13: Integration of FSA Techniques

Question 1

Framework for Analysis

Answer 1

1. Establish the objectives
2. Collect data
3. Process data
4. Analyze data
5. Develop and communicate conclusions
6. Follow up

Question 2

Return on equity (ROE) can be decomposed using the extended DuPont equation, as follows:

Answer 2

Question 3

FSA Techniques (Earnings)

Answer 3

Remove equity income from associates and the investment account to eliminate any bias.

Question 4

FSA Techniques (Balance Sheet)

Answer 4

Examine the composition of the balance sheet over time.

Question 5

FSA Techniques (Capital Structure)

Answer 5

Determine if the capital structure can support future obligations and strategic plans by analyzing the components of long-term capital.

Question 6

FSA Techniques (Segments)

Answer 6

Segment disclosures are valuable in identifying the contribution to revenue and profit of each segment.

Question 7

FSA Techniques (Off-Balance Sheet)

Answer 7

The balance sheet should be adjusted for off-balance-sheet financing activities.

Question 8

FSA Techniques (accounting standards)

Answer 8

Users must be aware of the proposed changes in accounting standards because of the financial statement effects and the potential impact on a firm’s valuation. Earnings can be disaggregated into cash flow and accruals using either a balance sheet approach or a cash flow statement approach. For either measure, the lower the accruals ratio, the higher the earnings quality.

Question 9

FSA Techniques (Cash Flow)

Answer 9

Earnings are considered higher quality when confirmed by cash flow. Cash flow can be compared to operating profit by adding back cash paid for interest and taxes to operating cash flow.

Answer 10

The standalone market value of a firm can be computed by eliminating the pro-rata market value of investments in associates. An implied P/E multiple can be computed by dividing the standalone market value by earnings not including equity income from associates.