04 Financial Statement Analysis Flashcards
Involves assessment and evaluation of the firm’s past performance, its present condition and future business potential
FS Analysis
Types of information to extract in FS Analysis
- profitability
- ability to meet obligations (liquidity and solvency)
- safety of investment in the business
- effectiveness of management in running the firm (proper utilization of assets)
- overall company marketability (sale of stocks)
Enables investors and analysts to see what has been driving a company’s financial performance over time by identifying trends and growth patterns using two or more periods
Horizontal Analysis (Trend Percentages and Index Analysis)
Process of comparing figures in the financial statements of a single period
Vertical Analysis (Common-size FS)
Common base year in horizontal analysis
Prior year
Common base of SFP and Income Statement in Vertical Analysis
SFP - Assets
Income Statement - Sales
Financial statement that summarizes the amount of cash and cash equivalents entering and leaving a company
SCF
Main components of SCF
Operating
Investing
Financing
Positive operating activities net cash flow means
Company is self-sustaining
Cash left over after a company pays for its Opex and CaPex
Free Cash Flow
Cash flow available for the company to repay creditors or pay dividends and interest to investors
Free Cash Flow
Compute FCF from operating activities
CF from operating activities
+ Interest expense
- Tax shield on interest expense
- CAPEX
= Free Cash Flow
Compute FCF from EBIT
EBIT x (1 - tax rate)
+ Non-cash exp (Dep, Amort, etc.)
- Change in working capital
- CAPEX
= FCF
Compute FCF from Net Income
Net income
+ Interest Expense
- Tax shield on Int Exp
+ Non-cash exp (Dep, Amort, etc.)
- Change in working capital
- CAPEX
= FCF
Increasing FCF means
increased earnings, company too liquid
Shrinking FCF means
unable to sustain earnings growth but not a bad thing if increasing capex
Measures the change in total sales and gross profit brought about changes in selling price
Sales Price Variance or Sales Factor
= Sales this year - Sales this year at last year’s price
- only affects sales
Used to determine reasons why the GP margin chanegs from period to period so that management can take steps to bring GM in line with expeectations
GP Analysis
(change in SP, change in unit cost, change in units sold)
Two primary factors that result to revenue variances
Price
Physical/Quantity Factors
Measures the change in cost of sales and gross profit brought about changes in unit cost
Cost Price Variance or Sales Factor
= Cost of sales this year - Cost of sales this year at last year’s price
- only affects cost of sales
Measures the change in total sales and gross profit brought about by change in units sold
Sales Quantity Variance
= Sales this year at last year’s price - Sales last year
Measures the net effect on gross profit due to change in units sold
Sales Volume Variance or Quantity Factor
= Sales Quantity Variance + Cost Quantity Variance
Measures change in cost of sales and gross profit about by changes in units sold
Cost Quantity Variance
= Cost of sales this year at last year’s price - Cost of sales last year
Quantitative method for gaining insight into a company’s liquidity, operational efficiency and profitability by examining FS such as SFP and SCI
Ratio Analysis
General rules in interpreting ratios
higher ratio = better (exception debt ratios)
lower period = better
When to use average in formulating ratios
Average:
* comparing real account to nominal account (SFP and I/S accounts)
* average SFP account and another average SFP account
Formula of liquidity ratios
Current Ratio = CA / CL
* are current assets sufficient to cover current liabilities?
Acid Test Ratio = Quick Assets / CL
* quick assets = cash and AR
Cash Ratio = Cash and marketable securities / CL
Working Capital = CA - CL
Is cash ratio an absolute measure of liquidity?
Yes
Is current ratio an absolute measure of liquidity?
No because it includes inventory and prepaid assets
Is acid test ratio an absolute measure of liquidity?
