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Working with Financial Statements

Working with Financial Statements. Why Use Financial Statements? External Users Internal Users Trend Analysis – Time Series Comparing Firms The only good number on a stand alone basis is a phone number (old saying) Different Objectives makes comparisons more difficult

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Working with Financial Statements

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  1. Working with Financial Statements • Why Use Financial Statements? • External Users • Internal Users • Trend Analysis – Time Series • Comparing Firms • The only good number on a stand alone basis is a phone number (old saying) • Different Objectives makes comparisons more difficult • Why compare firms…limited investment resources

  2. Working with Financial Statements • The Pitfalls of Financial Statements • it is not a cookbook – don’t read to much into a single ratio or comparison • financial statements are backward looking • financial decisions are forward looking • comparing firms… • different industries • different timing on recording information • different goals • different constraints

  3. Working with Financial Statements • Ratio Analysis • Estimating the Health of the Firm • Exxon, McDonalds, Intel, Wal-Mart • Which firm is the healthiest? • Using Ratios as proxies for health of firm • Most profitable • Fastest Growing • Most stable • Recession Proof • Long term Survival

  4. Working with Financial Statements • Examining the Firm

  5. Working with Financial Statements • Four Types of Ratios • Liquidity • The ability to meet obligations on a timely basis • Activity • Management of assets • Debt • The borrowing structure of the firm • Profitability • The most abused ratios – measure (potential) return

  6. Working with Financial Statements • Liquidity • Net Working Capital • Current Ratio • Quick Ratio • Chapter 2 – Problem 8 • Analyze Current and Quick Ratio • Trend Analysis • Evaluation

  7. Working with Financial Statements • Activity Ratios • Inventory Turnover • Average Collection Period • Average Payment Period • Asset Turnover • Chapter 2 – Problem 11

  8. Working with Financial Statements • Debt Ratios • Debt Ratio • Total Liabilities / Total Assets • Debt Percent ( 1 – Debt Percent = Equity Percent) • Times Interest Earned • Must make interest payments…failure means the firm is in technical bankruptcy • Note before taxes as government is paid after interest • Chapter 2 – Problem 12

  9. Working with Financial Statements • Profitability Ratios (Most Abused) • ROA – Return on Assets • ROE – Return on Equity • P/E Ratio (not in text but very common) • Operating Profit Margin • % profit per sale dollar before interest and taxes • Net Profit Margin • % profit per sale dollar • What is available to shareholders

  10. Working with Financial Statements • DuPont System • Target is ROE • Breaks down into components of ROE • ROE = Profit Margin x Total Asset Turnover x Equity Multiplier • Profit Margin is Net Income/Sales • Asset Turnover is Sales/Assets • Equity Multiplier is Assets/Total Equity • Chapter 2 – Problem 14

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