FINC Stmt Analysis Unit 4

Liquidity and Efficiency Analysis

What is liquidity analysis?

The ability of a company to convert resources into cash to fulfill its short-term payments

What kind of relationship is there between profitability and liquidity?

inverse

What is the most liquid asset?

cash

If you want to maximize your liquidity you should have:

total assets = cash and equivalents

If you want to maximize profitability you need

to invest in fixed assets and a higher proportion of non-current assets which = lower liquidity

Working capital formula

Current Assets - Current Liabilities

What does a positive working capital mean?

The company has enough to fulfill its short-term obligations

Current Ratio formula

Current Assets/Current Liabilities

What does current ratio measure?

Whether the company has enough short-term assets to cover short-term debt

Do you want a high current ratio?

Yes

Why might current ratio lead to the wrong decisions/analysis over liquidity?

Some assets classified as ‘current’ are not easily transferred into cash (inventories)

What is the acid-test or quick ratio used for?

measuring whether the company can pay short-term debt without selling inventory

Acid-test/quick ratio formula

(Current Assets-Inventory)/Current Liabilities

Cash ratio interpretation

Expresses how many times a company can repay short-term creditors/current liabilities with its total cash

Cash ratio formula

Cash and cash equivalents/current liabilities

Cash to Current Assets or Liquidity Ratio interpretation

Which portion of the current assets is cash/available immediately

Cash to current assets ratio formula

Cash and cash equivalents/Current assets

What do efficiency ratios measure?

how well the company is using and managing its assets and liabilities internally

When efficiency increases how does profitability change?

it increases as well

Asset turnover ratio interpretation

measures the company’s efficiency in managing assets to generate sales

Asset Turnover formula

Total net sales/Total Assets

What could a high Asset Turnover Ratio mean?

The company has a high efficiency regarding asset use or the company is close to its total production capacity

What is the ROA formula that uses Asset Turnover ratio

Should you compare ROA of firms from different sectors?

no

Inventory turnover ratio interpretation

How many times the inventory have been replaced between t and t-1

*measures how efficiently a firm manages inventory

Inventory turnover formula

Salest/Average Inventory

Collection period interpretation

Average credit period offered to customers

Collection period formula

Average account receivables/daily sales

Average accounts receivables and daily sales formulas

Creditors turnover ratio interpretation

average credit period enjoyed from the creditors (# of days suppliers give us to repay them); high value = better credit conditions

Average credit (payment) period formula

average accounts payables/average daily purchases

Average daily purchases formula

Cost structure ratios interpretation

gives an overview of the necessary costs to achieve sales

Are cost structure ratios industry-specific?

Yes

What are the five ratios and their formulas?

Statement of Cash flow reports what?

cash generated and spent during a specific period of time

What are the three different sources of cash-flows?

What are the two ways to present and calculate operating cash-flow

Direct method: each category (operating, financing, investing) is presented individually and summed up

Indirect method: Starting from the net income, reconciliation is provided between profit and operating cash flow

Using the 2023 Airbus data (Annex), determine the exact value of Working Capital

Current assets - current liabilities

Negative (~ -6B to -8B)

A negative Cash Conversion Cycle (CCC) is most sustainable for which type of business model?

A negative Cash Conversion Cycle (CCC) is most sustainable for which type of business model?

A retailer/manufacturer with high bargaining power over suppliers and fast inventory turnover

Why might the Current Ratio rise while the company's liquidity position actually deteriorates?

Inventory is building up due to obsolescence (numerator increases but liquidity drops)

The 'Defensive Interval Ratio' measures:

How many days the company can operate using only its liquid assets without new revenue

If Days Sales Outstanding (DSO) increases significantly while Sales are flat, what is the most likely operational root cause?

Credit terms have been relaxed or customers are struggling to pay

Calculate the 'Days Sales Outstanding' (DSO) for 2023.

Approx 35-40 days

Calculate the 'Days Payable Outstanding' (DPO) for 2023 using Cost of Sales

Average AP/Average Daily Purchases

Average Daily Purchases = (COGS + EI - BI)/365

DPO = ((14,323+13,261)/2) / ((55,402+33,741-32,202)/365) = 88.41 days

Approx 85-95 days

Calculate the 'Inventory Days' (DIO) for 2023

Average Inventory/Average Daily Purchases

Average Daily Purchases = (COGS + EI - BI)/365

DIO = ((33,741+32,202)/2) / ((55,402+33,741-32,202)/365) = 211.35 days

Approx 200-220 days

Combine the previous results to estimate the Cash Conversion Cycle

(DIO + DSO - DPO)

Approx 160-170 days

Calculate the difference between the Current Ratio and the Quick Ratio in 2023. What does this gap represent?

The illiquid portion of current assets (Inventory)