Reading 32- Financial Statement Analysis: Applications

Question 1

Evaluate a company’s past financial performance and explain how a company’s strategy is reflected in past financial performance.

Answer 1

• Analyze financial ratios
• Trends in financial ratios and differences between a firm’s financial ratios and those of its competitors or industry averages can indicate important aspects of a firm’s business strategy.

Question 2

Forecast a company’s future net income and cash flow.

Answer 2

1. ) Forecast GDP growth
2. ) Tells us change for sales revenue in the next year by market growth
3. ) Cash flows can be estimated by assumptions about future sources and uses of cash.

Question 3

Describe the role of financial statement analysis in screening for potential equity investments.

Answer 3

Understand the 3 Cs for Creditors:
Character- integrity of the borrower
Collateral- ability to give in exchange for collateral to the debt owed.
Capacity- the capital structure analysis and solvency ratio analysis that will give us info about the company’s ability to pay back the asking amount.

EX: MOODYS, STANDARDS + POORS

Question 4

Describe the use of financial statement analysis in screening for potential equity investments.

Answer 4

Backtesting= you can use older financial reports to forecast into the future or look at trends of financial ratios to see how the company has done in the past!

Question 5

Explain appropriate analyst adjustments to a company’s financial statements to facilitate comparison with another company.

Answer 5

Differences between US GAAP and IFRS require an analyst to adjust the financial statements of a firm:

• Investment in Securities
• Inventory Accounting Differences
• Differences in Depreciation Methods and Estimates
• Off-Balance sheet financing