Review Analyzing Financial Statements 3 methods to analyze financial statements Comparative Analysis Common-Size Analysis Trend Analysis

Comparative Analysis Comparing financial statements for 2 consecutive years (increase/ decrease) Percentage Change = Difference/ Base Year *100 Refer to Exercise #1 page 266 (t), page 187 (w) (took up as a class on Friday)

2. Common-Size Analysis Financial Statements are based on a common percentage Income statement: Revenue represents 100%, all other accounts will be compared to this figure and analyzed Balance Sheet: Total Assets represent 100%, the % of each asset will be compared to Total Assets %. Total Liabilities & Owner’s Equity will represent 100% and liability and owner’s equity figures will be compared to Total Liabilities & Owner’s Equity

Common-size Example Example: Exercise #5 page 268 (t), page 190 (w) Company A Company B Revenue Sales $197 000 100 % $421 000 Expenses Automotive Expense $ 40 200 20.4% $ 80 270 19.1% Bank Interest Expense 3 500 1.8% 27 050 6.4% Rent Expense 12 000 6.1% 30 000 7.1% Wages Expense 86 750 44.0% 214 860 51.0% Other Expenses 1 800 0.91% 10 900 2.6% Total Expenses $144 250 73.2% $363 080 86.2% Net Income $ 52 750 26.8% $ 57 920 13.8%

3. Trend Analysis Shows financial data (as figures and percentages) over a number of consecutive periods Exercise #2 page 267 (t), page 188 (w) Year 1 Year 2 Year3 Year 4 Year 5 Sales $20 700 $22 356 $23 184 $23 805 $24 219 Percent of Year 1 100 % 108 % 112 % 115 % 117 % Increase in Percentage 8 %

Trend Analysis Example Example: Exercise #3, page 267 (t), 188 (w) Year 1 %* Year 2 Year 3 Year 4 Year 5 Sales $57 000 100% $58 254 102.2 $58 767 103.1 $59 223 103.9 $59 451 104.3 Expenses $35 000 $36 050 103% $36 575 104.5 $36 785 105.1 $37 520 107.2 Net Income $22 000 $22 204 100.9 $22 192 $22 438 102 $21 931 99.7 *% of first year

Key Ratio & Percentage Analysis November 07, 2011

Now that we have worked with percentage changes in comparative, common-size, and trend analysis, let’s apply these changes as ratios and percentages that will help to interpret the financial statements of a business

Define Solvency: Liquidity: A company’s ability to pay its debt How quickly assets can be converted into cash

Ratios divided into 2 groups Liquidity or solvency ratios: Used to decide how easily a company can pay its debts Profitability ratios: Used to evaluate a company’s ability to ear profit

(Beginning + Ending Capital) Ratio Formula Purpose of Ratio Current Ratio or Working Capital Ratio Ex. 1.5:1 Current Assets Current Liabilities to calculate a company’s ability to pay current debt for ever $1 of CL, CA has $1.50 to pay off Debit Ratio 40% Total Liabilities Total Assets  How much of total assets are financed by borrowed money? Equity Ratio 60% Total Owner’s Equity  How much of total assets are financed by owner’s investment? Rate of Return on Sales Net Income Revenue (Sales) For every $1 sold, how much profit is made OR % remaining after expenses deducted Rate of Return on Owner’s Equity (Beginning + Ending Capital) 2 Average O.E  Shows how well company performs using owner’s investment (return for owner investment) * 100 *100 * 100 * 100

Saturn Sales Company Ratio Formula/ Calculations Comment Current Ratio CL 42 970 Good, for ever $1 of debit, Saturn has $1.52 to pay = .52cents of working capital Debit Ratio Total L *100 = 108 670 *100 Total A 309 370 = 35 % Very good, only 35% of assets are financed by borrowed money Equity ratio Total OE*100 = 200 700 *100 Total A 309 370 = 65 % 65% financed by owner’s investment Return on Sales Net Income*100 = 30 805 *100 Sales 343 342 = 8.97 % Fair; for every $1 sold, Saturn earned 9% profit Return on Owner’s Equity Net Income*100 Average OE = 30 805*100 (100 000 +200700/2) = 20.49% Very Good, for ever $1 investment earned 20 cents return on investment.

Ratio Exercises to be marked Calculate the five ratios for Exercise 1 page 618-619 (t) & 5 page 621-623 (t) on a blank sheet of paper Be sure to include the formula, numbers used to calculate the ratio, and a brief explanation of whether the ratio calculation is poor, fair, good, or very good Hand-in when completed

When Done complete the following: Complete exercises from Friday (back of Friday’s Handout) Exercise 3a&b, 4a,b,c, and 6a&b p. 277-279 (t), p. 194-198 (w) Exercise 1,2,3,4 p. 296-299 (t), p. 213-215 (w) Review questions #1-5 p. 266 (t), p.186 (w), #8-13 p. 275(t), p.192 (w), #1-14 p. 282 (t), p.198 (w)