Decoding Financial Statements by Gary Trennepohl


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Gary Trennepohl presents "Decoding Financial Statements" during the annual 2012 Reynolds Business Journalism Seminars, hosted by the Donald W. Reynolds National Center for Business Journalism.

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  • Seems like there is more to bullet one, such as, “Technology that makes market information and the ability to trade instantly available. I.e. disintermediation.That technology also “has the ability to DECIDE to trade on its own, depending on the algorithms that govern it.
  • Decoding Financial Statements by Gary Trennepohl

    1. 1. Decoding Financial Statements Strictly Financials Jan. 4, 2012
    2. 2. Donald W. Reynolds National Center For Business Journalism At Arizona State University Strictly Financials 2
    3. 3.  Gary Trennepohl, Ph.D.  ONEOK Chair and President’s Council Professor of Finance  Oklahoma State University  Trustee, Oklahoma Teachers Retirement System  Member, OSU Foundation Investment Committee Strictly Financials 3
    4. 4. Topics Wednesday:  8:30 am to 3:00 pm – Decoding Financial Statements and Company Analysis.  3:15 pm to 5:00 pm – Investing in a Time of Uncertainty Thursday:  8:30 am to 11:15 am – Financial Markets in 2012: Where are the Stories? Strictly Financials 4
    5. 5. I. Decoding Financial Statements1. Financial Ratios – what they tell us2. Profitability Model – how the firm generates profits Strictly Financials 5
    6. 6. Ratios to Measure FinancialHealth Liquidity Current assets current ratio = Current liabilities quick ratio = Current assets - inventory Current liabilities Strictly Financials 6
    7. 7. Another View of Liquidity:Net Working Capital Total Assets = Liab.+Net Worth Current Assets Current liabilities Net Working Capital Long Term Debt + Fixed Assets Common equity Strictly Financials 7
    8. 8. Ratios (con’t) Profitability net profit after tax sales net profit margin = net profit after tax return on assets = total assets sales total asset turnover = total assets Strictly Financials 8
    9. 9. Profitability Ratios (con’t) Factors affecting profitability inventory turnover = cost of goods sold inventory accounts receivable collection period = accounts receivable (sales/365 days) Strictly Financials 9
    10. 10. Ratios (con’t) How is the firm financed? total debt total assets debt ratio = Total debt debt/equity ratio = total equity total assets equity multiplier = common equity Strictly Financials 10
    11. 11. Ratios (con’t) What return is generated for common stockholders? return on equity = EACS common equity Strictly Financials 11
    12. 12. The Profitability Model
    13. 13. Evaluating a Company UsingThe Profitability Model The profitability model is useful because it separates return on equity (ROE) into three components -  financial leverage (equity multiplier),  operating efficiency (net profit margin)  asset utilization (total asset turnover). ROE is a function of all three factors Strictly Financials 13
    14. 14. The Profitability Model (con’t) Return on equity = NPM X total asset turnover X equity multiplier net profit sales total assets X XROE = sales total assets common equity Strictly Financials 14
    15. 15. II. Investing in Time of Uncertainty;WSJ calls it “Macro” Investing 1. What is Risk and Uncertainty? 2. Historical Perspective on Return and Risk in the Market. 3. How Country Demographics will drive Investment and Returns in the Coming Decades
    16. 16. Macro Uncertainty Examples Natural Disasters:  Katrina,  The Japanese earthquake Political Turmoil  The Arab Spring  Terrorist Attacks  European Debt Crisis Economic Events  The 2008 Recession  Bankruptcy of Lehman Bros. 16
    17. 17. Perspective over Past 60 Years U.S. stocks enjoyed a great boom in the 1980’s and ’90’s – returns averaged 18% yearly. 2000’s decade returns: S&P returned 1%, Bonds 6% annually. A survey in 1951 about investing showed:  49% favored bonds, then real estate then bank deposits  Only 6% favored stocks. 28% said they would not hold stocks because of “lack of safety.” 17
