Role of Financial Manager. Assessing Financial Performance. Analysis of Financial Statements. To create value, the financial manager should:
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1 Role of Financial Manager To create value, the financial manager should: 1. Make sound investment decisions. 2. Make sound financing decisions. Importance of Assessing Financial Performance Assessing Financial Performance Key issue in assessing the long-term financial health of a company is whether the corporate system of goals, product market strategies, investment requirements, and financing capabilities are in balance. Analysts try to understand future industry structure and competitive behavior, the competitive and operating characteristics of the business, the long-term goals and plans of management, and the soundness of management Most likely, initial assessment involves investigating published financial statements. Financial statement analysis is only a part of a complete analysis of a company. Analysis of Financial Statements Financial Ratios DuPont System
2 Financial Ratios Financial Ratio Analysis: Technique used to examine a company s financial statements. Five areas Liquidity Asset Management/Efficiency Debt Management/Leverage Profitability Market Value Common size analysis: Express a firm s I/S (and B/S) items in percentage of (and ). Percentage change analysis: Focus on the growth rate of I/S and B/S items. Liquidity Ratios Measure a firm s ability to pay its obligations. Current Quick - Acid test Cash NWC to Liquidity Ratios current Current current liab. current - inventories Quick current liab. cash + marketable securities + receivables current liab. cash + marketable securities Cash current liab. Net working capital to working capital
3 Asset Management/Efficiency Ratios Measures how effectively the business is using its. Total asset turnover Fixed asset turnover NWC turnover Inventory turnover Average collection period (Days outstanding) Efficiency Ratios Total asset turnover Fixedasset turnover fixed NWC turnover working capital cost of goods sold Inventory turnover inventory account receivables Average collection period (annual /365) Debt Management/Leverage Ratios Measures the use of fixed cost financing. Total debt to Debt to Coverage (Times interest earned) Cash coverage
4 Leverage Ratios liabilities Total debt liabilities Debt to EBIT Times interest earned interest payments EBIT +depreciation Cash coverage interest payments Profitability Ratios Measures profit relative to revenue or an amount invested. Net profit margin Return on Return on Basic earning power Profitability Ratios income Net profit margin Return on income income Return on EBIT Basic earning power
5 Market Value Ratios P/E Dividend yield Market-to-book Market Value Ratios stock price PE Ratio earnings per share dividend per share Dividend yield stock price stockprice Marketto book book valueof per share Commonsize Analysis Commonsize analysis, also referred as vertical analysis, coverts each item on balance sheet as a percent of. For income statement, each item is shown as a percent of. Commonsize analysis helps managers and investors to see how each item, relative to or, has changed over time. It is also helpful when comparing firms with different sizes.
6 Percentage Change Analysis Percentage change analysis, also referred as horizontal analysis, computes the growth rate for each item over a period of time. Percentage change analysis helps managers and investors to compare different growth rates for different items. It also makes spotting long-term trends easier. Two Period Example: t Percentage change for t t-1 t-1 The DuPont System A breakdown of ROE and ROA into component s income ROA income ROE The DuPont System ROA income x asset turnover profit margin
7 The DuPont System income ROE x x leverage asset turnover profit margin Financial Statement Analysis Issues: Comparability: Industry, Benchmarking Interpretation and generalization Seasonal/cyclical data distortions and trend Accounting differences Window dressing Footnotes Inflation
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