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  • 8/10/2019 Financial Ratios Meanings

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    Chapter 14Suggestions for Case

    Analysis

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    Case Analysis

    Research:

    Annual reports

    10K form Income statements

    Balance sheets

    Cash flow statements

    Economic conditions

    Industry information

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    Case Analysis

    Resources for Case Library Research:

    Company Information: Moodys Manuals on Investment

    Standard & Poors Regis ter of

    Corpo rat ions , Directo rs, and Executives

    Value Lines Investment Survey Findex: The Directo ry of Market Research

    Repo rts, Studies and Surveys

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    Case Analysis

    Resources for Case Library Research:

    Economic Information:

    Bus iness Cycle Developm ent

    U.S. Censu s Bureau

    Current Business Repor ts

    Econom ic Indicators

    Long -Term Economic Growth Month ly L abor Review

    U.S. Ind us tr ial Outlo ok

    Overseas Bus iness Repo rts

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    Case Analysis

    Resources for Case Library Research:

    Industry Information:

    Business Week

    Fortune

    Indu stry Survey

    Indu stry Week Forbes

    Inc.

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    Case Analysis

    Resources for Case Library Research:

    Directory and Index Information:

    Business Per iodical Index Directo ry of National Trade Assoc iat ion s

    Encyclopedia of Associat ions

    Funk and ScottsIndex of Corporat ions

    and Indu str ies ThomassRegister of AmericanManufacturers

    Wall Street Jou rnal Index

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    Case Analysis

    Resources for Case Library Research:

    Ratio Analysis Information: Almanac of Business and Industr ia l

    Financ ial Ratios

    Annual Statement Studies

    Duns Review

    Indu stry Norms and Key Business Rat ios

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    Case Analysis

    Resources for Case Library Research:

    Online Information:

    www.hoovers .com

    www.sec.gov

    www.pathf inder .com

    www.dbisna.com/dnb/dnbhome.htm

    www.fu ld .com

    www.economist .com

    www.w100.com

    www.b loomberg .com

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    Case Analysis

    Financial Analysis:

    Ratio analysis Liqu id i ty rat ios- examines f i rm cash

    generat ion levels & cash convert ib i l i ty Prof i tabi l i ty rat ios- show extent to whichf i rm activ i t ies generate pro f i ts

    Ac t iv i ty ratios- explores cycles of cashand p roduct turno ver in f i rms

    Leverage rat ios - demonstrates firm debtlevels & interest responsibi l i t ies

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    Financial Ratio AnalysisLiquidity

    1. Liquidity Ratios

    Current ratio

    Quick (acid test) ratio

    Inventory to net

    working capital

    Cash ratio

    How

    Formula Expressed Meaning

    Current assets

    Current liabilities Decimal

    Decimal

    Decimal

    Decimal

    A short-term indicator of the companys

    ability to pay its short-term liabilities

    from short-term assets; how much of

    current assets are available to cover

    each dollar of current liabilities.Measures the companys ability to pay

    off its short-term obligations from

    current assets, excluding inventories.

    A measure of inventory balance;

    measures the extent to which the

    cushion of excess current assets over

    current liabilities may be threatened by

    unfavorable changes in inventory.Measures the extent to which the

    companys capital is in cash or cash

    equivalents; shows how much of the

    current obligations can be paid from

    cash or near-cash assets.

    Current assetsInventory

    Current liabilities

    InventoryCurrent assetsCurrent liabilities

    Cash + Cash equivalents

    Current liabilities

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    Financial Ratio Analysis

    Profitability

    2. Profitability Ratios

    Net profit margin

    Gross profit margin

    Return on investment

    (ROI)

    Return on equity

    (ROE)

    Earnings per share

    (EPS)

    How

    Formula Expressed Meaning

    Net profit after taxes

    Net sales Percentage

    Percentage

    Percentage

    Percentage

    Dollars per

    share

    Shows how much after-tax profits are

    generated by each dollar of sales.

    Indicates the total margin available to

    cover other expenses beyond cost of

    goods sold, and still yield a profit.

    Measures the rate of return on the total

    assets utilized in the company; a

    measure of managements efficiency, it

    shows the return on all the assets

    under its control regardless of source

    of financing.

    Measures the rate of return on the

    book value of shareholders totalinvestment in the company.

    Shows the after-tax earnings

    generated for each share of common

    stock.

    SalesCost of goods sold

    Net sales

    Net profit after taxes

    Shareholders equity

    Net profit after taxes

    preferred stock dividends

    Average number of

    common shares

    Net profit after taxes

    Total assets

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    Financial Ratio AnalysisLeverage

    4. Leverage Ratios

    Debt to asset ratio

    Debt to equity ratio

    Long-term debt to

    capital structure

    Times interest earned

    Coverage of fixed

    charges

    Current liabilities to

    equity

    How

    Formula Expressed Meaning

    Total debt

    Total assetsPercentage

    Percentage

    Percentage

    Decimal

    Decimal

    Percentage

    Measures the extent to which borrowed

    funds have been used to finance the

    companys assets.

