Analysis of Financial Statements

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Analysis of Financial Statements
Chapter
17
2
Basics of Analysis
Application of analytical tools
Involves transforming data
Reduces uncertainty
3
Purpose of Analysis
Financial statement analysis helps users make
better decisions.
Internal Users
External Users
Managers Officers Internal Auditors
Shareholders Lenders Customers
4
Building Blocks of Analysis
Liquidity and Efficiency
Solvency
MarketProspects
Profitability
5
Information for Analysis
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Standards for Comparison
To help me interpret our financial statements, I
use several standards of comparison.

• Intracompany
• Competitor
• Industry
• Guidelines

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Tools of Analysis
Horizontal Analysis
Comparing a companys financial condition and
performance across time
Time
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Tools of Analysis
V e r t i c a l A n a l y s i s
Comparing a companys financial condition and
performance to a base amount
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Tools of Analysis
Using key relations among financial statement
items
Ratio Analysis
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Horizontal Analysis
Now, lets look at some ways to use horizontal
analysis.
Time
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Comparative Statements

• Calculate Change in Dollar Amount

Dollar Change
Analysis Period Amount
Base Period Amount


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Comparative Statements

• Calculate Change as a Percent

Percent Change
Dollar Change Base Period Amount

100

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12,000 23,500 (11,500)
(11,500 23,500) 100 48.9
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Now, lets review the dollar and percent changes
for the liabilities and shareholders equity
accounts.
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Now, lets look at trend analysis!
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Trend Analysis
Trend analysis is used to reveal patterns in data
covering successive periods.
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Trend Analysis

• Berry Products
• Income Information
• For the Years Ended December 31,

2000 is the base period so its amounts will equal
100.
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Trend Analysis

• Berry Products
• Income Information
• For the Years Ended December 31,

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Trend Analysis

• Berry Products
• Income Information
• For the Years Ended December 31,

How would this trend analysis look on a line
graph?
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Trend Analysis
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V e r t i c a l A n a l y s i s
Now, lets look at some vertical analysis tools!
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Common-Size Statements

• Calculate Common-size Percent

Common-size Percent
Analysis Amount Base Amount


100
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(12,000 315,000) 100 3.8
(23,500 289,700) 100 8.1
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Common-Size Graphics
This is a graphical analysis of Clover
Corporations common-size income statement for
2004.
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Liquidity and Efficiency
Solvency
Ratio Analysis
Profitability
Market
Lets use the following financial statements for
Norton Corporation for our ratio analysis.
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Liquidity and Efficiency
Current Ratio
Inventory Turnover
Acid-test Ratio
Days Sales Uncollected
Accounts Receivable Turnover
Days Sales in Inventory
Total Asset Turnover
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• Use this information to calculate the liquidity
  and efficiency ratios for Norton Corporation.

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Working Capital

• Working capital represents current assets
  financed from long-term capital sources that do
  not require near-term repayment.

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Current Ratio
This ratio measures the short-term debt-paying
ability of the company.
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Acid-Test Ratio
Quick assets are Cash, Short-Term
Investments,and Current Receivables.
This ratio is like the current ratio but excludes
current assets such as inventories and prepaid
expenses that may be difficult to quickly convert
into cash.
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Accounts Receivable Turnover
This ratio measures how many times a company
converts its receivables into cash each year.
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Inventory Turnover
This ratio measures the number of times
merchandise is sold and replaced during the year.
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Days Sales Uncollected
Days Sales Uncollected
Accounts Receivable Net Sales

365
Days Sales Uncollected
20,000 494,000

365 14.8 days
This ratio measures the liquidity of receivables.
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Days Sales in Inventory
This ratio measures the liquidity of inventory.
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Total Asset Turnover
This ratio measures the efficiency of assets in
producing sales.
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Solvency
Debt Ratio
Equity Ratio
Pledged Assets to Secured Liabilities
Times Interest Earned
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• Use this information to calculate the solvency
  ratios for Norton Corporation.

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Debt Ratio
This ratio measures what portion of a companys
assets are contributed by creditors.
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Equity Ratio
This ratio measures what portion of a companys
assets are contributed by owners.
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Pledged Assets to Secured Liabilities
This ratio measures the protection to secured
creditors.
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Times Interest Earned
This is the most common measure of the ability of
a firms operations to provide protection to the
long-term creditor.
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Profitability
Profit Margin
Basic Earnings per Share
Gross Margin
Book Value per Common Share
Return on Total Assets
Return on Common Stockholders Equity
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• Use this information to calculate the
  profitability ratios for Norton Corporation.

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Profit Margin
This ratio describes a companys ability to earn
a net income from sales.
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Gross Margin
This ratio measures the amount remaining from 1
in sales that is left to cover operating expenses
and a profit after considering cost of sales.
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Return on Total Assets
This ratio is generally considered the best
overall measure of a companys profitability.
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Return on CommonStockholders Equity
This measure indicates how well the company
employed the owners investments to earn income.
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Book Value per Common Share
This ratio measures liquidation at reported
amounts.
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Basic Earnings per Share
This measure indicates how much income was earned
for each share of common stock outstanding.
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Market Prospects
Price-Earnings Ratio
Dividend Yield
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Market Prospects

• Use this information to calculate the market
  ratios for Norton Corporation.

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Price-Earnings Ratio
This measure is often used by investors as a
general guideline in gauging stock values.
Generally, the higher the price-earnings ratio,
the more opportunity a company has for growth.
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Dividend Yield
This ratio identifies the return, in terms of
cash dividends, on the current market price of
the stock.
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End of Chapter 17