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

2. Comparative Analysis
Comparing financial statements for 2 consecutive years (increase/ decrease)
Percentage Change = Difference/ Base Year *100
Refer to Exercise #1 page 584 (t), page 471 (w)

3. 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

4. Common-size Example Example: Exercise #3 on handout Company A
Company B
Revenue
Sales $
100 % $
Expenses
Automotive Expense $
20.4% $
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%
51.0%
Other Expenses
1 800
0.91%
10 900
2.6%
Total Expenses $
73.2% $
86.2%
Net Income $
26.8% $
13.8%

5. 3. Trend Analysis
Shows financial data (as figures and percentages) over a number of consecutive periods
Exercise #1 on handout
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 %

6. Trend Analysis Example
Example: Exercise 2 on handout
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

7. Key Ratio & Percentage Analysis

8. 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

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

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

11. (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
Debt 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

12. Saturn Sales Company p. 585 (t), p. 473 (w)
Ratio
Formula/ Calculations
Comment
Current Ratio
CA = = 1.49:1 CL
Good, for ever $1 of debt, Saturn has $1.49 to pay = .49cents of working capital
Debt Ratio
Total L *100 = *100
Total A
= 35 %
Very good, only 35% of assets are financed by borrowed money
Equity ratio
Total OE*100 = *100
Total A
= 65 %
65% financed by owner’s investment
Return on Sales
Net Income*100 = *100
Sales
= 8.97 %
Fair; for every $1 sold, Saturn earned 9% profit
Return on Owner’s Equity
Net Income*100 = *100
Average OE ( )/2
= * 100
100350
= 30.7%
Very Good, for ever $1 investment earned 31 cents return on investment.

13. Ratio Exercises to be marked
Ex. 7 page (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
Part C: Decide whether Pluto Company should proceed with the purchase of Neptune Company and give evidence to support your opinion
Hand-in when completed DUE Monday
Quest Monday May 12

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