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    srdc.msstate.edu srdc.msstate.edu Presentation Transcript

    • Financial Statements and Performance Analysis Alan Barefield Associate Professor University of Tennessee Agricultural Economics Agricultural Extension Service The University of Tennessee
    • Importance of Financial Management
      • David Curlee (land developer) made a fortune, then went bankrupt and is now consulting
      • He states that the entrepreneur must know:
        • What is coming in versus what is going out
        • Everything that is contained in the ledger sheets
        • All facets of business operations
      • Above all, don’t become too ambitious
      Agricultural Extension Service The University of Tennessee
    • Key Financial Statements
      • Income or Profit & Loss Statement
      • Balance Sheet
      • Cash Flow Statement
      • Budget Forecast
      Agricultural Extension Service The University of Tennessee
    • Balance Sheet
      • Details the financial position of a business at a particular point in time
      • Assets = Liabilities + Equity
      • Tells the reader what the business owns of monetary value and what the business owes to others .
      • Personal and business assets and liabilities are frequently reflected on the same statement
      Agricultural Extension Service The University of Tennessee
    • Components of the Balance Sheet
      • Assets
        • Represents the monetary value of what the business owns
        • Are normally grouped into three categories denoting how soon they wear out or are sold
          • Current – Less than 1 year
          • Intermediate – 1 to 10 years
          • Long-term – Over 10 years
      Agricultural Extension Service The University of Tennessee
    • Current Asset Examples
      • Cash
      • Checking accounts
      • Savings accounts
      • Accounts receivable
      • Inventories
      • Supplies
      • WIP investments
      • Equity in hedging accounts
      • Tax refunds
      • Unused tax credits
      • Prepaid expenses
        • Payroll
        • Insurance
        • Rent
      Agricultural Extension Service The University of Tennessee
    • Intermediate Asset Examples
      • Machinery
      • Business vehicles
      • Retirement accounts
      • Cash value of life insurance
      • Household goods
      • Personal vehicles
      Agricultural Extension Service The University of Tennessee
    • Long-term Asset Examples
      • Land
      • Buildings and structures
      • Personal residences
      • Nonbusiness real estate
      Agricultural Extension Service The University of Tennessee
    • Components of the Balance Sheet
      • Liabilities
        • Represents the value of the debts owed by the business
        • Are normally grouped into three categories denoting how soon they fall due
          • Current – Less than 1 year
          • Intermediate – 1 to 10 years
          • Long-term – Over 10 years
      Agricultural Extension Service The University of Tennessee
    • Current Liability Examples
      • Accounts payable
      • Short term notes payable
      • Current payments on intermediate or long term notes
      • Accrued expenses
      • Contingent tax on sale of current assets
      Agricultural Extension Service The University of Tennessee
    • Intermediate Liability Examples
      • Loans to finance intermediate assets less current payments
      • Contingent tax on sale of intermediate assets
      Agricultural Extension Service The University of Tennessee
    • Long-term Liability Examples
      • Business and nonbusiness mortgages less current payments
      • Other long-term notes
      • Contingent tax on sale of long term assets
      Agricultural Extension Service The University of Tennessee
    • Components of the Balance Sheet
      • Net worth (also called net equity)
        • Net worth represents the difference between the total level of assets and the total level of liabilities
        • Net worth should be reported on an after-tax basis
        • If net worth is positive, the business is solvent (assets can be sold to retire liabilities). If net worth is negative, the business is insolvent
      Agricultural Extension Service The University of Tennessee
    • Structure of the Balance Sheet
      • Assets
        • Current Assets
        • Intermediate Assets
        • Long-term Assets
      • Liabilities
        • Current Liabilities
        • Intermediate Liabilities
        • Long-term Liabilities
      • Net Worth
      Agricultural Extension Service The University of Tennessee
    • Purpose of the Balance Sheet
      • The balance sheet indicates the degree to which the business is liquid and solvent
      • Liquidity – Can the business’ current liabilities be retired if the current assets are converted to cash?
      • Solvency – Can the total liabilities of the business be retired if all assets are converted to cash?
