1、Financial Statements Analysis and Long-Term PlanningChapter 3Key Concepts and SkillsoKnow how to standardize financial statements for comparison purposesoKnow how to compute and interpret important financial ratiosoBe able to develop a financial plan using the percentage of sales approachoUnderstand
2、 how capital structure and dividend policies affect a firms ability to growChapter Outline3.1 Financial Statements Analysis3.2 Ratio Analysis3.3 The Du Pont Identity3.4 Using Financial Statement Information3.5 Long-Term Financial Planning3.6 External Financing and Growth3.7 Some Caveats Regarding Fi
3、nancial Planning Models3.1 Standardizing Financial StatementsoCommon-Size Balance SheetsnCompute all accounts as a percent of total assetsoCommon-Size Income StatementsnCompute all line items as a percent of salesoStandardized statements make it easier to compare financial information,particularly a
4、s the company grows.oThey are also useful for comparing companies of different sizes,particularly within the same industry.3.2 Ratio AnalysisoRatios also allow for better comparison through time or between companiesoAs we look at each ratio,ask yourself:nHow is the ratio computed?nWhat is the ratio
5、trying to measure and why?nWhat is the unit of measurement?nWhat does the value indicate?nHow can we improve the companys ratio?Categories of Financial RatiosoShort-term solvency or liquidity ratiosoLong-term solvency,or financial leverage,ratiosoAsset management or turnover ratiosoProfitability rat
6、iosoMarket value ratiosComputing Liquidity RatiosoCurrent Ratio=CA/CLn708/540=1.31 timesoQuick Ratio=(CA Inventory)/CLn(708-422)/540=.53 timesoCash Ratio=Cash/CLn98/540=.18 timesComputing Leverage RatiosoTotal Debt Ratio=(TA TE)/TAn(3588-2591)/3588=28%oDebt/Equity=TD/TEn(3588 2591)/2591=38.5%oEquity
7、 Multiplier=TA/TE=1+D/En1+.385=1.385Computing Coverage RatiosoTimes Interest Earned=EBIT/Interestn691/141=4.9 timesoCash Coverage=(EBIT+Depreciation)/Interestn(691+276)/141=6.9 timesComputing Inventory RatiosoInventory Turnover=Cost of Goods Sold/Inventoryn1344/422=3.2 timesoDays Sales in Inventory=
8、365/Inventory Turnovern365/3.2=114 daysComputing Receivables RatiosoReceivables Turnover=Sales/Accounts Receivablen2311/188=12.3 timesoDays Sales in Receivables=365/Receivables Turnovern365/12.3=30 daysComputing Total Asset TurnoveroTotal Asset Turnover=Sales/Total Assetsn2311/3588=.64 timesnIt is n
9、ot unusual for TAT 1,especially if a firm has a large amount of fixed assets.Computing Profitability MeasuresoProfit Margin=Net Income/Salesn363/2311=15.7%oReturn on Assets(ROA)=Net Income/Total Assetsn363/3588=10.1%oReturn on Equity(ROE)=Net Income/Total Equityn363/2591=14.0%Computing Market Value
10、MeasuresoMarket Price=$88 per shareoShares outstanding=33 millionoPE Ratio=Price per share/Earnings per sharen88/11=8 timesoMarket-to-book ratio=market value per share/book value per sharen88/(2591/33)=1.12 times3.3 The Du Pont IdentityoROE=NI/TEoMultiply by 1 and then rearrange:nROE=(NI/TE)(TA/TA)n
11、ROE=(NI/TA)(TA/TE)=ROA*EMoMultiply by 1 again and then rearrange:nROE=(NI/TA)(TA/TE)(Sales/Sales)nROE=(NI/Sales)(Sales/TA)(TA/TE)nROE=PM*TAT*EMUsing the Du Pont IdentityoROE=PM*TAT*EMnProfit margin is a measure of the firms operating efficiency how well it controls costs.nTotal asset turnover is a m
12、easure of the firms asset use efficiency how well it manages its assets.nEquity multiplier is a measure of the firms financial leverage.Calculating the Du Pont IdentityoROA=10.1%and EM=1.39nROE=10.1%*1.385=14.0%oPM=15.7%and TAT=0.64nROE=15.7%*0.64*1.385=14.0%3.4 Using Financial StatementsoRatios are
13、 not very helpful by themselves:they need to be compared to somethingoTime-Trend AnalysisnUsed to see how the firms performance is changing through timeoPeer Group AnalysisnCompare to similar companies or within industriesnSIC and NAICS codesPotential ProblemsoThere is no underlying theory,so there
14、is no way to know which ratios are most relevant.oBenchmarking is difficult for diversified firms.oGlobalization and international competition makes comparison more difficult because of differences in accounting regulations.oFirms use varying accounting procedures.oFirms have different fiscal years.
