4a - Secs analysis

Question 1

Difference between
- statement of financial position
-statement of P&L
-Statement of cash flows

Answer 1

balance sheet = snapshot of fin position at end of acc period - states what money comp has and where it came from

income statement - summarizes earnings and expenditure over acc period
P&L = revenue = recognised @ point of sale

cash flow - summary of payments and receipts over acc period
cash = recognized on payment/receipt

Question 2

Balance sheet components

Answer 2

Top half : assets
- non current assets
- current assets

Bottom half : equity and liabilities
- capital and reserves
- non current liabilities
- current liabilities

non current assets + current assets = cap and reserves + non current liabilities + current liabilities

Question 3

non current assets

Answer 3

LT >1 yr
assets intended to be used by bis for >1 yr

intangible non current assets:
- no phys substance
-expected to generate future rev
(eg. goodwill, TM, patents)

tangible non-current assets
- expected tog enerate future rev + physical substance
(e.g. land, property, pland and machinery)
- valued at NBV

non current investments - shares held for over>1 yr

includes investment in associat comp where share ownership is 20-50%. >50% =consolidates balance sheets

(increasing liq down from non current intangible to cash)

Question 4

current assets

Answer 4

=assets held for conversion into cash

inventory (stock )
- raw mats, work in progress, finished goods

trade receivables (debtors)
=amount comp owed on fin. position date
- trade debtors
-pre payments

cash

top half of bal sheet =
assets
- non current ass
- current ass
- investments

(increasing liq down from non current intangible to cash)

Question 5

liabilities

Answer 5

current
- owed by comp due within 1 year
–trade payables (creditors)
–accuals (expenses not yet invoiced)
- short term borrowing (e.g. overdraft )

non curent
- amount owed + payable >1yr
–LT bank loans
–bonds issued by comp
–provisions for doubtful debt

Question 6

cap and reserves

Answer 6

bottom half of bal sheet -
equity and liabilities
- capital and reserves
- non current liabilities
- current liabilities

CAPITAL
share cap
-not distributable = NV of total shares in issue

share premium
-any XS above NV raised on isse (=MV-NV)
- can be issues to write off cost of issuance or to cover bonus issue

RESERVES- amount belonging to shareholders retained in company

• revaluation reserve
  – not cash so cannot be distributed (must be sold to recognise) - recognises appreciation of value
• retained earnings
  –can be distributed to maintain divi in bad year

Question 7

bonus issue

effect on balance sheet + market

Answer 7

share price down
share number up

NV remains same
share cap rises (NV of shares issues)
share prem falls (XS above NV raised)

Question 8

rights issue effect on balance sheet

Answer 8

share cap up (refelcts NV of shares in issue)
share prem up (surplus raised in excess of NV)

Question 9

stock split

Answer 9

divide a company’s shares, creating more shares and lowering the stock’s price

share price down
share number up

NV lowered
share cap remains same
share prem remains same

Total NV and total share prem remains the same - NV decreased compensate for decrease in share prem)

Question 10

How to measure depreciation of tangible non current assets

Answer 10

recorded on balance sheet at NBV - net book val

NBV = (cost - residual val)/assets useful life

Question 11

valuation of inventory

Answer 11

actual cost not always poss - can use cost flow assumption
value =lower of cost or net realised val

weighted avg (when inventory is drawn down proportionally e.g. gravel)

FIFO - first in first out
old inventory to be used first - e.g. perishables

Question 12

statement of profits and loss (RGOPN)

Answer 12

REVENUE
- cost of sales (direct costs)
= GROSS PROFIT
- operating costs (indirect costs)
= OPERATING PROFIT (aka EBIT/EBIT)
- exceptional items (big 1 off)
-finance costs/income (interest)
= PROFIT BEFORE TAX
- corp tax payable
=NET INCOME

Question 13

Turnover (revenue )

P&L statement

Answer 13

total income generated by selling goods/services
recognised @ point of sale
(includes cred purchases and sale)
recognition can be apportioned over long periods for LT contacts

Question 14

cost of sales
PL

Answer 14

direct cost of goods sold
= (opening inventory + purchases or production ) - closing inventory

Question 15

operating costs
PL

Answer 15

general/indirect costs
- disto, admin etc

Question 16

capital vs revenue expenditure

Answer 16

cap expenditure = spent to buy non current assets
goes on balance sheet = cash down and non current up - total assets constant

revenue expenditure - reflected on P&L statement
e.g. wages, rent etc

Question 17

statement of cash flows - DIRECT METHOD

Answer 17

recognizes cash on payment and receipt

OPERATING ACTIVITIES - recognizes CF generated from trading activities
~ cash receipts from customers
~(cash paid to suppliers/employees)
~(income taxes paid
NET CASH FROM OP ACTIVITIES

INVESTING ACTIVITIES - CF gen from trading of non current assets and investment inc
~interest received
~divi received
~proceeds on disposal of NCA
~(purchase of NCA)
NET CASH USED IN INVESTMENT ACTIVITIES

