chapter 14 financial analysis and long- term financial planning © 2000 john wiley & sons, inc
TRANSCRIPT
![Page 1: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/1.jpg)
Chapter 14
Financial Analysis and Long-Term Financial Planning
© 2000 John Wiley & Sons, Inc.
![Page 2: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/2.jpg)
2
Chapter Outcomes
Describe what is meant by financial
statement analysis.
Describe the five basic types of financial
ratios.
Indicate what is meant by Du Pont analysis
and indicate its major components.
Explain the importance of the quality of
financial statements.
![Page 3: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/3.jpg)
3
Chapter Outcomes, continued
Describe the link between asset
investment requirements and sales
growth.
Describe how internally generated
financing occurs.
Describe how additional external financing
requirements are determined.
Describe cost-volume-profit analysis.
![Page 4: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/4.jpg)
4
Financial Statement Analysis
Why? Reflects effect of economic and
competitive environment Internal uses by management External uses
![Page 5: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/5.jpg)
5
Ratio Analysis of Balance Sheet and Income Statement
Absolute numbers versus ratios Types of ratio analysis
– trend or time series– cross-sectional – industry average
Difficulties– multiproduct firms and other differences– GAAP
![Page 6: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/6.jpg)
6
Types of Financial Ratios
Liquidity Asset Management Financial Leverage Profitability Market Value
![Page 7: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/7.jpg)
7
Liquidity Ratios
Current ratio = Current Assets
Current Liabilities Quick or acid-test ratio =
(Cash + Accts. Receivable)
Current Liabilities Average payment period =
Accts Payable / (COGS/365)
![Page 8: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/8.jpg)
8
Asset Management
Total Asset Turnover = Net Sales / Total Assets
Fixed Asset Turnover = Net Sales/Fixed Assets
![Page 9: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/9.jpg)
9
More Asset Management
Average collection period
= Accts Receivable / (Net Sales/365)
Inventory Turnover = Cost of goods sold
Inventory
![Page 10: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/10.jpg)
10
Financial Leverage
Total Debt to Total Assets
= Total Liabilities / Total Assets Total Debt to Equity
= Total Liabilities/Stockholder’s Equity
Equity Multiplier = Total Assets / SE
![Page 11: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/11.jpg)
11
Financial Leverage, continued
Interest Coverage =
EBIT / Interest expense Fixed Charge Coverage =
Earnings before Fixed Charges
Fixed Charges Fixed Charges: interest, rent, lease,
sinking fund payments, etc.
![Page 12: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/12.jpg)
12
Profitability Operating Profit Margin
= EBIT / Net Sales Net Profit Margin
= Net Income / Net Sales Return on Assets (ROA)
= Net Income / Total Assets Return on Equity (ROE)
= Net Income / Stockholder’s Equity
![Page 13: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/13.jpg)
13
Market Value
Price / earnings (P/E) ratio
Price / book ratio
![Page 14: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/14.jpg)
14
A Note on Quality Financial Statements
Quality Income Statement
Quality Balance Sheet
![Page 15: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/15.jpg)
15
Ratios and Puzzles
Examine ratios to determine a firm’s strengths, weaknesses
Dig deeper to discover cause of disappointing or deteriorating ratios
![Page 16: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/16.jpg)
16
DuPont Method ROA = profit margin x TA turnover
= NI/Sales x Sales/TA Indicates there are two ways to earn
a given level of ROA:
Low PM x High TATO
(grocery store)
High PM x Low TATO
(jewelry store)
![Page 17: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/17.jpg)
17
More DuPont analysis... ROE = ROA x equity multiplier
= (NI / TA) x (TA / equity)
Breaking down ROA into its parts:
Net income x Sales x Assets
Sales Assets Equity
![Page 18: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/18.jpg)
