✨RECITATION 3 (L10) Flashcards
What is ROFL?
- Formular
- Funktion
Return on Financial Leverage
= ROE / ROA
= (Net Income / Equity) / (Net Income / Assets)
= Assets / Equity
Measure the additional return earned by equity holders due to the use of financial leverage (debt).
ROA (Return on Assets) can be disaggregated into two components, to determine which factor drives ROA.
- two components
- Intepretation
ROA = PM × AT
- PM (Profit Margin Formular)
- AT (Asset Turnover Formular)
Indicates whicht factor drives the ability to generate profit of overall performance:
sales compared to using assets
How do these turnover measures compare: PPET, ART, INVT
- meaning
- function
- relevance
Property, Plant, and Equipment Turnover
- Use of fixed assets to generate revenue
-
Capital-Intensive industries
(e.g., manufacturing)
Accounts Receivable Turnover
- Credit sales collection and
Cash Flow management. - High turnover indicates customers are paying promptly.
Inventory Turnover
- Inventory management and convertion to sales
- High turnover reflects strong sales or efficient inventory control.
- Current ratio
- Quick ratio
What is it used for? (3)
Liquidity Ratios
- Ability to meet short-term obligations.
- Use Balance Sheet figures
- Quick Ratio (Acid-Test Ratio)
more stringent measure of a company’s liquidity. It excludes inventory from current assets, since inventory may take time to convert to cash.
What are common Return on Investment Metrix?
- general function
ROI measures the
profitability of an investment
relative to its cost.
Why are financial ratios important?
Give some Focus Areas for Ratios and Metrics 💦⏱️🌍
They help analyze
-
company’s liquidity,
Liquidity Ratios -
operational efficiency,
Efficiency Ratios -
market performance
Market Ratios
Key Differences
Liquidity Ratios vs
Solvency Ratios?
Liquidity Ratios
Focus on short-term financial obligations and cash management.
- Current Ratio
- Quick Ratio (Acid-Test Ratio)
Solvency Ratios
Focus on long-term financial sustainability and leverage.
- Debt-to-Equity Ratio
- Times interest earned
Steps to Calculate Net Income from Revenues or EBITDA
- From Revenues to Net Income
- From EBITDA to Net Income
-
Revenues Path: Subtract
COGS → Operating Expenses → Interest → Taxes. -
EBITDA Path: Subtract
D&A → Interest → Taxes.
Both lead to Net Income, the ultimate profit metric.
What is EWI (Earnings Without Interest Expense)?
- Formular
- Another name
- Importance
= Net Income + Interest Expense × (Net of Tax)
EWI or NOPAT, typically referred to as:
- Company with no debt
- “Net Operating Profit After Tax” (NOPAT)
- Evaluates core profitability without the impact of financing structure.
- Useful for comparing companies with different levels of debt or analyzing unlevered performance
Return on Investment Metrics are Ratios that, divide .. (2)
- some measure of performance
(income statement) - by the average amount of
investment (balance sheet)
What is Return on Equity (ROE)?
Measures a company’s profitability by indicating how much profit it generates with the money invested by its shareholders.
Components of ROA (Dupont Analysis)?
Disaggregated into
- profit margin (PM)
- asset turnover (AT)
Captures both profitability and efficiency.
⭐️ Main Stepts for Financial Statement Analysis (4)
-
Measure Profitability
ROE, ROA, ROFL -
Compare Profit to Assets
AT, PM -
Compare Expenses
GPM, ETS (Expense to Sales Ratio) -
Check for Efficiency
ART, INVET, PPET
What is the formula for ROFL?
ROFL = ROE / ROA
Where:
- ROE = Net Income / Shareholder’s Equity
- ROA = Net Income / Total Assets
⭐️ How do you interpret ROFL?
- ROFL > 1: Financial leverage increases returns to equity holders.
- ROFL = 1: Financial leverage has no effect on returns.
- ROFL < 1: Financial leverage reduces returns due to high interest costs.
