8.2 Financial Statement Analysis Flashcards
What are investor ratios?
ratios that are of interest to investors
How do we calculate EPS?
profit available to ordinary shareholders/number of ordinary shares
how do we find profit attributable to ord. shareholders
Start w net profit
subtract:
pref shares
minority interest
What are the features of EPS ratio?
- higher is better
- look for steady growth of EPS figure
- it is relative (depends how many shares, sector etc)
How do we calculate diluted EPS?
add back:
warrants
convertible pref. shares/loan stock
to number of shares
What is the P/E ratio?
market price per share/ EPS
expressed as multiple
How do we interpret P/E ratio?
High (higher compared to comps) P/E ratio may indicate high growth prospects
Low - indicates a value company, bargain (market has missed smt)
- or a company in trouble - had good earnings but market expects earnings to decrease
it is a relative valuation multiple (should compare to peer/sector avg)
gives relative market value (market value relative to earnings)
Is there a correlation between share price and EPS ratio?
usually a positive correlation (higher EPS, higher share price)
Why is higher PE multiple indicative of future growth prospects?
Because the Market price of the share is driven by smt more than just earnings which means the market is factoring in an increase in future earnings into the value (or market has miscalculated)
What is trailing PE ratio?
Ignore one-off events (non-recurring items), such as windfalls or exceptional items
What is a prospective PE ratio?
Instead of using the historic EPS of the company, the prospective P/E ratio uses the current financial year’s forecas
How is EV/EBITDA diff to PE multiple?
Valuation multiple that doesn’t factor in capital structure - takes full value of whole company (EV)
Hoe do we interpret EV/EBITDA multiple?
Same as P/E multiple
How to calculate dividend yield?
(Dividend per share/market price per share)x100%
How do we interpret dividend yield?
Low: may indicate high future growth
- company reinvesting profits
- market factroing in smt else into market price
- could also be overvalued
High: share is performing well (value company)
- could be risky (company in trouble)
What is dividend cover?
Tells us how many times a dividend could be paid from this years earnings
- gives idea of sustainability of the dividend
- is a multiple
How do we calculate Dividend cover?
EPS/Dividends per share
What is an uncovered dividend?
- dividend cover <1
- paying out more in dividends than revenue generated that year
- where profits other than this years are being used to pay out a dividend (eg. retained earnings reserve)
What is the gearing ratio?
Debt to equity ratio
= interest bearing debt (incl. pref shares and overdrafts)/equity shareholders funds x 100%
How do we interpret gearing ratio
Higher = more highly geared and vv
- more volatile profits (good years more good, bad years more bad)
risk to dividends: One interpretation of this ratio is the risk to shareholder dividends. As dividends are discretionary, and interest on debt is obligatory.
ability to borrow: ability of the company to borrow more. The more
highly geared the company is, the less likely it will be able to borrow more.
How do we calculate interest cover ratio?
profit before interest and tax/interest expense
its a multiple
What does interest cover ratio show us?
How easily a company can pay interest expenses on outstanding debt
- The lower the ratio, the more the company is burdened by debt expense.
What if interest cover multiple is less than 1?
problem - wont be able to cover interest expenses
What do liquidity ratios show us?
how able a company is to meet liabilities in the next 12 months
Who are interested in liquidity ratios?
creditors
What is the current ratio?
current assets/current liabilities
what is the ideal current ratio level?
greater than 1 - means can meet current liabilities with liquid assets
What is the quick ratio?
current assets - inventory / current liabilities
higher than 1 is highly liquid
What is another name for the quick ratio?
acid test
ultimate test of liquidity because you take out inventory which is not so liquid
What is return on capital employed? (ROCE)
operating profits/capital employed x 100%
how much capital was employed to generate level of return
What is capital employed and the 2 ways to calculate it?
total assets - current liabilities
(subtract current lib to acknowledge that a portion of assets cant be used this year as they have to pay off current lib)
can also be shown as equities + non-current liabilities (other side of equation)
What does ROCE show us?
Higher = more profitable compared to size
What is ROE?
net income/shareholders equity x 100%
- use net income as shareholders are only entitled to profit after tax
What does ROE show us?
Higher = better return for shareholders
What does profit show us?
What % of revenue becomes profit
- efficiency of business
what is another term for return on capital employed?
return on assets
