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  1. 1. Financial Statement Analysis Donald S. Appleby Adjunct Assistant Professor Dept. of Electrical and Computer Engineering The University of Alabama at Birmingham © Donald S. Appleby, 2010. All rights reserved.
  2. 2. Ratio Analysis <ul><li>Used to evaluate performance. </li></ul><ul><ul><li>Trend analysis </li></ul></ul><ul><ul><li>Comparative analysis </li></ul></ul><ul><li>Derived from financial statements. </li></ul><ul><li>Simple to calculate. </li></ul><ul><li>Not always simple to interpret. </li></ul>
  3. 3. Ratio Categories <ul><li>Liquidity. </li></ul><ul><ul><li>Ability to meet short-term obligations </li></ul></ul><ul><ul><li>Management of working capital </li></ul></ul><ul><li>Financial Strength. </li></ul><ul><ul><li>Risk </li></ul></ul><ul><ul><li>Leverage </li></ul></ul><ul><li>Operating Performance. </li></ul><ul><ul><li>Profitability </li></ul></ul><ul><ul><li>Asset management </li></ul></ul>
  4. 4. Liquidity <ul><li>Current Ratio </li></ul><ul><li>Quick Ratio </li></ul><ul><li>Days Sales Outstanding </li></ul><ul><li>Receivables Turnover </li></ul><ul><li>Inventory Turnover </li></ul><ul><li>Days Inventory </li></ul><ul><li>Operating Cycle </li></ul><ul><li>Accounts Payable Turnover </li></ul><ul><li>Days Payable </li></ul>
  5. 5. Current Ratio <ul><li>Current Assets / Current Liabilities </li></ul><ul><li><1.0 suggests liquidity problems </li></ul>
  6. 6. Quick Ratio <ul><li>Also called the “acid test” ratio </li></ul><ul><li>Same as current ratio except that it excludes inventory because inventory is not as easy to liquidate </li></ul>
  7. 7. Financial Strength <ul><li>Debt to Total Assets </li></ul><ul><li>Equity to Total Assets </li></ul><ul><li>Debt to Capitalization </li></ul><ul><li>Debt to Equity </li></ul>
  8. 8. Operating Performance <ul><li>Profit Margin </li></ul><ul><li>Gross Margin </li></ul><ul><li>Asset Turnover </li></ul><ul><li>Return on Assets (ROA) </li></ul><ul><li>Return on Equity (ROE) </li></ul><ul><li>Earnings per Share (EPS) </li></ul><ul><li>Price/Earnings Ratio (P/E) </li></ul><ul><li>Payout Ratio </li></ul><ul><li>Times Interest Earned </li></ul>
  9. 9. DuPont Formula <ul><li>ROE = ROS x ATO x LF </li></ul><ul><ul><li>ROE = net income / total equity </li></ul></ul><ul><ul><li>ROS = net income / total sales </li></ul></ul><ul><ul><li>ATO = total sales / total assets </li></ul></ul><ul><ul><li>LF = total assets / total equity </li></ul></ul><ul><li>ROE = ROA x LF </li></ul><ul><ul><li>Because ROA = ROS x ATO </li></ul></ul>
  10. 10. FRICTO Analysis <ul><li>Flexibility – To what extent will a decision to increase debt restrict the firm’s flexibility? Will it violate existing loan covenants (or place the firm at risk of violating loan covenants) as a result of poor performance? </li></ul><ul><li>Risk – What is the financial risk of this decision? Can the firm meet interest and principal payments, even if earnings and cash flow targets are not achieved? </li></ul><ul><li>Income – How will various financing alternatives affect ROE and EPS? </li></ul><ul><li>Control – How will the sale of additional stock affect ownership / control of the firm? What are the risks? </li></ul><ul><li>Timing – Based on interest rates and trends, is this a good time to borrow? Based on current stock price, is this a good time to issue stock? How soon will the funds be needed? </li></ul><ul><li>Other – What other considerations should be factored into this decision? Owners’ attitudes regarding debt? Firm’s bond rating? </li></ul>