251NOTESCh12

251NOTESCh12 - Bus 251 D1 Fall 09-3 Chapter 12 Lecture...

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Bus 251 D1 Fall 09-3 Chapter 12 Lecture Notes Anne Macdonald 1
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FINANCIAL STATEMENT ANALYSIS There is no definitive set of rules or procedures for f/s analysis. Each user (i.e. banker, potential investor, …) must: Use the f/s ratios most appropriate for its concerns (e.g. liquidity, profitability, …) Understand the business, its risks and the economic factors that lead to success, in order to interpret the ratios Ratios by themselves are almost meaningless. They must be compared to something (to another company, to prior years, to the next best alternative, ….) in order to be INTERPRETED. Ratio analysis is a common tool used in performance analysis. Analysis of ratios may be: Cross-sectional Compares the data from two different companies, but in the same time period (should eliminate some environmental factors) More effective if companies are in the same industry, same country, and often of similar size Time-series Patterns in data over time from the same company Many F/S provide 5 and 10 year summaries of important financial information (sales, net income, total assets, # of employees … etc.). Standard f/s presentation in Canada provided comparative (2 year) B/S and I/S. 2
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READING THE FINANCIAL STATEMENTS: The auditor’s report should warn if GAAP are not used, and if there are any material misstatements . [This is an opinion on the appropriateness of the accounting, not a guarantee of future business success!] Note 1 (Significant accounting policy note ) describes the choices a company has made if more than one accounting policy is permitted under GAAP. E.g. Does a construction company working on long-term projects use: Percentage of completion smooth earnings pattern over time Completed contract method uneven earnings pattern On the I/S identify unusual items, extraordinary items or discontinued lines of business. They could/should be excluded when predicting future performance. Notes to the F/S – describe in detail the amounts in the f/s, and may indicate future transactions NOT captured in the f/s – e.g. commitments and contingencies. Other information in the Annual Report The Annual Report also includes summaries of past operations, a report from the Chairman, and management discussion and analysis. The latter two items include prospective or forward looking information . Predictions about future performance must also consider changes to the company’s circumstances and environment . 3
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BACK TO F/S RATIOS Ratios explore the relationships between f/s items. They have developed over time (in different formats) as different user groups believe they signal information to help predict company risk, and expected future performance. Not all ratios are useful for any one user.
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251NOTESCh12 - Bus 251 D1 Fall 09-3 Chapter 12 Lecture...

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