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Working with Financial Statements: Standardized Statements, Ratio Analysis, and Du Pont Identity

Learn how to analyze financial statements using standardized statements, ratio analysis, and the Du Pont Identity. Discover the importance of evaluating financial statements for internal and external uses, benchmarking, and time-trend and peer group analysis.

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Working with Financial Statements: Standardized Statements, Ratio Analysis, and Du Pont Identity

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  1. Ch. 3: Working with Financial Statements • accounting numbers are often just pale reflections of economic reality, but they frequently are the best available information. (p. 50) • Contents • Standardized Financial Statements • Ratio Analysis • The Du Pont Identity • Internal and Sustainable Growth • Using Financial Statement Information

  2. Standardized Financial Statements • Common-Size Balance Sheets (p. 51) • Common-Size Income Statements (p. 52)

  3. Ratio Analysis Short-Term Solvency (Liquidity) • Current Ratio • Quick (Acid-Test) Ratio • Cash Ratio

  4. Long-Term Solvency (Leverage) • Total Debt Ratio • Times Interest Earned • Cash Coverage

  5. Asset Management (Turnover) • Inventory Turnover • Days’ Sales in Inventory • Receivables Turnover • Days’ Sales in Receivables • Payables Turnover • Days to Pay • Total Asset Turnover

  6. Profitability • Profit Margin • Return on Assets • Return on Equity

  7. Market Value • Price-Earnings Ratio • Market-to-Book Ratio

  8. The Du Pont Identity • ROE = PM * TAT * EM • Profit Margin (PM) is a measure of the firm’s operating efficiency; how well does it control costs? • Total Asset Turnover (TAT) is a measure of the firm’s asset use efficiency; how well does it manage its assets? • Equity Multiplier (EM) is a measure of the firm’s financial leverage.

  9. Internal & Sustainable Growth • Dividend Payout Ratio • Retention (Plowback) Ratio • Internal Growth Rate • Sustainable Growth Rate

  10. Using Financial Statement Information • Why Evaluate Financial Statements? • internal uses • external uses • Benchmarking • time-trend analysis • peer group analysis • Problems with Financial Statement Analysis

  11. Recommended Practice • Self-Test Problems 3.1 - 3.4, pp. 73-5 • Questions 1-4, 7, pp. 75-6 • Problems on pp. 77-82: 3, 5, 7, 9, 11, 13, 19, 21, 29, 37, 39 (answers are on p. 547)

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