1. Financial Statement Analysis Every Ratio Tells a Story

2. Financial Statement Analysis Financial statement analysis can be conducted at the company, segment or divisional level. At the company level, the purpose is usually an investment or lending decision. At the segment or divisional level, the purpose can be performance evaluation, a funding decision, or an acquisition or divestiture decision.

3. Types of Financial Statement Analysis Tools Account-by-account trends over time Percentage of individual accounts to an aggregate total –Such as income statement items to revenue or COGS Ratio analysis

4. Account-by-account trends over time 20032004200520062007 Revenues (billions) percentage increase $4.1 24% $5.3 30% $6.4 20% $7.8 22% $9.4 $21% Starbucks

5. Comparison of Individual Accounts to an Aggregate Total 2007 Barr LabsPfizer Revenues COGS Gross Profit R & D S.G.&A. Other Income before taxes 100% 47% 53% 10% 31% 4% 8% 100% 23% 77% 17% 32% 9% 19%

6. Financial Ratios Liquidity ratios Long-term solvency ratios Profitability ratios Ratios using stock price

7. Liquidity Ratios Current Ratio Quick Ratio Days Accounts Receivable Days Inventory Inventory Turnover

8. Current Ratio AssetsLiabilities & Equity Cash & equivalents Accounts receivable Inventory Other current assets Current Assets P.P.&E. Other assets Total assets Accounts Payable Other current liabilities Current Liabilities Long-term debt Total liabilities Equity Total liabilities & equity

9. Current Ratio Microsoft 2007 (billions) Current Assets Current Liabilities = $24 $40 =1.7

10. Quick Ratio AssetsLiabilities & Equity Cash & equivalents Accounts receivable Inventory Other current assets Current Assets P.P.&E. Other assets Total assets Accounts Payable Other current liabilities Current Liabilities Long-term debt Total liabilities Equity Total liabilities & equity

11. Quick Ratio Enron 1999 (billions) Cash & cash equivalents + accounts receivable Current liabilities = $6.7 $3.8 =0.57

12. Days Accounts Receivable Macy’s Inc. 2007 (millions) Average net accounts receivable x 365 Net sales = $26,313 (463 + 517)/2 x 365 =6.8

13. Days Accounts Receivable Timberland 2007 (millions) Average net accounts receivable x 365 Net sales = $1,436 (188 + 204)/2 x 365 =50

14. Days Inventory Hewlett-Packard 2007 (billions) Average inventory x 365 Cost of goods sold = $63.4 ($8.0 + $7.8)/2 x 365 =45

15. Inventory Turnover Hewlett-Packard 2007 (billions) Cost of goods sold Average inventory = ($8.0 + $7.8)/2 63.4 =8 Note: 8 x 45 = 360 days

16. Long-term Solvency Ratios Equity-to-Assets Equity-to-Debt

17. Equity to Assets AssetsLiabilities & Equity Cash & equivalents Accounts receivable Inventory Other current assets Current Assets P.P.&E. Other assets Total assets Accounts Payable Other current liabilities Current Liabilities Long-term debt Total liabilities Equity Total liabilities & equity

18. Equity to Assets Apple 2007 (billions) Shareholders’ Equity Total Assets = $25.3 $14.5 =0.57

19. Equity to Debt AssetsLiabilities & Equity Cash & equivalents Accounts receivable Inventory Other current assets Current Assets P.P.&E. Other assets Total assets Accounts Payable Other current liabilities Current Liabilities Long-term debt Total liabilities Equity Total liabilities & equity

20. Equity to Debt Apple 2007 (billions) Shareholders’ Equity Total Debt = zero $14.5 = ∞

21. Profitability Ratios Return on Assets (ROA) Return on Sales (ROS) Return on Equity (ROE) Earnings per Share (EPS)

22. Profitability Ratios Return on Assets (ROA) net income ÷ average total assets Return on Sales (ROS) net income ÷ net sales Return on Equity (ROE) net income ÷ average common equity Earnings per Share (EPS) earnings available to common shareholders ÷ weighted average common shares outstanding

23. Southwest Airlines Return on Assets (ROA) $499 ÷ $13,732 = 3.6% Return on Sales (ROS) $499 ÷ $9,086 = 5.5% Return on Equity (ROE) $499 ÷ $6,562 = 7.6% Earnings per Share (EPS) $0.63 per share (from the income statement) 2006

24. Market Tests Price-Earnings Ratio Market to Book

25. Price Earnings Ratio (earnings multiple) Apple 2007 Share price Earnings per share = $4.04 $111 =27

26. Market to Book Apple 2007 (billions) Market value of all shares outstanding* Book value of common equity = $14.5 $74.5 =5.1 * Most easily obtained from the first page of the 10-K