    18. 18. World Events Over thePast two Generations A world war that cost 50 million lives Korean Conflict A cold war and Iron Curtain that threatened world destruction. The Vietnam Conflict, the Oil Embargo in 1974, severe inflation, wage and price controls, another oil shock, the dissolution of the Soviet Union. Two wars in the Middle East, and 9/11/2001. The 2000’s that gave us a real estate bubble, toxic mortgage securities, and near collapse of the world banking system. 18
    19. 19. What this Means for Investors Put your fears into perspective:  Warren Buffett: “We have usually made our best purchases when apprehensions about some macro event were at a peak.”  Is fear warping your perception of risk? Take selective risks:  If you endured the past decade, hang in there.  Exposure to factors like illiquidity, credit concerns, natural disasters and insurable events wil be better rewarded than in the past century. Invest with a global perspective 19
    20. 20. History of U.S. Stock andBond Returns Provides aPerspective for the Future Strictly Financials 20
    21. 21. Strictly Financials 21
    22. 22. Strictly Financials 22
    23. 23. Strictly Financials 23
    24. 24. 24
    25. 25. Strictly Financials 25
    26. 26. What about the DecadeOf 2000 to 2010? Many news sources have reported that the “’00s” were the lost decade for returns for stocks, but it depends on which numbers you choose.  S&P 500 - .4%  DJIA + 2.5%  Small Cap + 6.2%  World Index + 1.3%  Brazil +21.0%  U.S. T-Bonds + 8.3% Strictly Financials 26
    27. 27. *Matt Moran, CBOE seminar, Oct. 29, 2010 Strictly Financials 27
    28. 28. You Can Keep Track of CurrentMarket Volatility with the VIX The “VIX” is a measure of the market’s perception about market uncertainty over the next 30 days. It’s derived from the Black-Scholes “option pricing model” of which one input value is expected volatility (ie. future standard deviation) of the S&P 500. You make the calculation by “solving the model backwards” – that is “given the observed price, what volatility is needed to produce that price by the model.” Strictly Financials 28
    29. 29. So, What Does AllOf This Data Tell Us? First, remember when people say “this time is different,” it is never different. Markets over and under correct, but they ultimately revert to the mean of their long term values. Periods of over performance will be followed by periods of underperformance, etc. Diversification is a key strategy for investing. Strictly Financials 30
    30. 30. Did the Markets ReallyChange in 2008? Probably not, but two factors are changing investing in profound ways:  Technology that makes market information instantly available  Globalization of financial markets is linking economies around world. Strictly Financials 31
    31. 31. What is Really Changing: Demographics of Major Countries1. Countries with larger numbers of younger workers will enjoy higher growth rates than “older” countries.2. Demand for housing, autos, and consumer goods is driven by the 25 to 45 year old age cohort. 32
    32. 32. Italy 33
    33. 33. Germany 34
    34. 34. United States 35
    35. 35. Brazil 36
    36. 36. India 37
    37. 37. China 38
    38. 38. So, What Will the NextDecade Bring Us? Here’s some data to help you decide 39
    39. 39. 40
    40. 40. “The Bond Buyer’s Dilemma”By Burton Malkiel in the WSJ, Dec 7, 2011 The yields on long term U.S. Treasuries will likely fall below inflation for the next several years - Long Term treasuries are likely to be sure losers Investors should consider as alternatives:  Bonds with moderate credit risk where the spreads over treasuries are generous.  Tax exempt municipal bonds are especially attractive  Foreign bonds in fiscally secure countries, e.g. Australia High quality U.S. stocks with generous dividend yields  Abbott Labs, ATT, Exxon, J&J, P&G. Strictly Financials 41
    41. 41. Story Ideas1. What do investors and investment advisors say about market volatility?2. Are investors/advisors investing in international markets? If so, where and why?3. What will happen to bond prices and interest rates in 2012-2014?