# Working with Financial Statements Final1

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### Slide 1:

Basic Concepts in Financial Analysis David Stevens, CPA, MBA 1

### Slide 2:

Working with Financial Statements Adapted from Essentials of Corporate Finance, 7 th Edition , McGraw-Hill Companies, Inc., Copyright © 2011 2

### Slide 3:

Part 1: Common Size and Comparative Financial Statements Part 2: Financial Statement Ratio Analysis Objective Provide Tools to Assess the Global Financial Health of a Company 3

### Slide 4:

Common Size and Comparative Financial Statements Part I 4

### Slide 5:

Income Statement Income Statement for The Prufrock Corporation (in millions) 5

### Slide 6:

Common Size Income Statement The Prufrock Corporation In a Common Size Income Statement, each item is listed as a percentage of sales . 6

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Example Common Size Income Statement Income Statement Cost of Goods Sold \$1,344 Total Sales \$ 2,311 \$1,344 \$2,311 = 58% 58% 7

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Income Statements Used in Business See Comparative Income Statements.xls 8

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Part II Financial Statement Ratio Analysis 9

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What is the C urrent Ratio? An organization’s current ratio consists of the relationship between its current assets and liabilities. Current Assets Current Liabilities Current Ratio = 10

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Calculating the C urrent Ratio First, calculate your assets and liabilities . 11

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Current Ratio 708 Current Assets Calculating the C urrent Ratio The current ratio is the ratio between 540 Current Liabilities Current Assets and Liabilities = = 708 540 = 1.31 12

### Current Ratio Why Is It Important?:

Current Ratio Why Is It Important? Current Assets Current Liabilities Current Ratio = Current Ratio = 1.00 What does this tell me? 3- 13

### Slide 14:

Current Assets Current Liabilities Current Ratio = Which company is in the best and worst financial shape? Company Current Ratio ABC 1.50 XYZ .75 Stubing’s Bike Store .25 Current Ratio 14

### Inventory Turnover and Days’ Sales in Inventory :

Inventory Turnover and Days ’ Sales in Inventory 3- 15 \$1,344 \$422 Inventory COGS Inventory Turnover = = COGS Inventory = \$1,344 \$422 3.2

### Inventory Turnover and Days’ Sales in Inventory :

Inventory Turnover and Days ’ Sales in Inventory Inventory Turnover = 3.2 365 Inventory * COGS = 365* Inventory COGS = 114 days Days’ Sales in Inventory = 365 = 365 = 114 days Inventory Turnover 3.2 3- 16

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Why is this Important? Why Calculate it? Days’ Sales in Inventory Indicates how much inventory is on hand. In the previous example, 114 days. If the company does not add to inventory, it will run out of inventory to sell after 114 days. Days’ Sales of Inventory = = 365 Inventory Turnover = 365 3.2 114 days 17

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Why is this Important? Why Calculate it? Inventory Turnover For example, Prufrock sells bicycles. Every time the inventory is low, they order \$100,000 of bicycles from their manufacturer. Then Prufrock will buy and sell their \$100,000 blocks of inventory 3.2 times during the year. Inventory Turnover i ndicates how fast the company sells its i nventory during the year. The higher the number the better . Inventory Turnover = = COGS Inventory = \$1,344 \$422 3.2 18

### Slide 19:

Days’ Sales in Inventory (Inventory on Hand) 1. Would a Sales Manager want a low or high Days Sales in Inventory Ratio ? 2. Would a Chief Financial Officer want a low or high Days’ Sales in Inventory ratio? What is this Ratio Important? Why Calculate it? 19

### Slide 20:

Receivables Turnover and Days’ Sales in Receivables \$2,311 Sales \$188 Accounts Receivable = = = 12.3 Receivables Turnover Accounts Receivable Sales 2,311 188 20

### Slide 21:

Receivables Turnover and Days’ Sales in Receivables = = = Accounts Receivable Sales 2,311 188 = = = 30 days Day’s Sale in Receivables Receivables Turnover 365 365 12.3 12.3 Receivables Turnover 21

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Why is this Important? Why Calculate it? Receivables Turnover = = = Accounts Receivable Sales 2,311 188 12.3 Receivables Turnover Indicates amount of sales which are made by cash versus credit . The HIGHER the number, the better. Why? Higher ratio more sales are made by cash . It is better to have cash from a sale, than a receivable which will may or may not be collected. What if the ratio = 1? Sales = Accounts Receivable 22

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Why is this Important? Why Calculate it? Days’ Sales in Receivables = = = 30 days Day’s Sale in Receivables Receivables Turnover 365 365 12.3 The LOWER the number, the better. Why? Higher ratio more sales are made by cash. It is better to have cash from a sale, than a receivable which will hopefully be collected. If 30 days, roughly 1 month of sales has not been collected. If 60 days, roughly 2 months of sales has not been collected. 23

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Profit Margin = = = 15.7% Profit Margin 363 2,311 Sales Net Income Net Income Sales 2,311 363 24

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Why are they Important? Why Calculate them? Profitability Measures = = = 15.7% Profit Margin Net Income Sales 2,311 363 Profit Margin of 15.7%  For every \$100 in Sales, the company keeps \$15.70 after expenses. Profit Margin of 25%  For every \$100 in Sales, the company keeps \$25.00 after expenses . Profit Margin of 50%  For every \$100 in Sales, the company keeps \$50.00 after expenses. 25

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Internal Uses Why Analyze Financial Statements? 3. Compare with companies in same industry. What if Nike Profit Margin = 20% AND Rebook’s Profit Margin = 5%? Performance evaluation Planning for the future – estimating future cash flows. Profit Margin of 15% vs. 50% makes could drastically change company’s plans. 26

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External Uses Why Analyze Financial Statements? 4. Stockholders – own company stock. Creditors – owed money by our company. 2. Suppliers – owed money and rely on sales to our company. 3. Customers – regularly buy our products. 27

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Thank you for listening. 28