inc. all rights reserved....
TRANSCRIPT
Financial Analysis
Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin
3-2
Ratio Analysis
• Financial ratios– Used to weigh and evaluate the operating
performance of a firm– Numerical calculations and analyzing ratios– Used to compare performance record as
against similar firms in the industry– Additional evaluation of company
management, physical facilities and other factors
– Such data is provided by various organizations
3-3
Ratios and their Classification
A. Profitability ratios: Show the combined effects of liquidity,
asset management, and debt on operating results.
1. Profit margin2. Return on assets (investment)3. Return on equity
3-4
Ratios and their Classification
B. Asset utilization ratios
4. Receivable turnover5. Average collection period6.Inventory turnover7.Fixed asset turnover8.Total asset turnover
3-5
Ratios and their Classification (cont’d)
C. Liquidity ratios 9. Current ratio
10. Quick ratio
D. Debt utilization ratios11. Debt to total assets
12. Times interest earned
13. Fixed charge coverage
3-6
Types of Ratios
• Profitability ratios– Measure the firm’s ability to earn adequate return on:
• Sales• Assets• Invested capital
• Asset utilization ratios– Measure the speed at which the firm is turning over:
• Accounts receivable
• Inventory
• Long-term assets
3-7
Types of Ratios (cont’d)
• Liquidity ratios– Emphasizes the firm’s ability to pay off short-
term obligations as they come due
• Debt utilization ratios– Estimates the overall debt position of the firm– Evaluates in the light of asset base and
earning power
3-8
Importance of Ratios to Users of Financial Statements
• For potential investors/security analysts:– Primary considerations – profitability ratios– Secondary considerations – liquidity and debt
utilization
• For banker or trade creditor – liquidity ratios
• For long-term creditors – debt utilization ratios and profitability ratios
3-9
Financial Statement for Ratio Analysis
3-10
Profitability Ratios
• Profit margin= Net Income/ Sales
• Return on Assets (ROA)= Net Income /
Total Assets
• Return on Equity (ROE) = Net Income /
stock holders’ equity
3-11
Profitability Ratios
3-12
DuPont System of Analysis
• A satisfactory return on assets might be derived through:– a high profit margin, or– a rapid turnover of assets (generating more
sales per dollar of its assets)– or a combination of both
Return on assets (investment) = Profit margin × Asset turnover
3-13
DuPont System of Analysis (cont’d)
• A satisfactory return on equity might be derived through:– a high return on total assets – a generous utilization of debt– or a combination of both
Return on equity = Return on assets (investment)
(1 – Debt/Assets)
3-14
DuPont Analysis
3-15
Return of Wal-Mart versus Abercrombie using the Du Pont method of analysis, 2009
3-16
Asset Utilization Ratios (cont’d)
3-17
Liquidity Ratios
• These ratios determine if the firm can meet
each maturing obligation as it comes due
3-18
Debt Utilization Ratios
• Measures the prudence of the debt management policies of the firm
3-19
Debt Utilization Ratios (cont’d)
• Fixed charge coverage measures the firm’s ability to meet all fixed obligations rather than interest payments aloneIncome before interest and taxes………………..$550,000
Lease payments…………………………………… 50,000
Income before fixed charges and taxes…………$600,000
3-20
Ratio Analysis
3-21
Income Statements
3-22
Explanation of Discrepancies
• Sales– Firm may defer revenue recognition until each
payment received or full recognition at earliest possible date
• Cost of goods sold– Use of different accounting principles .– Varying treatment of R&D costs etc.