fin2 - An Introduction to Financial Statement Analysis and...

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ECON 333 Spring 08 1 An Introduction to Financial Statement Analysis and Long-term Planning “Objectively determinable current values of many assets do not exist. Faced with a trade-off between relevant, but subjective current values, and irrelevant, but objective historical costs, accountants have opted for irrelevant, but objective historical costs. This means that it is the user’s responsibility to make adjustments” Robert Higgins
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ECON 333 Spring 08 2 Financial Statements Analysis and Long-term Planning After studying this chapter you should be able to: – standardize financial statements for comparison purposes. – compute and interpret important financial ratios. – apply the percentage of sales approach to financial planning. – Understand how capital structure and dividend policies affect a firm’s ability to grow.
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ECON 333 Spring 08 3 This section covers the following points: 1. Financial Statements Analysis 2. Ratio Analysis 3. The Du Pont Identity 4. Using Financial Statement Information 5. Long-Term Financial Planning 6. External Financing and Growth 7. Some Caveats Regarding Financial Planning Models
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ECON 333 Spring 08 4 Analyzing Financial Statements Common-Size Balance Sheets – Compute all accounts as a percent of total assets Common-Size Income Statements – Compute all line items as a percent of sales Standardized statements make it easier to compare financial information, particularly as the company grows. They are also useful for comparing companies of different sizes, particularly within the same industry.
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ECON 333 Spring 08 5 Ratio Analysis Ratios also allow for better comparison through time or between companies. As we look at each ratio, ask yourself: – How is the ratio computed? – What is the ratio trying to measure and why? – What is the unit of measurement? – What does the value indicate? – How can we improve the company’s ratio?
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ECON 333 Spring 08 6 Categories of Financial Ratios Short-term solvency or liquidity ratios Long-term solvency, or financial leverage, ratios Asset management or turnover ratios Profitability ratios Market value ratios
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ECON 333 Spring 08 7 Computing Liquidity Ratios Current Ratio = CA / CL – 708 / 540 = 1.31 times Quick Ratio = (CA – Inventory) / CL – (708 - 422) / 540 = .53 times Cash Ratio = Cash / CL – 98 / 540 = .18 times
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ECON 333 Spring 08 8 Computing Leverage Ratios Total Debt Ratio = (TA – TE) / TA – (3588 - 2591) / 3588 = 28% Debt/Equity = TD / TE – (3588 – 2591) / 2591 = 38.5% Equity Multiplier = TA / TE = 1 + D/E – 1 + .385 = 1.385
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Spring 08 9 Computing Coverage Ratios Times Interest Earned = EBIT / Interest
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This note was uploaded on 02/18/2008 for the course ECON 3330 taught by Professor Mbiekop during the Spring '08 term at Cornell.

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fin2 - An Introduction to Financial Statement Analysis and...

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