financial statment review
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Financial Statement AnalysisFinancial Statement Analysis
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Financial Statement Analysis:Financial Statement Analysis:
Lecture OutlineLecture Outline Review of Financial Statements
Ratios
Types of RatiosExamples
The DuPont Method
Ratios and Growth
SummaryStrengths
Weaknesses
Ratios and Forecasting
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Stock PriceStock Price
Risk ofRisk ofCashflowsCashflows
Timing ofTiming ofCashflowsCashflows
ExpectedExpectedCashflowsCashflows
Stock PriceStock Price
MarketMarketConditionsConditions
NPVNPV
MVAMVA
EVAEVA
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Financial AnalysisFinancial Analysis Assessment of the firms past, present
and future financial conditions
Done to find firms financial strengthsand weaknesses
PrimaryTools:
Financial StatementsComparison of financial ratios to past,
industry, sector and all firms
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Financial StatementsFinancial Statements Balance Sheet
Income Statement Cashflow Statement
Statement of Retained Earnings
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Sources of DataSources of Data Annual reports
Via mail, SEC or company websites
Published collections of data
e.g., Dun and Bradstreet or Robert Morris
Investment sites on the web
Examples
http://moneycentral.msn.com/investor
http://www.marketguide.com
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The Main Idea
The Main Idea
Value for the firm comes from cashflows
Cashflows can be calculated as:
y (Revt - Costt - Dept)x(1-X) + DeptOR
y (Revt - Costt)x(1-X) + XxDeptOR
y Revtx(1-X) - Costtx(1-X) + XxDept
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Review: Major Balance SheetReview: Major Balance Sheet
ItemsItemsAssets
Current assets:
Cash & securities
Receivables
Inventories
Fixed assets:
Tangible assets
Intangible assets
Liabilities and Equity
Current liabilities:
Payables
Short-term debt
Long-termliabilities
Shareholders'equity
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Example to e
xplain
Example to e
xplain
Assets:
Current Assets: $7,681.00
Non-Current Assets: $3,790.00
Total Assets: $11,471.00
Liabilities:
Current Liabilities: $5,192.00
LT Debt & Other LT Liab.: $971.00
Equity: $5,308.00
Total Liab. and Equity: $11,471.00
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Review: Major IncomeReview: Major Income
Statement ItemsStatement Items Gross Profit = Sales - Costs of Goods Sold
EBITDA
= Gross Profit - Cash Operating Expenses EBIT = EBDIT - Depreciation - Amortization
EBT = EBIT - Interest
NI or EAT = EBT- Taxes
Net Income is a primary determinant of thefirms cashflows and, thus, the value of thefirms shares
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Income StatementIncome StatementSales $25,265.00
Costs of Goods Sold -$19,891.00
Gross Profit $5,374.00
Cash operating expense -$2,761.00
EBITDA 2,613.00
Depreciation & Amortization -$156.00
Other Income (Net) -$6.00
EBIT $2,451.00Interest -$0.00
EBT $2,451.00
Income Taxes -$785.00
Special Income/Charges -$194.00
Net Income (EAT) $1,666.00
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Objectives ofRatio AnalysisObjectives ofRatio Analysis Standardize financial information for
comparisons
Evaluate current operations
Compare performance withpastperformance
Compare performance against otherfirms or industry standards
Study the efficiency of operations
Study the risk of operations
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Rationale Behind RatioRationale Behind Ratio
AnalysisAnalysis A firm has resources
It converts resources into profits through
production of goods and services sales of goods and services
Ratios Measure relationships between resources and
financial flows
Show ways in which firms situation deviates from Its own past
Other firms
The industry
All firms-
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Types ofRatiosTypes ofRatios Financial Ratios:
Liquidity Ratios
Assess ability to cover current obligations
Leverage Ratios
Assess ability to cover long term debt obligations
Operational Ratios:
Activity(Turnover) Ratios
Assess amount of activity relative to amount of
resources used
Profitability Ratios
Assess profits relative to amount of resources used
Valuation Ratios: Assess market price relative to assets or earnings
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Current Ratio:
Quick(Acid Test) Ratio:
11
1
sia i itieCurrent
setsCurrent As
:RatioCurrent!!!
1.40000,107,1$
00.391$00.681,7$
sLiabilitieCurrent
sInventorie-setsCurrent As
:RatioTestAcid !
!!
LiquidityR
atioEx
amples: DellLiquidityR
atioEx
amples: Dell
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Ratio Comparison: Current
Ratio
Ratio Comparison: Current
Ratio
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Debt Ratio:
%A etTota
iabi itieTota
:RatioDebt !!!
Leverage Ratio Examples:Leverage Ratio Examples:
DellDell
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Ratio Comparison: Debt
Ratio
Ratio Comparison: Debt
Ratio
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
DebtRa
tio
Dell 54.70% 73.07% 69.70% 66.25% 53.73%
Industry 62.96% 60.00% 52.38% 62.96%
Jan-96 Jan-97 Jan-98 Jan-99 Jan-00
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6.59%25,265.00$2,451.00$
SalesEBIT:MarginProfitNet !!!
%001660$
0$660$Div-:)(RatioR t tio !
!!V
Profitability Ratio Examples:Profitability Ratio Examples:
DellDell Net Profit Margin:
Retention Ratio
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Return on Assets (ROA):
Return on Equity(ROE):
%52.4111,471.00$1,666.00$
AssetsTotalIncomeNet:ROA !!!