      Agricultural Extension Service The University of Tennessee
    • Income or Profit & Loss Statement
      • The income or profit and loss statement summarizes the level of revenue and expenses for the business
      • Major components include:
        • Revenues
        • Expenses
        • Taxes
        • Extraordinary Items
      Agricultural Extension Service The University of Tennessee
    • Revenues
      • Business revenue can be divided into two categories
        • Revenue from current operations – Cash proceeds from the sale of inventory, noncash proceeds from sales, patronage dividends, insurance proceeds, noncash inventory adjustments
        • Expenses incurred in the production process should be deducted from revenues to yield a gross profit margin
      Agricultural Extension Service The University of Tennessee
    • Revenues
        • Capital gains and losses – Gain or loss realized from the sale of intermediate or long-term assets
        • Nonbusiness revenue – Income derived from nonbusiness employment, interest and dividend income from nonbusiness investments
      Agricultural Extension Service The University of Tennessee
    • Expenses
      • Cash operating expenses – Includes expenses paid in cash, expenses that have been incurred but not yet paid (accounts payable), interest expenses
      • Noncash expenses includes depreciation and any expenses paid from the last reporting period if the business is reporting on a cash basis
      Agricultural Extension Service The University of Tennessee
    • Taxes
      • This section includes the specific tax liabilities incurred during the reporting period. Only income and self-employment taxes are reported in this section. Payroll taxes, real estate and real property taxes, etc., are reported under the Expenses section of the income statement
      Agricultural Extension Service The University of Tennessee
    • Extraordinary Items
      • This section includes “once-in-a-lifetime” events that should not be included as a part of the firm’s regular financial activities
      • Includes insurance payments from a loss, agricultural disaster payments, etc.
      Agricultural Extension Service The University of Tennessee
    • Structure of the Income Statement Revenues Business Revenue + Gain from sale of intermediate or LT assets + Non Business Revenues + Noncash revenue adjustments = Total revenue - Cost of goods sold = Gross profit margin Agricultural Extension Service The University of Tennessee
    • Structure of the Income Statement
      • Gross profit margin
      • - Cash operating expenses
      • - Noncash operating expenses
      • = Income from business operations
      • +(-) Gain (loss) on depreciable assets
      • = Net business income
      • + Nonbusiness revenue
      • Non business expenses
      • = Income before taxes
      • Provisions for taxes
      • = Net Income
      Agricultural Extension Service The University of Tennessee
    • Purpose of the Income Statement
      • Provides a summary of the revenues and expenses associated with the period’s operating activities
      • Provide information to complete the business and personal income tax returns
      • Shows the profitability of the business for lenders and other interested parties
      Agricultural Extension Service The University of Tennessee
    • Cash Flow Statement
      • Summarizes the levels of cash that the business has available to meet current obligations
      • Generally divided into monthly or quarterly periods to show when excess cash is available or when borrowing needs to occur
      Agricultural Extension Service The University of Tennessee
    • Components of the Cash Flow Statement
      • Cash available
        • Beginning cash balance
        • Cash revenues from sales and accounts receivable
        • Other sources of cash
          • Proceeds from sale of equipment and other assets
          • Nonbusiness wages
          • Interest and dividend income
      Agricultural Extension Service The University of Tennessee
    • Components of the Cash Flow Statement
      • Cash required
        • Operating expenses
        • Income tax payments
        • Intermediate and long-term payments
        • Capital expenditures
        • Family living expenses
        • Cash gifts and donations
      Agricultural Extension Service The University of Tennessee
    • Components of the Cash Flow Statement
      • Borrowings
        • New loans to finance production and capital expenditures
      • Other
        • Short term loan payments
        • Savings – additions and withdrawals
        • Ending cash balance for the period
      Agricultural Extension Service The University of Tennessee
    • Purpose of the Cash Flow Statement
      • Highlights the financing arrangements necessary to cover cash requirements
      • Serves as a benchmark for budgeting activities
      • Analyzes the timing of financial borrowing activities
      Agricultural Extension Service The University of Tennessee
    • Budget Preparation
      • Many persons assert that the budget is simply a projection of the cash flow statement
      • However this is not correct
      • The budget must incorporate all key financial statements
      • Forecasting statements are also called pro forma statements
      Agricultural Extension Service The University of Tennessee
    • Key Budget Assumptions
      • Expected selling prices
      • Expected input prices
      • Expected input productivity
      • Pro forma operating budget
        • Production costs and sales objectives
      • Pro forma financial budget
        • Cash receipts and disbursements
      • Family living budgets
      Agricultural Extension Service The University of Tennessee
    • Financial Statement Analysis
      • Ratio analysis
        • Alleviates the unit of measure problems incurred when comparing raw numbers
        • Four different types of ratios can be examined
          • Liquidity ratios – can current debts be met
          • Solvency ratios – can all debts be met
          • Efficiency ratios – how efficient is the operation
          • Profitability ratios – how profitable is the operation
      Agricultural Extension Service The University of Tennessee
    • Keys to Ratio Analysis
      • Ratios don’t mean anything by themselves
      • They must be compared over time and with similar companies
      • Look at industry standards through trade magazines, Standard & Poore’s, RMA analysis, etc.
