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Financial Statement Analysis: Purpose, Tools, and Limitations

Discover the significance of financial statement analysis, tools used, ratio analysis, and its limitations. Explore common-sized trends and indexed statements for a comprehensive understanding of financial data.

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Financial Statement Analysis: Purpose, Tools, and Limitations

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  1. CHAPTER 19 Financial Statement Analysis

  2. Purpose Tools Used Statement analysis Ratio analysis Limitations Overview

  3. Balance Sheet Common Sized Trend or Indexed Income Statement Common Sized Trend or Indexed Statement of Cash Flows Financial Statements

  4. Table 19.1 Consolidated Statement of Income for Hewlett-Packard, 2006

  5. Table 19.2 Consolidated Balance Sheet for Hewlett-Packard, 2006

  6. Table 19.3 Statement of Cash Flows for Hewlett-Packard, 2006

  7. Accounting Versus Economic Earnings Economic earnings Sustainable cash flow that can be paid to stockholders without impairing productive capacity of the firm Accounting earnings Affected by conventions regarding the valuation of assets

  8. Profitability Measures ROE: measures the profitability for contributors of equity capital ROA: measures the profitability for all contributors of capital Leverage has a significant effect on profitability measures

  9. Table 19.4 Nodett’s Profitability over the Business Cycle

  10. Table 19.5 Impact of Financial Leverage on ROE

  11. ROE, ROA and Leverage

  12. Decomposition of ROE EBIT Sales Sales Assets Assets Equity Net Profit Pretax Profit Pretax Profit EBIT ROE = x x x (1) x (2) x (3) x (4) x (5) Tax Burden Interest Burden x x Margin x Turnover x Leverage x

  13. Table 19.6 Ratio Decomposition Analysis for Nodett and Somdett

  14. Table 19.7 Differences between Profit Margin and Asset Turnover across Industries

  15. Table 19.8 Growth Industries Financial Statements, 2004 – 2007 ($ thousands)

  16. Table 19.9 Summary of Key Financial Ratios:Leverage, Asset Utilization, Liquidity, Profitability and Market Price

  17. Figure 19.1 DuPont Decomposition for Hewlett-Packard

  18. Table 19.10 Financial Ratios for Major Industry Groups

  19. Economic Value Added Difference between return on assets (ROA) and the opportunity cost of capital (k) EVA is also called residual income EVA can be positive or negative for firms that have positive earnings

  20. Table 19.11 Economic Value Added, 2007

  21. Table 19.12 Key Financial Ratios of Growth Industries, Inc

  22. Table 19.13 Growth Industries Statement of Cash Flows ($ thousands)

  23. Accounting Differences Inventory Valuation Depreciation Inflation and Interest Expense Fair Value Accounting Quality of Earnings International Accounting Conventions Comparability Problems

  24. International Accounting Differences Reserves – many other countries allow more flexibility in use of reserves Depreciation – US allows separate tax and reporting presentations Intangibles – treatment varies widely

  25. Figure 19.2 Adjusted Versus Reported Price-Earnings Ratios

  26. The Graham Technique Careful analysis of a firm’s financial statements could turn up bargain stocks Purchase common stocks at less then their working-capital value Give no weight to plant or other fixed assets Deduct all liabilities in full from assets

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