Chapter 12 - Financial Statement Analysis Flashcards
Vertical analysis
Expressing each item in a financial statement as a percentage of the same base amount measured in the same period
Always expresses each item as a percentage of the same base amount, like of sales or total assets
Horizontal analysis
Analyzing trends in financial statement data for a single company over time
Receivables turnover ratio
What does it mean?
Measures how many times receivables are collected during the year
A higher turnover ratio is usually better
Average collection period
What does it mean?
Measures the days it takes to convert receivables into cash
A shorter collection period is usually better
Inventory turnover ratio
What does it mean?
Measures how many times average inventory is sold during the year
A high turnover ratio can indicate that inventory is selling quickly or that there have been lost sales due to inventory shortages
Average days in inventory
What does it mean?
Measures the average number of days it takes to sell the entire inventory during the year. A shorter amount of time is usually better
Current ratio
What does it mean?
Compares current assets to current liabilities. A high current ratio indicates less risk
Acid-test ratio
What is it and how does it differ from the current ratio?
A more conservative measure of a company’s ability to pay current liabilities. Compares cash, current assets, and accounts receivable to current liabilities
Removes some assets like prepaid assets and inventory, which are less easily convertible to cash
Debt to equity ratio
What does it mean?
Indicates how much of a company’s financing comes from debt vs. equity
Gross profit ratio
Indicates the portion of each dollar of sales above its cost of goods sold (gross profit/net sales)
Return on assets
Measures the income the company earns on each dollar invested in assets (net income/avg total assets)
Profit margin
Measures the income earned on each dollar of sales (net income/net sales)
Asset turnover
Measures sales volume in relation to the investment in assets (net sales/avg total assets)
Earnings persistence
Current earnings that will continue or persist into future years
One-time income items
Certain items are part of net income in the current year but are not expected to persist
Quality of earnings
Ability of reported earnings to reflect true earnings, or the usefulness of reported earnings to predict future earnings
This means using conservative accounting practices over aggressive accounting practices.