      Agricultural Extension Service The University of Tennessee
    • Liquidity Ratios Current Ratio
      • Current assets divided by current liabilities
      • Interpretation
        • Relatively high ratio values mean that the business is liquid, but cash is not working
        • If the current ratio is greater than 1.0, the business is liquid
        • If the current ratio is less than 1.0, the business is illiquid
      Agricultural Extension Service The University of Tennessee
    • Liquidity Ratios Current Ratio Agricultural Extension Service The University of Tennessee
    • Liquidity Ratios Acid Test Ratio
      • Current assets minus inventories divided by current liabilities
      • Interpretation
        • Relatively high ratio values mean that the business is liquid, but cash is not working
        • If the current ratio is greater than 1.0, the business is liquid
        • If the current ratio is less than 1.0, the business is illiquid
      Agricultural Extension Service The University of Tennessee
    • Liquidity Ratios Acid Test Ratio Agricultural Extension Service The University of Tennessee
    • Solvency Ratios Leverage Ratio
      • Total liabilities divided by total net worth
      • Interpretation
        • The higher the value, the less solvent the business is
        • If less than 1.0, the business is solvent
        • If greater than 1.0, the business is insolvent
      Agricultural Extension Service The University of Tennessee
    • Solvency Ratios Leverage Ratio Agricultural Extension Service The University of Tennessee
    • Solvency Ratios Net Capital Ratio
      • Total assets divided by total liabilities
      • Interpretation
        • The higher the value, the more solvent the business
        • If greater than 1.0, the business is solvent
        • If less than 1.0, the business is insolvent
      Agricultural Extension Service The University of Tennessee
    • Solvency Ratios Net Capital Ratio Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Turnover Ratio
      • Value of production divided by total average productive assets
      • Interpretation
        • The higher the value, the more efficient the business
        • The lower the value, the less efficient the business
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Turnover Ratio Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Gross Ratio
      • Total business expenses divided by the value of production
      • Interpretation
        • The lower the value, the more efficient the business
        • The higher the value, the less efficient the business
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Gross Ratio Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Sales/Receivables
      • Net sales divided by net accounts receivables
      • Interpretation
        • Measures the number of times receivables turn over during the year
        • The higher the turnover, the shorter the time between the sale and cash collection
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Sales/Receivables Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days/Receivable Turnover
      • 365 divided by the Sales/Receivables Ratio
      • Interpretation
        • Dividing the sales/receivables ratio into 365 provides the number of days between sales and collections
        • The higher the number, the longer it takes the business to collect accounts receivable
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days/Receivable Turnover Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Inventory Turnover Ratio
      • Calculated by dividing cost of goods sold by the dollar level of inventory
      • Interpretation
        • Measures the number of times inventory is turned over during the year
        • High inventory can indicate better liquidity or superior merchandising
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Inventory Turnover Ratio
      • Interpretation (continued)
        • Conversely, high turnover can mean a shortage of needed inventory for sales
        • Low inventory turnover can indicate poor liquidity, possible overstocking, obsolescence, or a planned inventory buildup
        • Closely examine the reasons behind the value of this ratio with regard to your business
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Inventory Turnover Ratio Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days Units Are In Inventory
      • 365 divided by the inventory turnover ratio
      • Interpretation
        • Calculates the average number of days that units are in inventory
        • See explanations for high or low numbers in the interpretation for the inventory turnover ratio
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days Units Are In Inventory Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Payable Turnover Ratio
      • Divide cost of goods sold by net accounts payable
      • Interpretation
        • Measures the number of times payables turn over during the year
        • The higher the turnover, the lower the time between purchase and payment
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Payable Turnover Ratio
      • Interpretation (continued)
        • A low ratio can indicate:
          • Cash shortage
          • Invoice disputes with suppliers
          • Extended terms of payment provided by suppliers
          • Expansion of trade credits with suppliers
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Payable Turnover Ratio Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days/Payables Turnover
      • 365 divided by the payables turnover ratio
      • Interpretation
        • Calculates the average number of days that trade payables are outstanding
        • For possible explanations of a relatively large number of days, see the explanations for the payable turnover ratio
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Days/Payables Turnover Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Net Sales/Working Capital
      • Net sales divided by working capital
      • Working capital is calculated by subtracting current liabilities from current assets
      • Interpretation
        • Measures how efficiently working capital is employed
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Net Sales/Working Capital
      • Interpretation (continued)
        • A relatively large ratio could mean that working capital is efficiently employed
        • Conversely, it could also mean that the firm is undercapitalized and is in danger of becoming non-liquid
      Agricultural Extension Service The University of Tennessee
    • Efficiency Ratios Net Sales/Working Capital where Working capital = Current Assets – Current Liabilities Agricultural Extension Service The University of Tennessee
    • Profitability Ratios ROR on Total Capital
      • Income + loan interest obligations – value of unpaid labor and management – business income taxes divided by total business assets
      • Interpretation
        • The higher the value, the more profitable the business
      Agricultural Extension Service The University of Tennessee
    • Profitability Ratios ROR on Total Capital Agricultural Extension Service The University of Tennessee
    • Profitability Ratios ROR on Equity Capital
      • Income – value of unpaid labor and management – business income taxes divided by total business net worth
      • Interpretation
        • The higher the value, the more profitable the business
      Agricultural Extension Service The University of Tennessee
    • Profitability Ratios ROR on Equity Capital Agricultural Extension Service The University of Tennessee