Analyzing Financial DataRatio Analysis

Lesson Components

•Four Key Financial Statements•Ratio Overview•Ratio Categories

▫Liquidity▫Activity▫Debt▫Profitability▫Market

•Practice

Four Key Financial StatementsEach corporation is required to file with the Securities and Exchange Commission (SEC) four key financial statements: •Income statement:

▫ provides a financial summary of the company’s operating results over a specified period of time.

•Balance sheet: ▫ provides a summary statement of the company’s

financial position at a given point in time.•Statement of Stockholders’ Equity:

▫ shows all the equity account transactions in a given year.

•Statement of Cash Flows: ▫ summary of cash flows of a given period of time.

Learning Statements• These financial statements are also used in order

to do ratio analysis to examine the performance of a firm.

Income StatementSample Accounts

SalesCOGS

Operating ExpensesSelling ExpensesInterest Expense

Earnings before Interest & Taxes (EBIT)Net Income

Balance SheetSample Accounts

Cash Accounts PayableAccounts Receivable Notes PayableInventories AccrualsTotal Current Assets Total Current LiabilityLand and Buildings Preferred StockMachinery & Equipment Common StockVehicles Retained Earnings

Ratio Overview

•Many internal and external stakeh0lders use ratios

•A ratio is not enough information on its own.

•Several limitations exist to ratio analysis▫Seasonality▫Inflation▫Summarization▫Asset valuation

Five Categories of Ratios

•Liquidity•Activity•Debt•Profitability•Market

Liquidity RatiosLiquidity is the

company’s ability to pay its short-

term bills

Current ratio Current assets/Current liabilities$72,000/$69,000 = ???

  Quick ratio Current assets-inventory/Current liabilities

$72,000-45,500/$69,000 =???

Activity Ratios Activity is a measure of how quickly the firm’s

current assets are converted into cash.

Inventory TurnoverCOGS /Avg Inventory $106,000/ $45,500=???

Average Collection Period Accts rec/(Annual sales/365) $25,000/(160,000/365)=???

Total Asset Turnover Sales/ Total Assets $160,000

$150,000=???

Debt Ratios

Debt Ratio Total liabilities/ Total assets $91,950/ $150,000

=???

 Times Interest Earned Ratio EBIT/ Interest expense $17,000/ 6,100 =???

Used to determine whether the firm is able

to meet long-term financial obligations.

Profitability RatiosGross Profit Margin

(Sales-COGS)/ Sales ($160,000-106,000)/$160,000 =??

Operating Profit MarginEBIT or Operating Income/Sales $17,000/160,000=??

Net Profit MarginNet Income/Sales $6,540/160,000=??

Earnings per ShareNet Income/Shares Outstanding $6,540/3,000=??

Return on Total AssetsNet Income/ Total Asset $6,540/150,000=??

Return on EquityNet Income/Shareholder Equity $6,540/31,500=??

Measure how well management is utilizing

company resources to earn a return on the funds invested

by various groups

Market Ratios

Price Earnings Ratio Market price per share common stock/ EPS $25/$2.18 = ???

Market/Book Ratio Market price per share common stock/(Shareholder

Equity/shares outstanding) $25/($31,500/3000) =???

This set measures how well the firm is doing in terms of the stock price and risk and

return

Check Your Understanding

Which of the following measure a company’s liquidity without considering inventory? a. Current ratiob. Rapid test ratioc. Quick ratiod. Inventory ratio