CH. 4-5 FINANCE Analysis EXAM1, FIN

Balance Sheet

A financial statement showing assets, liabilities, and equity at a specific point in time.;

Balance Sheet Equation

Assets = Liabilities + Stockholders' Equity.;

Assets

Resources owned or controlled by a company that provide economic benefits.;

Liabilities

Amounts a company owes to creditors.;

Stockholders' Equity

Owners' residual claim on company assets after liabilities.;

Current Assets

Assets expected to be converted into cash, sold, or used within one year or the operating cycle.;

Current Liabilities

Obligations expected to be paid within one year or the operating cycle.;

Cash and Cash Equivalents

Highly liquid assets available for immediate use.;

Accounts Receivable

Money customers owe the company for credit sales.;

Inventory

Goods held for sale or used in production.;

Accounts Payable

Money a company owes suppliers for purchases on credit.;

Notes Payable

Borrowed funds supported by a formal promise to repay.;

Retained Earnings

Accumulated earnings kept in the business instead of paid out as dividends.;

Income Statement

A statement showing revenues, expenses, and profit over a period.;

Net Sales

Sales revenue after returns, allowances, and discounts.;

COGS

Cost of Goods Sold; the cost of products sold during the period.;

Gross Profit

Net Sales − Cost of Goods Sold.;

EBIT

Earnings Before Interest and Taxes; operating earnings before interest and income taxes.;

EBT

Earnings Before Taxes; earnings after interest expense but before income taxes.;

Net Income

Profit remaining after all expenses, including interest and taxes.;

Net Income Formula

Net Income = EBT − Taxes.;

Depreciation

Allocation of a tangible long-term asset's cost over its useful life; a noncash expense.;

Statement of Cash Flows

A statement showing cash inflows and outflows from operating, investing, and financing activities.;

Operating Cash Flows

Cash flows from the company's main business operations.;

Investing Cash Flows

Cash flows from buying and selling long-term assets and investments.;

Financing Cash Flows

Cash flows involving borrowing, repaying debt, issuing stock, or paying dividends.;

Statement of Stockholders' Equity

Shows changes in owners' equity during a period.;

Net Working Capital (NWC)

Current Assets − Current Liabilities.;

Net Operating Working Capital (NOWC)

Operating current assets minus operating current liabilities.;

NOWC Formula

(Current Assets − Excess Cash) − (Current Liabilities − Notes Payable).;

NOPAT

Net Operating Profit After Taxes; EBIT × (1 − Tax Rate).;

Capital Expenditures (CAPEX)

Money spent acquiring or improving long-term operating assets.;

Free Cash Flow (FCF)

Cash available to investors after operating costs, taxes, and required investment in operating assets.;

FCF Formula

FCF = EBIT(1 − T) + Depreciation and Amortization − CAPEX − Change in NOWC.;

Change in NOWC

Ending NOWC − Beginning NOWC.;

Increase in NOWC

Usually reduces free cash flow because more cash is tied up in operations.;

Increase in Depreciation

Reduces accounting earnings but is added back in the FCF calculation because it is noncash.;

Market Value

What an asset or security could currently sell for.;

Book Value

The accounting value reported in financial statements.;

Positive Net Income vs. Positive Cash Flow

A company can report a profit without receiving the same amount of cash.;

Financial Statements vs. Ratios

Statements report financial amounts; ratios compare amounts to evaluate performance.Financial Ratio

Ratio Analysis

Using financial ratios to assess performance and compare companies or time periods.;

Benchmark

A reference point used to evaluate a company's ratios.;

Trend Analysis

Comparing a company's financial performance across different periods.;

Cross-Sectional Analysis

Comparing a company with other companies, usually in the same industry.;

Liquidity Ratios

Measure the ability to meet short-term financial obligations.;

Current Ratio

Current Assets ÷ Current Liabilities.;

Quick Ratio

(Current Assets − Inventory) ÷ Current Liabilities.;

Higher Current Ratio

Generally indicates greater ability to cover short-term liabilities, but can also reflect excess idle assets.;

Asset Management Ratios

Measure how efficiently a company uses assets to generate sales.;

Inventory Turnover

Net Sales ÷ Inventory, using your professor's formula.;

Inventory Turnover Interpretation

Shows the amount of net sales generated per dollar of reported inventory.;

Total Asset Turnover

Net Sales ÷ Total Assets.;

Fixed Asset Turnover

Net Sales ÷ Net Fixed Assets.;

Days Sales Outstanding (DSO)

Average number of days it takes to collect sales made on credit.;

DSO Formula

Accounts Receivable ÷ (Annual Sales ÷ 365).;

High DSO

Can indicate that customers are taking longer to pay.;

Debt Management Ratios

Measure financial leverage and the ability to handle debt.;

Debt Ratio

Total Debt ÷ Total Assets.;

Debt-to-Equity Ratio

Total Debt ÷ Total Equity.;

Times Interest Earned (TIE)

EBIT ÷ Interest Expense.;

Times Interest Earned Interpretation

Shows how many times operating earnings cover interest expense.;

Financial Leverage

Using debt or other fixed-obligation financing to fund assets.;

Profitability Ratios

Measure how effectively a company generates profit.;

Profit Margin

Net Income ÷ Net Sales.;

Profit Margin Interpretation

The portion of each sales dollar that becomes net income.;

Return on Assets (ROA)

Net Income ÷ Total Assets.;

ROA Interpretation

How much net income is earned for each dollar of assets.;

Return on Equity (ROE)

Net Income ÷ Total Equity.;

ROE Interpretation

How much net income is earned for each dollar of shareholders' equity.;

Valuation Ratios

Compare stock market values with earnings or accounting measures.;

Earnings Per Share (EPS)

Earnings available to common shareholders ÷ Common Shares Outstanding.;

Price-to-Earnings Ratio (P/E)

Market Price per Share ÷ Earnings per Share.;

P/E Ratio Interpretation

How much investors pay for each dollar of annual earnings per share.;

Market-to-Book Ratio

Market Price per Share ÷ Book Value per Share.;

Book Value per Share

Common Shareholders' Equity ÷ Common Shares Outstanding.;

DuPont Equation

ROE = Profit Margin × Total Asset Turnover × Equity Multiplier.;

Equity Multiplier

Total Assets ÷ Total Equity.;

DuPont: Profit Margin

Measures how efficiently sales turn into net income.;

DuPont: Asset Turnover

Measures how efficiently assets generate sales.;

DuPont: Equity Multiplier

Measures the role of financial leverage in ROE.;

Regular ROE vs. DuPont

Both calculate ROE; DuPont breaks ROE into profitability, asset efficiency, and leverage.;

High ROE

May result from strong profitability, efficient assets, or greater leverage; investigate the cause.;

Ratio Analysis Limitation

Industry differences, accounting methods, and economic conditions can make comparisons misleading.