Financial Statement Analysis - IAAPA

IAAPA Seminar It’s All In the Numbers Atlanta 2006
Neva Richardson – Larson
Jan-Ketil Nyborg

It is All in the Numbers
14
25
88
67
79
56
2
99
49
12
36
101
43
8
44
124
5
87 6
220

Financial Statement Analysis
Neva Richardson-Larson
Jan-Ketil Nyborg
McGraw-Hill/Irwin
©The McGraw-Hill Companies, Inc. 2006

Factors in Communicating
Useful Information
The primary objective of accounting is to provide
information useful for decision making. To provide
information that supports this objective, accountants must
consider the following:
Users
Types of
Decisions
Means of
Analysis

Methods of Analysis
Horizontal
Analysis
Vertical
Analysis
Ratio
Analysis

Milavec Company Financial
Statements

Milavec Company Financial
Statements

Horizontal Analysis
Horizontal analysis (or trend analysis)
refers to studying the behavior of
individual financial statement items
over several accounting periods.
Absolute
Amounts
Percentage
Analysis

Milavec Company Horizontal
Analysis
Insert Exhibit 13-3
Here

Vertical Analysis
Vertical analysis uses
percentages to compare
individual components of
financial statements to a
key statement figure. A
common-size
financial
statement is a vertical
analysis in which each
financial statement item is
expressed as a
percentage.

Vertical Analysis of Income
Statement
In income
statements, all
items are
usually
expressed as a
percentage of
sales.

Milavec Company Vertical
Analysis
Insert Exhibit 13-4
Here

Vertical Analysis of Balance
Sheet
In balance
sheets, all items
are usually
expressed as a
percentage of
total assets.

Milavec Company Vertical
Analysis

Ratio Analysis
Ratio analysis
involves studying
various
relationships
between different
items reported in
a set of financial
statements.

Liquidity Ratios
Liquidity ratios indicate a
company’s ability to pay shortterm
debts. They focus on
current assets and current
liabilities.
1. Working Capital
2. Current Ratio
3. Quick Ratio
4. Accounts Receivable Ratios
5. Inventory Ratios

Working Capital
The excess of current assets
over current liabilities is
known as working capital.

Current Ratio
Current
Ratio
=
Current Assets
Current Liabilities
The current ratio measures a
company’s short-term debt
paying ability.
A declining ratio may be a
sign of deteriorating financial
condition, or it might result
from eliminating obsolete
inventories.

Current Ratio

Quick (Acid-Test) Ratio
Acid-Test
Ratio
=
Quick Assets
Current Liabilities
Quick assets include Cash,
Current Marketable Securities, and
Accounts Receivable.
This ratio measures a company’s
ability to meet obligations without
having to liquidate inventory.

Quick (Acid-Test) Ratio

Accounts Receivable Turnover
Accounts
Receivable
Turnover
=
Net Credit Sales
Average Accounts Receivable
This ratio measures how many
times a company converts its
receivables into cash each year.

Accounts Receivable Turnover
INSERT Insert
17, p. 542,
Text Box here

Average Days to Collect
Receivables
Average
Collection
Period
=
365 Days
Accounts Receivable Turnover
Average
Collection
Period
=
365 Days
16.98 Times
= 21 days
This ratio measures, on average,
how many days it takes to collect
an accounts receivable.

Inventory Turnover
Inventory
Turnover
=
Cost of Goods Sold
Average Inventory
This ratio measures how many
times a company’s inventory has
been sold and replaced during
the year.

Inventory Turnover
INSERT Insert
20, p. 543,
Text Box here

Average Days to Sell
Inventory
Average
Sale Period = 365 Days
Inventory Turnover
Average
Sale Period =
365 Days
10.80 Times
= 34 days
This ratio measures how many
days, on average, it takes to sell
the inventory.

Solvency Ratios
Solvency ratios are used to
analyze a company’s long-term
debt-paying ability and its
financing structure.
1. Debt to Assets Ratio
2. Debt to Equity Ratio
3. Number of Times Interest Earned
4. Plant Assets to Long-Term Liabilities

Debt to Assets Ratio
Debt to
Assets
Ratio
=
Total Liabilities
Total Assets
This ratio measures the percentage
of a company’s assets that are
financed by debt.

Debt to Equity Ratio
Debt to
Equity
Ratio
=
Total Liabilities
Stockholders’ Equity
This ratio indicates the relative
proportions of debt to equity on
a company’s balance sheet.
Stockholders like a lot of
debt if the company can
take advantage of
positive financial
leverage.
Creditors prefer less
debt and more equity
because equity
represents a buffer of
protection.

Debt to Assets and Debt to
Equity Ratios

Number of Times Interest
Earned Ratio
Times
Interest
Earned
=
Earnings before Interest Expense
and Income Taxes
Interest Expense
This is the most common
measure of a company’s ability
to provide protection for its
long-term creditors.

