AFM - Module 3
AFM - Module 3
MANAGERS – MODULE 3
Financial Analysis - Objectives
Identify the Strengths and Weaknesses of the Firm
Establish Relationship between Various Components
Decision Making
Objectives of financial statement analysis
Equity investors
Return on capital
Capital preservation
Credit grantors
Short-term – interest cover
Long-term – interest cover and capital preservation
Management
Decision making
Control
Objectives of financial statement analysis
Employees
Job security
Wage & salary negotiations
Auditors
Analytical review
Other/Tax authorities
Income fairly stated
Anatomy/Types of financial statements
Horizontal Analysis
Time
Horizontal Analysis
Time
The term horizontal analysis arises from left-
to-right (or right-to-left) movement of our
eyes as we review comparative financial
statements across time.
CLOVER CORPORATION
Comparative Balance Sheets
31-Dec
Dollar Percent
2004 2003 Change Change
Assets
Current assets:
Cash and equivalents $ 12,000 $ 23,500
Accounts receivable, net 60,000 40,000
Inventory 80,000 100,000
Prepaid expenses 3,000 1,200
Total current assets $ 155,000 $ 164,700
Property and equipment:
Land 40,000 40,000
Buildings and equipment, net 120,000 85,000
Total property and equipment $ 160,000 $ 125,000
Total assets $ 315,000 $ 289,700
Comparative Statements
Berry Products
Income Information
For the Years Ended 31 December
Item 2004 2003 2002 2001 2000
Revenues $ 400,000 $ 355,000 $ 320,000 $ 290,000 $ 275,000
Cost of sales 285,000 250,000 225,000 198,000 190,000
Gross profit 115,000 105,000 95,000 92,000 85,000
Berry Products
Income Information
For the Years Ended 31 December
Item 2004 2003 2002 2001 2000
Revenues $ 400,000 $ 355,000 $ 320,000 $ 290,000 $ 275,000
Cost of sales 285,000 250,000 225,000 198,000 190,000
Gross profit 115,000 105,000 95,000 92,000 85,000
Item 2004 2003 2002 2001 2000
Revenues 105% 100%
Cost of sales 104% 100%
Gross profit 108% 100%
Berry Products
Income Information
For the Years Ended 31 December
160
150
140
Percentage
130
Revenues
120
Cost of Sales
110 Gross Profit
100
2000 2001 2002 2003 2004
Year
Vertical Analysis V
e
r
Vertical Analysis is also called as common-size
t
i
analysis c
a
l
A
n
a
l
The term vertical analysis arises from the up-down y
(down-up) movement of our eyes as we review s
common-size financial statements. i
s
Common-Size Statements
Types
On Basis of On Basis of
Material Used Modus Operandi
Classification
Categorization Grouping
Interpretation
Comparative Common Size Trend Ratio Analysis Funds Flow Cash Flow
Statement Statement Analysis Statement Statement
Comparative Statement
Comparative Balance Sheet
Comparative Income Statement
Common Size Balance Sheet
Common Size Income Statement
Ratio Analysis
What is a Ratio?
What is Analysis?
Modes in which ratios can be presented:
Percentage
Proportion
Rate or Times
Nature of Ratio Analysis
Interpretation of Ratios
Single Absolute Ratios
Group Ratios
Historical Comparison
Projected Ratios
Inter Firm Comparison
Liquidity Ratios
Current Ratio
Formula: CA/CL
Acid Test/Quick/Liquid Ratio
Formula: Quick Assets/CL
Quick Assets = CA – (Prepaid Exp. + Inventory)
Repayment of Principal
Payment of Interest Due
Debt-Equity Ratio:
Approach 1: Formula:
Long-Term Debt/Shareholder’s Equity
Approach 2: Formula:
Total Debt/Shareholder’s Equity
Preference Share Capital – Debt OR Shareholder’s
Equity
Leverage/Capital Structure Ratios
Approach 2: Formula:
Total Debt/Total Assets
Total Debts = Long-Term Debt + Current Liabilities
Total Assets = Permanent Capital + Current Liabilities
Leverage/Capital Structure Ratios
Proprietary Ratio
Formula:Proprietor’s Fund/Total Assets
Also Known as Capital Gearing Ratio
Coverage Ratios
Computed from information available in P&L
Account.
Interest Coverage Ratio
Formula: EBIT/Interest
Dividend Coverage Ratio
Formula: EAT/Preference Dividend
Debt Service Coverage Ratio
Formula:(EAT + Interest + Depreciation + Other Non
Cash Expenses)/Instalment
Profitability Ratios – Related to Sales
Investors/Shareholders
Creditors
Owners
Types:
Profit
Margin Ratios
Expenses Ratios
Profitability Ratios – Related to Sales
Expenses Ratios
COGS Ratio
Formula: (COGS/Net Sales) X 100
Operating Expenses Ratio
Formula: (Operating Expenses/Net Sales) X 100
Operating Expenses = Administrative Expenses + Selling
Expenses
Operating Ratio
Formula: (COGS + Operating Expenses/Net Sales) X 100
Profitability Ratios – Related to
Investment
Return on Investment (ROI)
Return on Shareholder’s Equity (ROE)
Return on Capital Employed (ROCE)
CA increases
CL decreases
Rent Paid