    Measures the funds provided by creditorsversus the funds provided by owners.

    Measures the long-term component of

    capital structure.

    Indicates the ability of the company to

    meet its annual interest costs.

    A measure of the companys ability to

    meet all of its fixed-charge obligations.

    Measures the short-term financing

    portion versus that provided by owners.

    Total debtShareholders equity

    Long-term debtShareholders equity

    Profit before taxes +

    Interest charges + Lease chargesInterest charges + Lease obligations

    Profit before taxes + Interest charges

    Interest charges

    Current liabilitiesShareholders equity

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    Financial Ratio AnalysisOther

    5. Other Ratios

    Price/earning ratio

    Dividend payout ratio

    Dividend yield on

    common stock

    How

    Formula Expressed Meaning

    Market price per shareEarnings per share Decimal

    Percentage

    Percentage

    Shows the current markets evaluation

    of a stock, based on its earnings;

    shows how much the investor is willing

    to pay for each dollar of earnings.

    Indicates the percentage of profit that

    is paid out as dividends.

    Indicates the dividend rate of return to

    common shareholders at the current

    market price.

    Annual dividends per shareAnnual earnings per share

    Annual dividends per share

    Current market price per share

    Note: In using ratios for analysis, calculate ratios for the corporation and compare them to the average and quartile ratios forthe particular industry. Refer to Standard and Poors and Robert Morris Associates for average industry data. Special thanksto Dr. Moustafa H. Abdelsamad, Dean, Business School, Texas A&M UniversityCorpus Christi, Corpus Christi, Texas, forhis definitions of these ratios.

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    Case Analysis

    Analyzing Financial Statements:

    Scrutinize historical statements

    Compare historical statements over

    time

    Calculate changes in categories from

    year to year

    Determine the change as a percentage Adjust for inflation

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    Case Analysis

    Analyzing Financial Statements (cont.):Use Financial Statements To:

    Compare historical statements of one

    firm over time (explore trends) Examine performance relative to direct

    competitors

    Examine performance relative to

    industry averages

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    Case Analysis

    Economic Measures: Constant dollars

    Dollars adjusted for inflation to make themcomparable over various years.

    CPI

    Prime interest rate Rate of interest banks charge on their lowest risk

    loans. Gross Domestic Product (GDP)

    Total output of goods and services within acountrys borders.

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    Strategic Audit Worksheet: Part 1

    Analysis CommentsStrategic Audit Heading

    (+) Factors (-) Factors

    I. Current Situation

    A. Past Corporate PerformanceIndexes

    B. Strategic Posture Current Mission Current Objectives Current Strategies Current Policies

    SWO T Analysis Begins:

    II. Corporate Governance

    A. Board of Directors

    B. Top Management

    III. External Environment(EFAS):

    Opportunities and Threats(SWO T)

    A. Societal Environment

    B. Task Environment Industry AnalysisIV. Internal Environment(IFAS):

    Strengths and Weaknesses(SWOT) A. Corporate Structure

    B. Corporate Culture

    C. Corporate Resources

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    Strategic Audit Worksheet: Part 2

    Analysis CommentsStrategic Audit Heading

    (+) Factors (-) Factors

    1. Marke ting

    2. Finance

    3. Research and Development

    4. Ope rations and Logistics

    5. Human Resources

    6. Information SystemsV. Analysis of Strategic Factors(SFAS)

    A. Key Internal and ExternalStrategic Factors (SWO T)

    B. Review of Mission and Objectives

    SWO T Analysis Ends. Recomm endation Begins:

    VI. Alternatives and Recom mend ations

    A. S trategic Alternatives

    B. Recommended Strategy

    VII. Implementation

    VIII. Evaluation and Control

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    Case Analysis

    Case Analysis Method:

    Read case Read case with strategic audit

    Begin SWOT analysis

    EFAS

    IFAS

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    Case Analysis

    Case Analysis Method:

    Write Strategic Audit Parts IIV

    Write Strategic Audit

    Part V

    SFAS

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    Case Analysis

    Write Strategic Audit Part VI Alternatives

    Recommendations

    Write Strategic Audit Part VII

    Implementation

    Write Strategic Audit Part VIII Evaluation & Control

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    Prentice Hall,2000Prentice Hall,

    Chapter 14Chapter 14Wheelen/Hunger

    Financial Ratio AnalysisLiquidity

    14.1a Financial Ratio Analysis Liquidity (Table 14.1)

    1. Liquidity Ratios

    Current ratio

    Quick (acid test) ratio

    Inventory to net

    working capital

    Cash ratio

    How

    Formula Expressed Meaning

    Current assets

    Current liabilities Decimal

    Decimal

    Decimal

    Decimal

    A short-term indicator of the companys

    ability to pay its short-term liabilities

    from short-term assets; how much of

    current assets are available to cover

    each dollar of current liabilities.

