Corp Fin Ch.3 concepts

Ratios analysis

time-trend analysis and cross-sectional analysis

time-trend analysis

compare to its own past performance

cross sectional analysis

compare to industry peers, sector, or a benchmark

low debt to equity ratio

lower borrowing risk

common size balance sheet

all items expressed as a percentage of total assets

common size income statement

all items expressed as a percentage of sales

liquidity, short-term solvency

measure a companys ability to cover its impending obligations

profitability

What does liquidity trade off with?

Higher value

what is more desirable for liquidity ratios

asset management

measures how efficiently the firm uses the assets

receivable turnover

measures how many times a business can turn its accounts receivable into cash during a reporting period

higher

what is desirable for turnover ratios?

days’ sales in receivables

measures the number of days it takes a company to collect cash from its sales

lower

what is desirable for day’s sales in - ratios?

inventory turnover

measures how many times a business can turn its inventory into cash during a period

days’ sales in inventory

measures the number of days it takes a company to sell all its inventory

True

turnover and days’ sales ratios vary with industry

asset turnover

measures how many sales are generated from each dollar of company assets

capital intensity

measures show how many assets are needed to generate $1 in sales

higher

what indicates capital intensive industries?

total debt

measures the proportion of total assets that are financed by debt

lower

what is desirable for solvency ratios?

debt to equity

measures the percentage of company financing that comes from creditors versus shareholders

equity multiplier

measures the amount of a firm’s assets that are financed by its shareholders

total debt and total assets from total debt ratio correspond to debt to equity and equity multiplier

Mathematical relationship between total debt, debt equity, and equity multiplier ratios

long term financial leverage ratios

proportion of debt carried

long term coverage ratio

ability to serve interest obligation

higher

what is desirable for long term coverage ratios?

times interest earned

measures how many times a business operation income can be used to cover interest expenses

cash coverage ratio

measures a company’s ability to pay off its interest expenses with its cash flows

profit margin

measures the amount of net income earned with each dollar of sales

return on assets

measures the net income produced by total assets during a period

return of equity

measures the firms ability to generate profits from its shareholders investments in the company

higher

what is desirable for profitability ratios

price-earnings ratio

measures its current share price relative to is per-share earnings

High PE ratio

indicates high future growth potential

small EPS

results in large PE ratio

Trailing PE ratio

uses most recent earnings

Forward PE ratio

uses projected earnings

Market to book ratio

measures a companys current total market value relative to its total book value of equity

at least 1

MB ratio should be ____ to successfully create values for shareholders

price to sales ratio

measures the value investors put on a company for each dollar of revenue generated by the firm

shareholders, creditors, financial managers

who care about financial ratios?

different time frames, accounting methods, and definitions

limitations of ratio analysis

Dupont identity ratio equation

net income / total equity

internal growth rate

maximum growth rate a firm can achieve without external financing

sustainable growth rate

maximum growth rate a firm can achieve without external financing while maintaining a constant debt-equity ratio

holding sales constant, lower production costs will

increase net income, raising return on equity