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Ch.13

Financial Ratio Analysis

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Financial Statements

Balance SheetBalance Sheet

 ± ± Common SizedCommon Sized

 ± ± Trend or IndexedTrend or Indexed

Income StatementIncome Statement

 ± ± Common SizedCommon Sized

 ± ± Trend or IndexedTrend or Indexed

Statement of Cash FlowsStatement of Cash Flows

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Ratio Analysis

Purpose of Ratio AnalysisPurpose of Ratio Analysis

UsesUses

 ± ± Trend analysisTrend analysis

 ± ± Comparative analysisComparative analysis

 ± ± CombinationCombination

Use by External AnalystsUse by External Analysts

 ± ± Important information for investmentImportant information for investmentcommunitycommunity

 ± ± Important for credit marketsImportant for credit markets

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Financial Statement Analysis Tools

Financial RatiosFinancial Ratios

 ± ± Rearrange of information from financialRearrange of information from financial

statement, i.e., IS and BS, into five areas of statement, i.e., IS and BS, into five areas of 

financial performance for various purposes.financial performance for various purposes.

 ± ± Give a better view of the firm¶s financial healthGive a better view of the firm¶s financial health

than the raw financial statement.than the raw financial statement.

 ± ± Useful for both internal and external analysts.Useful for both internal and external analysts.

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Fi ci l ti s

Liquidity RatiosLiquidity Ratios (Short term solvency)(Short term solvency)

 ± ± Ability of a firms to meets its current (short term) Ability of a firms to meets its current (short term)

obligationsobligations

 ± ± Liquidity: the speed with which an asset can beLiquidity: the speed with which an asset can beconverted into cash without large discounts toconverted into cash without large discounts to

its value.its value.

 ± ± Current Ratio =Current Ratio = Current Asset___ Current Asset___ 

Current LiabilitiesCurrent Liabilities ± ± Quick Ratio =Quick Ratio = (Current Asset(Current Asset ± ± Inventories)Inventories)

Current LiabilitiesCurrent Liabilities

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Financial Ratios

Eff iciency RatiosEff iciency Ratios ( Activity)( Activity) ± ± Ability of a firm¶s controlling or using its Ability of a firm¶s controlling or using its

investment in assets to produce sales.investment in assets to produce sales.

 ± ± Inventory Turnover Ratio=Inventory Turnover Ratio= Cost of Goods SoldCost of Goods Sold

InventoryInventory ± ± Account Receivable Turnover Ratio Account Receivable Turnover Ratio

= ____ = ____Credit Sales_____ Credit Sales_____ 

 Account Receivables Account Receivables

 ± ± Average Collection Period Average Collection Period

== Account Receivables Account Receivables

 Ann. Credit Sales/ Ann. Credit Sales/360360

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Financial Ratios

Leverage RatiosLeverage Ratios (Financial Leverage)(Financial Leverage) ± ± The extent to which a firm relies on debt financing for The extent to which a firm relies on debt financing for 

the firm¶s asset purchases.the firm¶s asset purchases.

 ± ± Total debt ratioTotal debt ratio

== Total debt_ Total debt_ == Total AssetsTotal Assets ± ± Total EquityTotal Equity

Total Asset Total AssetsTotal Asset Total Assets ± ± LongLong--Term Debt Ratio = _ Term Debt Ratio = _LongLong--Term DebtTerm Debt

Total AssetsTotal Assets

 ± ± LongLong--Term Debt to Total Capitalization RatioTerm Debt to Total Capitalization Ratio

= _____________ = _____________LTD____________________ LTD____________________ 

(LTD + Preferred Equity + Common Equity)(LTD + Preferred Equity + Common Equity)

 ± ± Debt to Equity = Total Debt / Total EquityDebt to Equity = Total Debt / Total Equity

 ± ± LTD to Equity = _______ LTD to Equity = _______LTD______________ LTD______________ 

(Pref. Equity + Comm. Equity)(Pref. Equity + Comm. Equity)

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Financial Ratios

C overage RatioC overage Ratio

 ± ± Similar to liquidity ratios in that they describeSimilar to liquidity ratios in that they describe

the ability of a firm to pay certain expenses.the ability of a firm to pay certain expenses.

 ± ± Times Interest Earned RatioTimes Interest Earned Ratio= EBIT/Interest Expense= EBIT/Interest Expense

 ± ± Cash Coverage RatioCash Coverage Ratio

== (EBIT + Non(EBIT + Non--Cash Expenses)Cash Expenses)

Interest ExpenseInterest Expense

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Financial Ratios

P rof itability RatiosP rof itability Ratios ± ± Gross Profit Margin =Gross Profit Margin = Gross ProfitGross Profit

SalesSales

 ± ± Operating Profit Margin=Operating Profit Margin= Net Operating IncomeNet Operating Income

SalesSales ± ± Net Profit Margin =Net Profit Margin = Net IncomeNet Income

SalesSales

 ± ± Return on Asset =NI/Total AssetReturn on Asset =NI/Total Asset

 ± ± Return on Equity = NI/Total EquityReturn on Equity = NI/Total Equity ± ± Return on Common Equity=Return on Common Equity= NI Available to CommonNI Available to Common

Common EquityCommon Equity

 ± ± Du Pont AnalysisDu Pont Analysis