31.39%5,308.00$
1,666.00$
EquityCommonTotal
IncomeNet:ROE !!!
Profitability Ratio Examples:Profitability Ratio Examples:
DellDell
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0%
10%
20%
30%
40%
50%
60%
70%
80%
ROE
Dell 28.13% 64.27% 73.01% 62.90% 31.39%
Industry 22.30% 30.60% 25.50% 18.00%
Jan-96 Jan-97 Jan-98 Jan-99 Jan-00
Ratio Comparison:
ROER
atio Comparison:R
OE
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0%
5%
10%
15%
20%
25%
ROA
Dell 12.66% 17.31% 22.12% 21.23% 14.52%
Industry 6.80% 10.90% 7.20% 5.70%
Jan-96 Jan-97 Jan-98 Jan-99 Jan-00
Ratio Comparison:
ROA
Ratio Comparison:
ROA
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0%
1%
2%
3%
4%
5%
6%
7%
8%
9%
ProfitMargin
Dell 5.14% 6.68% 7.66% 8.00% 6.59%
Industry 3.40% 4.74% 3.79% 2.85%
Jan-96 Jan-97 Jan-98 Jan-99 Jan-00
Ratio Comparison: Profit Margin
Ratio Comparison: Profit Margin
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Total Asset Turnover Ratio:
InventoryTurnover Ratio:
202,47 .00$
25,265.00$AssetsTotal
Sales:TurnoverAssetTotal.
!!
64.62391.00$
25,265.00$
Inventory
Sales:TurnoverInventory !!
Activity (Turnover) RatioActivity (Turnover) Ratio
Examples: DellExamples: Dell
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0%
50%
100%
150%
200%
250%
300%
350%
AssetTur
nover
Dell 2.47 2.59 2.89 2.65 2.20
Industry 2.00 2.30 1.90 2.00
Jan-96 Jan-97 Jan-98 Jan-99 Jan-00
Ratio Comparison: Asset
Turnover
Ratio Comparison: Asset
Turnover
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The DuPont System
The DuPont System
Method to breakdown ROE into:
ROA and Equity Multiplier
ROA is further broken down as:
Profit Margin and Asset Turnover
Helps to identify sources of strength and
weakness in current performance Helps to focus attention on value drivers
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The DuPont System
The DuPont System
Profit Margin Total Asset Turnover
ROA Equity Multiplier
ROE
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The DuPont System
The DuPont System
Pr fit r i t l t r r
it lti li r
EquityCommon
AssetsTotal
AssetsTotal
IncomeNetMultiplierEquityROAROE
v
v
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The DuPont System
The DuPont System
Pr fit r i t l t r r
it lti li r
AssetsTotal
Sales
Sales
IncomeNetTurnoverAssetTotalMarginProfitROA
v
v
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The DuPont System
The DuPont System
Pr fit r i t l t r r
it lti li r
EquityC
tt l
tt l
l
l
tultipliEquityurnoverAssetot lrginProfitE
vv
vv
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The DuPont System: Dell
The DuPont System: Dell
MultiplierEquityROA
MultiplierEquityTurnoverAssetTotalMarginProfit
EquityCommon
AssetsTotal
AssetsTotal
Sales
Sales
IncomeNetROE
v
vv
vv
31.39%
2.16111452.0
2.16112.20250.0659 $5,308.00
$11,471.00
$11,471.00
$25,265.00
$25,265.00
$1,666.00ROE
v
vv
vv
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A Note on Sustainable GrowthA Note on Sustainable Growth
and Stock Returnsand Stock Returns In the long run
Sustainable growth and long run capital
gains (g) = ROE x V
Recall the relationship between stockreturns (r), capital gains (g) andforward dividend yields (D
1/P
0):
r = g + D1/P0 = g + Do(1+g)/P0
Note: r & g must be quarterly if D isquarterly and annual if D is annual
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Example: PredictedExample: Predicted
Sustainable Growth for DellSustainable Growth for Dell Based on the most
recent numbers:
ROE = 31.39 &V = 100
g = 0.3139 x 1 =
31.39
r = 0.3139 + 0/P =
31.39
Based on 5 yearaverages:
ROE = 51.94 &V = 100
g = 0.5194 x 1 =
51.94
r = 0.3139 + 0/P =
51.94
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Summary of FinancialR
atiosSummary of FinancialR
atios Ratios help to:
Evaluate performance
Structure analysisShow the connection between activities andperformance
Benchmark with
Past for the companyIndustry
Ratios adjust for size differences
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Limitations ofR
atio AnalysisLimitations ofR
atio Analysis A firms industry category is often
difficult to identify
Published industry averages are onlyguidelines
Accounting practices differ across firms
Sometimes difficult to interpret
deviations in ratios Industry ratios may not be desirable
targets
Seasonality affects ratios
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How Might Ratios Help Me onHow Might Ratios Help Me on
the IEM?the IEM? Analysis ofAAPL, IBM and MSFT, and
comparisons to the S&P500 companies canhelp to:
Assess the (absolute and relative) financial state ofeach company
Show each companys strengths and weaknesses
Predict sustainable growth rate
Combined with current information, this canhelp to:Assess likely future performance
Predict future valuation and earnings growth
Predict returns