1. FIN 360: Corporate Finance
Topic 3: Analysis of Financial Statements
Larry Schrenk, Instructor

2. Today’s Outline
Project and Exam
The Ratios
Uses of Ratios

3. 1. Project and Exam

4. 1. Course Project Financial Analysis Calculate Ratios
See Example for Specific Ratios
Perspective: Equity Investor
Analysis
Three Traditional Ratios (Only)
One Custom Ratio
One Page

5. 1. Exam 1 Format 10 short answer; 5 calculations Only calculator
Coverage: Topics 1-3
Required ratios on Exam 1 Study Guide

6. 2. The Ratios

7. Classification Short-Term Solvency (Liquidity)
Long-Term Solvency (Leverage)
Efficiency
Profitability
Market Value

8. A. Short-Term Solvency

9. Short-Term Solvency: Analysis
Form
Purpose
Short-Term Liquidity
Can the Firm Meet Current Obligations?

10. Short-Term Solvency: The Ratios
Cash Ratio
Quick Ratio
Current Ratio

11. Liquidity Ratio Analysis
Liquidity–Ability to Convert Assets to Cash with Significant Loss of Value
Differing Time Horizons for Liquidity
Cash Ratio???
Quick Ratio???
Current Ratio???

12. A Custom Ratio Example
A New Coverage Ratio
Application?

13. B. Long-Term Solvency

14. Long-Term Solvency Measures of the Long-Term Viability of the Firm
Two Metrics
Degree of Leverage
Coverage

15. Long-Term Solvency: Degree of Leverage Analysis
Form
Purpose
Long-Term Liquidity
Is the Total Amount of Debt Reasonable?
Can the Firm Remain Solvent?

16. Long-Term Solvency: Degree of Leverage Ratios
Total Debt Ratio
Debt/Equity Ratio
Equity Multiplier
Conversions

17. Long-Term Solvency: Coverage Analysis
Form
Purpose
Short-Term Liquidity
Can the Firm Service its Long-Term Obligations?
Is Bankruptcy a Concern?

18. Long-Term Solvency: Coverage Ratios
Times Interest Earned (TIE)
Cash Coverage

19. C. Efficiency

20. Efficiency: Analysis Form Purpose
How Efficiently does the Firm Use the Value Invested in each Asset?
Balance Sheet Assets as Portfolio
Liquidity-Return Trade-Off
Turnover versus ‘Days Sales’

21. Turnover Analysis Sales as Goal Example
Total Asset Turnover Ratio–Sales versus a Dollar Spend on Total Assets
Example
Total Asset Turnover Ratio = 5x
$1.00 in Assets Generates $5.00 in Sales on Average.

22. Efficiency: The Inventory Ratios
Inventory Turnover
Days’ Sales in Inventory

23. Efficiency: The Receivables Ratios
Receivables Turnover
Days’ Sales in Receivables

24. Efficiency: The Asset Ratios
Total Asset Turnover
Fixed Asset Turnover

25. Customized Efficiency Ratios
Denominator
Any Balance Sheet Asset
Numerator
Any Firm Goal

26. D. Profitability

27. Profitability: Analysis
Form
Purpose
Is the Firm Generating Reasonable Earnings Relative to
Total Assets
Equity
NOTE: Accounting Measures

28. Profitability: The Ratios
Profit Margin
Return on Assets (ROA)
Return on Equity (ROE)

29. T-S-P
You are considering investing in the bonds of a firm. Which ratio is the most important for your decision:
Current Ratio
Long-Term Debt Ratio
TIE Ratio
Cash Coverage Ratio

30. E. Market Values

31. Market Value: Analysis
No Common Form
No Common Purpose
Commonality: Market Data

32. Market Value: Analysis
Share Price (Dec. 2002) $31.30
PE Ratio
Market-to-Book Ratio

33. 4. Using Ratios

34. Comparisons Time-Trend Analysis Peer Group Analysis
Firm’s Performance over Time
Peer Group Analysis
Similar Companies or Industry Analysis

35. My Principles Consider the Perspective Toolbox Approach Annualization
Anomalies/Accounting Numbers
Red Flags
Customized Ratios
No Rules

36. Some Cautions No Underlying Theory Diversified Firms Globalization
Varying Accounting Procedures
Different Fiscal Years