18
Analyzing ROE
ROE can change over time or differ across firms because of differing– profit margins– total asset turnover– financial leverage– some combination of these three
reasons
![Page 19: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/19.jpg)
19
Long-Term Financial Planning
Failing to plan is planning to fail Future growth/asset needs Future financing arrangements
![Page 20: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/20.jpg)
20
Percent of Sales TechniqueASSETS DOLLAR PERCENT
AMOUNT OF SALES ($700,000)
Cash and m/s $ 25,000 3.6%
Accounts receivable 100,000 14.3
Inventories 125,000 17.8
Total current assets 250,000 35.7
Net plant and equipment 200,000 28.6
Land 50,000 7.1
Total fixed assets 250,000 35.7
Total assets $500,000 71.4
![Page 21: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/21.jpg)
21
Percent of SalesLIABILITES AND DOLLAR PERCENT
EQUITY AMOUNT OF SALES ($700,000)
Accounts payable $ 78,000 11.1%
Notes payable 34,000 4.9
Accrued liabilities 30,000 4.3
Total current liabilities 142,000 20.3
Long-term debt 140,000 20.0
Total liabilities 282,000 40.3
Total stockholders’ equity 218,000 31.1
Total liabilities and equity $500,000 71.4
![Page 22: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/22.jpg)
22
Using this information to forecast financing needs
Sales forecast:
Forecast asset needs
TA = Sales x (TA percent of sales)
Financing needs
TA = (TL + SE)
![Page 23: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/23.jpg)
23
Getting the funds...
Needed financing can be raised from internal sources external sources
![Page 24: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/24.jpg)
24
Internally generated funds
Forecasted net income = sales forecast x profit margin
Addition to retained earnings = net income forecast - dividends
![Page 25: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/25.jpg)
25
Externally generated financing
Spontaneous financing– Accounts payable– Accruals
External financing needs =
TA - RE - spontaneous financing
![Page 26: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/26.jpg)
26
Cost-Volume-Profit Analysis
EBIT =
Sales
less: variable costs
less: fixed costs
= (Price x Qty) - (VC x Qty) - FC
![Page 27: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/27.jpg)
27
Operating Profit Estimates
Given a Unit Sales or Quantity estimate, we can estimate operating profit,
EBIT=(Price x Qty) - (VC x Qty) - FC A special case: Breakeven EBIT=0= (Price x Qty) - (VC x Qty) - FC QtyBE = Fixed Costs
(Price - VC)
![Page 28: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/28.jpg)
28
Fixed Costs and Operating Leverage
Fixed operating costs result in a larger percentage change in EBIT for a given percentage change in sales
Net sales $700,000
Less: variable costs (60% of sales) 420,000
Less: fixed costs 200,000
Earnings before interest
and taxes $ 80,000
![Page 29: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/29.jpg)
29
–10% +10%
Net sales $630,000 $770,000
Less: variable costs (60% of sales)
378,000 462,000
Less: fixed costs 200,000 200,000
EBIT $ 52,000 $108,000
Percent change
in EBIT: –35% +35%
![Page 30: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/30.jpg)
30
What happened? A 10% change in sales is magnified
or levered into a 35% change in EBIT Degree of operating leverage (DOL) =
% change in EBIT/ % change in sales
= 35% / 10% = 3.5
Another way: DOL =
sales - variable costs
sales - variable costs- fixed costs
![Page 31: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/31.jpg)
31
As fixed costs rise, the leverage effect rises: use FC = $250,000
PERCENT CHANGE IN SALES
–10% base case +10%
Net sales $630,000 $700,000 $770,000
Less: variable costs
(60% of sales)378,000 420,000 462,000
Less: FC 250,000 250,000 250,000
EBIT $ 2,000 $ 30,000 $ 58,000
EBIT % change
from base case –93.3% 93.3%
![Page 32: Chapter 14 Financial Analysis and Long- Term Financial Planning © 2000 John Wiley & Sons, Inc](https://reader030.vdocuments.mx/reader030/viewer/2022020920/56649daf5503460f94a9cc01/html5/thumbnails/32.jpg)
32
Degree of operating leverage (DOL) =
% change in EBIT / % change in sales
= 93.3% / 10% = 9.33