No because it includes AR
Effect of purchase of marketable securities for cash on:
Current Ratio
Working Capital
Quick Ratio
No effect - marketable securities and cash are similarly current assets
Effect of disposal of marketable securities resulting to no gain on:
Current Ratio
Working Capital
Quick Ratio
No effect
Effect of disposal of marketable securities resulting to loss on:
Current Ratio
Working Capital
Quick Ratio
Decrease
Effect of disposal of marketable securities resulting to gain on:
Current Ratio
Working Capital
Quick Ratio
Increase
Effect of collection of AR to:
Current Ratio
Working Capital
Quick Ratio
No effect
Effect of collection of previously-written AR (Allowance Method) to:
Current Ratio
Working Capital
Quick Ratio
No effect
Effect of collection of previously-written AR (Direct WO Method) to:
Current Ratio
Working Capital
Quick Ratio
Increase
Effect of WO of AR (Allowance Method) to:
Current Ratio
Working Capital
Quick Ratio
No effect
Effect of WO of AR (Direct WO) to:
Current Ratio
Working Capital
Quick Ratio
Decrease
Effect of purchase of inventories on account to:
Current Ratio
Working Capital
Quick Ratio
It depends
Effect of purchase of inventories for cash to:
Current Ratio
Working Capital
Quick Ratio
Current Ratio - no effect
Working Capital - no effect
Quick Ratio - decrease
Effect of stock divs to:
Current Ratio
Working Capital
Quick Ratio
No effect
Effect of settlement of AP to:
Current Ratio
Working Capital
Quick Ratio
It depends
Formula of receivable turnover
Credit sales / Average receivable
Effect of cash divs to:
Current Ratio
Working Capital
Quick Ratio
Date of declaration - decrease
Date of record - no effect
Date of settlment - depends
Effect of sale of inventories for cash
or on account to:
Current Ratio
Working Capital
Quick Ratio
Increase
Effect of disposal of NCA to:
Current Ratio
Working Capital
Quick Ratio
Increase (because cash increased)
Turnover and age are tests of ___________ and ___________ respectively.
activity; liquidity
Formula of age of receivables
Average receivables / Average daily credit sales
Formula of inventory turnover
COGS / Average inventory
Formula of average age of inventory
Average inventor / average daily COGS
Formula of operating cycle
Average age of receivables + average age of inventories
Formula of age of trade payables
Average AP / Average daily credit purchase
Formula of current asset turnover
COGS + Opex - Non-cash Expenses
/ Average Current Assets
Formula of cash conversion cycle
operating cycle - trade payables
Formula for trade payables turnover
Net credit purchases / Average trade payables
Formula for Times Interest Earned and what type of ratio is it?
EBIT / Interest Expense
Solvency ratio
Debt Ratio
Total liabilities / Total Assets
Debt-Equity ratio formula
Total liabilities / Total SHE
Equity ratio
Total SHE / Total Assets
Equity multiplier
Average total assets / average SHE
Times P/S Dividend requirements
Earnings after tax / Preferred dividends
Times fixed charges earned
EBIT / Total fixed charges (int, div, etc.)
Return on sales formula
Earnings after tax / Sales
Gross profit or margin ratio
GP / Sales
Return on assets
Earnings before interest but after tax / average total assets
ROE
earnings after tax / average owner’s equity
EPS
earnings after tax less P/S dividends
/ wanos
P/E ratio
Price per share / earnings per share
Dividend yield
Ordinary dividend per share / price per share
Earnings yield
Earnings per share / price per share
Dividend payout
O/S dividend per share / EPS
Plow-back ratio
1- payout ratio
Useful technique used to decompose the different drivers of ROE
Du Pont Equation
What represents operating efficiency, asset use efficiency and leverage in Du Pont Equation?
operating efficiency - net profit margin
asset use efficiency - asset turnover ratio
leverage - equity multiplier
Du Pont Equation
earnings after tax / average shareholder’s equity
Way of calculating how much new funding will be required so that the firm can realistically look at whether or not they will be able to generate the additional funding and therefore be able to achieve the higher sales level
Additional Funds Needed
Formula of AFN
Projected increase in assets - spontaneous increase in liabilities - any increase in RE