Number of Times Interest
Earned Ratio

Plant Assets to Long-Term
Liabilities
Plant Assets
to Long-Term
Liabilities
=
Net Plant Assets
Long-Term Liabilities
This ratio suggests how well
long-term debt is managed to
finance long-term assets.

Plant Assets to Long-Term
Liabilities

Profitability Ratios
Profitability ratios measure a
company’s ability to generate
earnings.
1. Net Margin (or Return on Sales)
2. Asset Turnover Ratio
3. Return on Investment
4. Return on Equity

Net Margin
Net
Margin
=
Net Income
Net Sales
This measure describes the percent
remaining of each sales dollar after
subtracting other expenses as well as
cost of goods sold.

Net Margin

Asset Turnover Ratio
Asset
Turnover
=
Net Sales
Average Total Assets
This ratio measures how many
sales dollars were generated
for each dollar of assets
invested.

Asset Turnover Ratio

Return on Investment (ROI)
Return on
Investment
=
Net Income
Average Total Assets
This is the ratio of wealth generated
(net income) to the amount invested
(average total assets).

Return on Investment (ROI)

Return on Equity
Return on
Equity
=
Net Income
Average Total Stockholders’
Equity
This measure is often used to measure
the profitability of the stockholders’
investment.

Return on Equity

Stock Market Ratios
Stock market ratios analyze the
earnings and dividends of a
company.
1. Earnings Per Share
2. Book Value
3. Price-Earnings (PE) Ratio
4. Dividend Yield

Earnings Per Share
Earnings
per
Share
=
Net Earnings Available for Common Stock
Average Number of Outstanding Common
Shares
This measure indicates how much
income was earned for each share of
common stock outstanding.

Earnings Per Share

Book Value Per Share
Book Value
per Share
=
Stockholders’ Equity - Preferred Dividends
Outstanding Common Shares
This ratio measures the amount that would be
distributed to holders of each share of common
stock if all assets were sold at their balance sheet
carrying amounts and if all creditors were paid off.

Book Value Per Share

Price-Earnings Ratio
Price-Earnings
Ratio
=
Market Price Per Share
Earnings Per Share
This ratio compares the earnings of a
company to the market price for a share
of the company’s stock.

Dividend Yield
Dividend
Yield
=
Dividends Per Share
Market Price Per Share
This ratio identifies the return, in terms
of cash dividends, on the current
market price of the stock.

Presentation of Analytical
Relationships

Presentation of Analytical
Relationships
Insert Exhibit
13-8 Here

Presentation of Analytical
Relationships
Insert Exhibit
13-9 Here

Limitations of Financial
Statement Analysis
Different Industries
Changing
Economic
Environment
Accounting
Principles

Jan Ketil Nyborg

BALANCE SHEET TUSENFRYD AS
All amounts in NOK 1000
ASSETS
Fixed assets
Fixed assets/work in progress
Shares/pension funds
Total fixed assets
Current assets
Inventories
Accounts receivable
Cash, bank
Total current assets
TOTAL ASSETS
EQUITY AND LIABILITIES
Equity
Share capital
Profit/loss for the year
Other equity
Total equity
Long term liabilities
Current liabilities
Accounts payable
Dividend
Taxes payable
Bank overdraft
Other current liabilities
Total current liabilities

Fixed Assets
Sales
divided by
Total Assets
Total Assets
Turnover
Current Assets
multiplied by
Return on
assets
P & L
Profit before
tax
adding back
interest costs
divided by
Profit margin
Sales

Fixed Assets
Acc.
Receivable
Sales
divided by
Equity
Equity
turnover
Inventories
multiplied by
Return on
equity
Profit before tax
P & L
divided by
Profit margin
Sales

Profit before
interest costs
Interest costs
minus =
Profit before
tax
100
Total Assets
1000
50
50
Long term
liabilities
600
Equity
400
Return on assets 10%
Return on equity 12,5%

Performance Ratios
Ratio Category
Current Ratio
Retail Inventory
Food & Beverage Inventory Ratio
Operating Profit Margin
Net Profit Margin
Return on Assets
Return on Equity
Debt to Equity
Capex Ratio
Total
3.3/1.2
3.7/2.2
10.9/10.6
9.9/4.4
3.4/1.1
2.7/0.6
4.5/4.1
0.5/0.3
0.6/0.5
Information is in the IAAPA 2004 Edition
“Managing Attractions for More Profit”

Information Sources
• Speakers:
Neva Richardson – Larson, Sims Group &
Department Chair & Professor of Business for
FMU an affiliate of Corinthians College.
Jan-Ketil Nyborg, TusenFryd Norway
• Book: Fundamentals of Managerial Accounting;
Boston: McGraw-Hill