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Financial Statement Analysis

Financial Statement Analysis. Chapter 3. GM Board Member . . . “Planning is a process that at best helps the firm avoid stumbling into the future backwards”. Financial Statement Analysis. Involves Comparing firm’s performance with others in same industry

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Financial Statement Analysis

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  1. Financial Statement Analysis Chapter 3 GM Board Member . . . “Planning is a process that at best helps the firm avoid stumbling into the future backwards”

  2. Financial Statement Analysis • Involves • Comparing firm’s performance with others in same industry • Evaluating trends in the firm’s financial position over-time • Tools • Standardized statements • Common size balance sheet • Divide by total assets • Common size income statement • Divide by sales • Ratios! • Managers want to estimate effect of actions

  3. Financial Statement Analysis • Accounting • Keeps “score” • Does not address stock price impact • INTERPRET not make • Remember: BENCHMARK

  4. Ratio Categories • Liquidity ratios • Long-term solvency ratios • Asset management (turnover) ratios • Profitability ratios • Market value ratios

  5. TAP: Liquidity Ratios

  6. TAP: LT Solvency Ratios What is meant by leverage?

  7. TAP: Asset Management Ratios

  8. TAP: Profitability Ratios

  9. TAP: Market Value Ratios

  10. TAP: DuPont Identity • ROE = NI / TE • Multiply by 1 and then rearrange: • ROE = (NI / TE) (TA / TA) • ROE = (NI / TA) (TA / TE) = ROA * EM • Multiply by 1 again and then rearrange: • ROE = (NI / TA) (TA / TE) (Sales / Sales) • ROE = (NI / Sales) (Sales / TA) (TA / TE) • ROE = PM * TAT * EM

  11. TAP: DuPont Identity • ROE = PM * TAT * EM • Profit margin • Operating efficiency • How well it controls costs • Total asset turnover • Asset use efficiency • How well it manages its assets. • Equity multiplier • Financial leverage

  12. Benchmark • Time trend • Peer group • Standard Industrial Classification (SIC) Codes or North American Industry Classification System (NAICS)

  13. Examples • THE WALT DISNEY COMPANY • Hoover's Industries • Media (primary) • Film & Video • Internet Content Providers • Music • Publishing • Television • Computer Software • Education & Training Software • Entertainment & Games Software • Consumer Products Manufacturers • Toys & Games • Leisure • Entertainment • Lodging • Primary SIC Code • 4833: Television broadcasting stations • Primary NAICS Code • 515120: Television Broadcasting • MOLSON COORS BREWING COMPANY • Hoover's Industries • Beverages • Alcoholic Beverages • Brewers (primary) • Primary SIC Code • 5181: Beer and ale • Primary NAICS Code • 312120: Breweries

  14. Potential Problems with Ratio Analysis • No underlying theory • No way to know which ratios are most relevant • Benchmarking is difficult • Especially for diversified firms • Globalization and international competition makes comparison more difficult • Differences in accounting regulations • Firms use varying accounting procedures • Firms have different fiscal years • Extraordinary, or one-time, events • Mixed signals • Relies on historical data • Note: Websites report different numbers (TTM, MRQ, different formulas, etc.)

  15. Market Efficiency and Financial Statement Analysis • What does Efficient Market Hypothesis imply regarding the validity of financial statement analysis? • Does ratio analysis provide any value? • Standardize numbers? • Facilitate comparison? • Highlight strengths and weaknesses? • Anticipate future? • Planning starting point?

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