Cash flows and financial anayisis ppt @ bec doms
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  • 1. Cash Flows and Financial Analysis
  • 2. Users of Financial Information
    • Investors and Financial Analysts
      • Make judgments about the firm’s securities
      • Financial Analysts report to investment community
    • Vendors
      • Sell to the firm on credit
    • Management
      • Hi-light areas in which attention will improve performance
    2
  • 3. SOURCES OF FINANCIAL INFORMATION
    • Annual Report
      • Management's report card to stockholders on own performance
      • Positively biased
      • The primary source of financial information
      • Required of publicly traded companies
      • Must be audited
    • Other Sources
    • Reports from brokerage firms and advisory services
    • Value Line
    3
  • 4. STATEMENT of CASH FLOWS
    • Businesses run on cash , not accounting profits
    • Statement of Cash Flows
      • Also called or Sources and Uses of Cash or Statement of Changes in Financial Position
      • Shows where money comes from - goes to
      • Developed from the Income Statement and Balance Sheet
    4
  • 5. Building the Statement of Cash Flows – Basic Approach
    • Build a Statement of Cash Flows from two balance sheets and an income statement
    • Analyze where money has come from and gone to by :
      • Adjusting net income for non-cash items
      • Analyzing changes between beginning
      • and ending Balance Sheets
        • Classify as sources or uses of cash
    • Begin with a personal example
    5
  • 6. Buying a Car on Credit Joe Jones and His New Car 6
  • 7. Cash Flow Rules
    • Asset Increase = Use
    • Asset Decrease = Source
    • Liability Increase = Source
    • Liability Decrease = Use
    7
  • 8. Buying and Selling Cars - Sally Smith and Her Two Cars 8
  • 9. Business Cash Flows
    • Three sources of cash flows :
    • Operating Activities – day-to-day activities
    • Investing Activities – firm buys or sells fixed assets that enable it to do business, long-term purchases, and sales of financial assets.
    • Financing Activities – borrow money, pay off loans, sell stock, pay dividends .
    9
  • 10. BUSINESS CASH FLOWS Figure 3.2 10
  • 11. Free Cash Flows
    • Cash generated beyond reinvestment needs is free cash flow
    • Net cash flow less non-operating cash requirements (such as worn out fixed assets)
    • If negative, then borrow or sell equity
    11
  • 12. RATIO ANALYSIS
    • Pairs of financial statement numbers formed into ratios
    • Ratios highlight different aspects of performance
    • The current ratio measures liquidity - ability to pay bills in the short run
    12 Current Assets: Money coming in within a year Current Liabilities: Money going out within a year Needed for solvency: Current ratio >> 1.0
  • 13. CATEGORIES OF RATIOS
    • Five Classifications
    • Liquidity
    • Asset Management
    • Debt Management
    • Profitability
    • Market Value
      • Ratios Don’t Provide Answers -
    • They Help You Ask the Right Questions
    13
  • 14. LIQUIDITY RATIOS
    • Measure the ability to meet short term financial obligations
    • Current Ratio – primary measurement of a company’s liquidity
    14 (Examples from Belfry Company)
  • 15. LIQUIDITY RATIOS
    • Quick Ratio (Acid Test) – A liquidity measure that does not depend on inventory
    15
  • 16. ASSET MANAGEMENT RATIOS
    • The fundamental efficiency with which a company is run
    • AVERAGE COLLECTION PERIOD (ACP) – the time it takes to collect on credit sales
    16 Interpretation : Customers pay slowly OR there are a few very old accounts that will probably never be collected.
  • 17. ASSET MANAGEMENT RATIOS
    • INVENTORY TURNOVER
    • Measures efficiency of inventory use
    • Interpretation : Too much inventory is expensive to carry. Too little causes stockouts which lead to inefficient production and lost sales
    17
  • 18. ASSET MANAGEMENT RATIOS
    • FIXED ASSET TURNOVER AND TOTAL ASSET TURNOVER
    • Measure the relationship of the firm’s assets to a year’s sales
    • Interpretation : Are there idle or inefficient assets?
    18
  • 19. DEBT MANAGEMENT RATIOS
    • Measures the firm’s debt level relative to assets, equity, and income
    • DEBT RATIO
    • Uses a broad concept of debt including current liabilities
    • A high debt ratio is viewed as risky by investors
    19
  • 20. DEBT MANAGEMENT RATIOS
    • DEBT TO EQUITY RATIO
    • Measures the mix of debt and equity within total capital.
    • An important risk measurement - a high debt level burdens the income statement with excessive interest making failure more likely.
    • Debt to Equity Ratio = Long Term Debt : Equity
    • Debt to Equity = $6,200 : $3,300 = 1.9 : 1
    • (Stated as 1.9 to 1, since $6,200/$3,300 = 1.9)
    20
  • 21. DEBT MANAGEMENT RATIOS
    • TIMES INTEREST EARNED (TIE)
    • Measures the number of times interest can be paid out of earnings before interest and taxes (EBIT)
    21
  • 22. DEBT MANAGEMENT RATIOS
    • Cash Coverage
    • A variation on TIE. Adds depreciation to EBIT to better approximate the cash available to interest.
    22
  • 23. DEBT MANAGEMENT RATIOS
    • FIXED CHARGE COVERAGE
    • A variation on TIE to include lease payments as fixed financial charges equivalent to interest
    • Interpretation : Business failure is often a result of the inability to pay interest. Coverage ratios measure the interest burden relative to the ability to pay.
    23
  • 24. PROFITABILITY RATIOS
    • Relative measures of the firm’s money-making success
    • RETURN ON SALES (ROS)
    24
  • 25. PROFITABILITY RATIOS
    • RETURN ON ASSETS (ROA)
    • Measures the overall ability of the firm to utilize the assets in which it has invested to earn a profit
    25
  • 26. PROFITABILITY RATIOS
    • RETURN ON EQUITY (ROE)
    • The most fundamental profitability ratio
    • Measures the firm’s ability to earn a return on the owners’ invested capital.
    26
  • 27. MARKET VALUE RATIOS
    • PRICE / EARNINGS RATIO (P/E)
    • Measures the market’s opinion of the stock as an investment
    • Interpretation : The amount investors will pay for each dollar of earnings. Based primarily on expected growth .
    27
  • 28. MARKET VALUE RATIOS
    • MARKET TO BOOK VALUE RATIO
    • Total value of the equity on the balance sheet
    28
  • 29. Financial Ratios 29
  • 30. Financial Ratios 30
  • 31. Financial Ratios 31
  • 32. Limitations and Weaknesses of Ratio Analysis
    • Diversified Companies
      • Analysis of consolidated results generally offers limited insight
    • Window Dressing
      • Yearend efforts to make ratios look good
    • Accounting Principles
      • Allow a great deal of reporting latitude
    32