15、oExtraordinary,or one-time,events3.5 Long-Term Financial PlanningoInvestment in new assets determined by capital budgeting decisionsoDegree of financial leverage determined by capital structure decisionsoCash paid to shareholders determined by dividend policy decisionsoLiquidity requirements determi
16、ned by net working capital decisionsFinancial Planning IngredientsoSales Forecast many cash flows depend directly on the level of sales(often estimate sales growth rate)oPro Forma Statements setting up the plan as projected(pro forma)financial statements allows for consistency and ease of interpreta
17、tionoAsset Requirements the additional assets that will be required to meet sales projectionsoFinancial Requirements the amount of financing needed to pay for the required assetsoPlug Variable determined by management decisions about what type of financing will be used(makes the balance sheet balanc
18、e)oEconomic Assumptions explicit assumptions about the coming economic environmentPercent of Sales ApproachoSome items vary directly with sales,others do not.oIncome StatementnCosts may vary directly with sales-if this is the case,then the profit margin is constantnDepreciation and interest expense
19、may not vary directly with sales if this is the case,then the profit margin is not constantnDividends are a management decision and generally do not vary directly with sales this affects additions to retained earningsPercent of Sales ApproachoBalance SheetnInitially assume all assets,including fixed
20、,vary directly with sales.nAccounts payable also normally vary directly with sales.nNotes payable,long-term debt,and equity generally do not vary with sales because they depend on management decisions about capital structure.nThe change in the retained earnings portion of equity will come from the d
21、ividend decision.oExternal Financing Needed(EFN)nThe difference between the forecasted increase in assets and the forecasted increase in liabilities and equity.Percent of Sales and EFNoExternal Financing Needed(EFN)can also be calculated as:565$)667.0125013.0()2503.0()2503()1(Sales)Projected(SalesSa
22、lesLiabSpon SalesSalesAssetsdPM3.6 External Financing and GrowthoAt low growth levels,internal financing(retained earnings)may exceed the required investment in assets.oAs the growth rate increases,the internal financing will not be enough,and the firm will have to go to the capital markets for fina
23、ncing.oExamining the relationship between growth and external financing required is a useful tool in long-range planning.The Internal Growth RateoThe internal growth rate tells us how much the firm can grow assets using retained earnings as the only source of financing.oUsing the information from th
24、e Hoffman Co.nROA=66/500=.132nb=44/66=.667%65.90965.667.132.1667.132.bROA-1bROA RateGrowth InternalThe Sustainable Growth RateoThe sustainable growth rate tells us how much the firm can grow by using internally generated funds and issuing debt to maintain a constant debt ratio.oUsing the Hoffman Co.
25、nROE=66/250=.264nb=.667%4.21214.667.264.1667.264.bROE-1bROE RateGrowth eSustainablDeterminants of GrowthoProfit margin operating efficiencyoTotal asset turnover asset use efficiencyoFinancial leverage choice of optimal debt ratiooDividend policy choice of how much to pay to shareholders versus reinv
26、esting in the firm3.7 Some CaveatsoFinancial planning models do not indicate which financial polices are the best.oModels are simplifications of reality,and the world can change in unexpected ways.oWithout some sort of plan,the firm may find itself adrift in a sea of change without a rudder for guid
27、ance.Quick QuizoHow do you standardize balance sheets and income statements?oWhy is standardization useful?oWhat are the major categories of financial ratios?oHow do you compute the ratios within each category?oWhat are some of the problems associated with financial statement analysis?Quick QuizoWhat is the purpose of long-range planning?oWhat are the major decision areas involved in developing a plan?oWhat is the percentage of sales approach?oWhat is the internal growth rate?oWhat is the sustainable growth rate?oWhat are the major determinants of growth?