    Measures the companys ability to pay

    off its short-term obligations from

    current assets, excluding inventories.

    A measure of inventory balance;

    measures the extent to which the

    cushion of excess current assets over

    current liabilities may be threatened by

    unfavorable changes in inventory.Measures the extent to which the

    companys capital is in cash or cash

    equivalents; shows how much of the

    current obligations can be paid from

    cash or near-cash assets.

    Current assetsInventory

    Current liabilities

    InventoryCurrent assetsCurrent liabilities

    Cash + Cash equivalents

    Current liabilities

    196

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    Prentice Hall,2000Prentice Hall,

    Chapter 14Chapter 14Wheelen/Hunger

    14.1b Financial Ratio Analysis Profitability (Table 14.1)

    Financial Ratio Analysis

    Profitability2. Profitability Ratios

    Net profit margin

    Gross profit margin

    Return on investment

    (ROI)

    Return on equity

    (ROE)

    Earnings per share

    (EPS)

    How

    Formula Expressed Meaning

    Net profit after taxes

    Net sales Percentage

    Percentage

    Percentage

    Percentage

    Dollars per

    share

    Shows how much after-tax profits are

    generated by each dollar of sales.

    Indicates the total margin available to

    cover other expenses beyond cost of

    goods sold, and still yield a profit.

    Measures the rate of return on the total

    assets utilized in the company; a

    measure of managements efficiency, it

    shows the return on all the assets

    under its control regardless of source

    of financing.

    Measures the rate of return on the

    book value of shareholders totalinvestment in the company.

    Shows the after-tax earnings

    generated for each share of common

    stock.

    SalesCost of goods sold

    Net sales

    Net profit after taxes

    Shareholders equity

    Net profit after taxes

    preferred stock dividends

    Average number of

    common shares

    Net profit after taxes

    Total assets

    197

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    Prentice Hall,2000Prentice Hall,

    Chapter 14Chapter 14Wheelen/Hunger

    14.1d Financial Ratio Leverage (Table 14.1)

    Financial Ratio AnalysisLeverage

    4. Leverage Ratios

    Debt to asset ratio

    Debt to equity ratio

    Long-term debt to

    capital structure

    Times interest earned

    Coverage of fixed

    charges

    Current liabilities to

    equity

    How

    Formula Expressed Meaning

    Total debt

    Total assetsPercentage

    Percentage

    Percentage

    Decimal

    Decimal

    Percentage

    Measures the extent to which borrowed

    funds have been used to finance the

    companys assets.

    Measures the funds provided by creditorsversus the funds provided by owners.

    Measures the long-term component of

    capital structure.

    Indicates the ability of the company to

    meet its annual interest costs.

    A measure of the companys ability to

    meet all of its fixed-charge obligations.

    Measures the short-term financing

    portion versus that provided by owners.

    Total debtShareholders equity

    Long-term debtShareholders equity

    Profit before taxes +

    Interest charges + Lease chargesInterest charges + Lease obligations

    Profit before taxes + Interest charges

    Interest charges

    Current liabilitiesShareholders equity

    199

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    Prentice Hall,2000Prentice Hall

    Chapter 14Chapter 14Wheelen/Hunger

    14.1e Financial Ratio Analysis Other (Table 14.1 )

    Financial Ratio AnalysisOther

    5. Other Ratios

    Price/earning ratio

    Dividend payout ratio

    Dividend yield on

    common stock

    How

    Formula Expressed Meaning

    Market price per shareEarnings per share Decimal

    Percentage

    Percentage

    Shows the current markets evaluation

    of a stock, based on its earnings;

    shows how much the investor is willing

    to pay for each dollar of earnings.

    Indicates the percentage of profit that

    is paid out as dividends.

    Indicates the dividend rate of return to

    common shareholders at the current

    market price.

    Annual dividends per shareAnnual earnings per share

    Annual dividends per share

    Current market price per share

    Note: In using ratios for analysis, calculate ratios for the corporation and compare them to the average and quartile ratios forthe particular industry. Refer to Standard and Poors and Robert Morris Associates for average industry data. Special thanksto Dr. Moustafa H. Abdelsamad, Dean, Business School, Texas A&M UniversityCorpus Christi, Corpus Christi, Texas, forhis definitions of these ratios.

    200