FINANCING ACTIVITIES - CF gen from issues debt and eq +other borrowing
~(eq divi paid)
~(debt repayment)
~proceeds on issue or bonds/eq
~bank loans raised
~increase/(decrease) in bank overdrafts
NET CASH FROM FINANCING ACTIVITIES

NET INCREASE/(DECREASE) IN CASH

direct meth = no depreciation and no payables/receivables

Question 18

Equity cash flow (free cash flow to equity)

Answer 18

how much cash can be paid to eq shareholders pose expenses, reinvestment and debt repayment

excludes cash owed to lenders

Question 19

Enterprise cash flow (free cash flow to the firm)

Answer 19

measure of profitability post expenses and reinvestments
comparable CF irrespective of cap structure

useful to compare and analyse fin.health

Question 20

Statement of cash flows - INDIRECT METH

Answer 20

begins with OPERATING PROFIT from P&L statement
op profit = rev - sales - op costs = PBIT
- recognises rev @point of sale but CF recognised on payment/receipts - must reconcile net CF from op activities with this

• ADD NON CASH EXPENSES (e.g. depreciation) back to profits [as not outflow of cash]

REMOVE IMPACT OF MOVEMENT OF CURRENT ASSETS AND CURRENT LIABILITIES
- SUBTRACT: any increase in current assets or decrease in current liabilities
subtracted from profits [as increase profits but not cash]
-ADD: any decrease in currents assets or increase in current liabilities [as these reduce profit but dont decrease cash]

logicall think : reverse impact that non cash stuff has on P&L for cash flow

Question 21

current ratio AKA
working cap ratio

Answer 21

current ratio = current assets / current liabilities
= near cash assets + inventory + trade receivables + cash / trade payables + acruals

want = >1
estimate of current solvency - higher = more solvent
estimates if current assets recoverable within 1 yr are sufficient to cove liabilities due within 1 yr

Question 22

quick ratio
AKA acid test

Answer 22

quick = (current assets - inventory) / current liabilities
= receivables + cash / current liabilities

can you survive quickly?
adapted curren ratio to solve illiquidity of inventory

Question 23

Financial gearing ratio %

Answer 23

interest bearing debt / equity *100
high gearing = greater risk to shareholder divi in downturn

Question 24

operational gearing ratio (multiple)

Answer 24

(sales rev - variable cost) /PBIT

greater fixed costs as proportion of total costs = greater variation of profit with change in output
PBIT = rev - cost of sales - op costs
high op gearing = small change in rev = big change in profit

Question 25

equity multiplier ratio

Answer 25

equity multiplier ratio = total assets / equity
= (current + non current) / eq

shows how many x bigger comp is due to borrowing

Question 26

interest cover ratio

Answer 26

interest cover ratio = PBIT / interest expense

PBIT = rev - cost of sales - op costs
baso = how many times could comp pay interest charges

Question 27

net profit margin (%)

Answer 27

net profit margin (%) = net profit / rev

net profit = rev - direct costs - tax
gross proft = rev - direct costs

high = good cost efficiency in purchasing/production functions

Question 28

op profit margin %

Answer 28

op profit / rev

op profit = rev - direct costs - indirect costs
baso rev - all overheads
low op prof margin vs good net prof margin indicates lack of overhead cost control

Question 29

net asset turnover

Answer 29

= turnover / cap employed
= total income from PL/ (eq + LT liabilities + ST interest bearing liabilites)

looks at how hard assets are working to gen turnover

Question 30

ROCE - return on cap employed %

Answer 30

PBIT / cap employed
PBIT = rev - direct costs - indirect costs
cap employed: eq + LT liabilities + ST interest bearing liabilites)

ROCE = bigger = better performance by manager

Question 31

EPS

Answer 31

EPS = net income / no. of ordinary shares

net income = profits avail to ord. shareholders (MUST REMOVE PREF SHAREHOLDERS DIVI)
Steady growing EPS = consistent company

Question 32

P/E ratio

Answer 32

market price share /earnings per share

= relative valutation multiple
low may indicat ehigh risk or undervalued
high maybe growth comp or overvalued

Question 33

GARP

Answer 33

EPS > PE ratio - then reasonable
EPS < PE ratio - then overvalued

Question 34

Divi yield %

Answer 34

divi yield = divi per share / market price per share

-can be gross or not
value comps with cheap share price and high div yield may be high risk
growth comps (more reinvestment of income and higher share price) - lower div yield and less risk

Question 35

Div cover (multiple)

Answer 35

= EPS/ div per share
= (net income/#ord shares) / div per share

baso how many times divi could have been paid
higher = more substantial divi

if div cover <1 - divi is paid out of retained eaarnings as divi>earnings

Question 36

benefits and limits of fin. analysis

Answer 36

bene - meaures of liquity, gearing, profitability

limits
- window dressing of acc statements at year end
- over reliant on historical info
-comps in different countries/sectors
-varing acc policies (e.g. treatment of depreciation)

Question 37

acccruals method
9k paid over 3 years with 2k cost to comp

Answer 37

year 1 profit will show
3k -2k = 1k
year 2 = 3k
year 3 - 3k