In-Depth Notes on Financial Statement Analysis and Planning Tools

Lesson 4: Financial Statement Analysis

• Liquidity Ratio: Measures the company's ability to pay short-term financial obligations with current assets.

  • Liquid Assets: Assets that can be quickly converted to cash.
  • Current Assets: Assets convertible to cash within 12 months.
  • Current Ratio: $\frac{current ext{ }assets}{current ext{ }liabilities}$
  • Quick Ratio: $\frac{current ext{ }assets - inventories}{current ext{ }liabilities}$ or $\frac{cash + cash ext{ }equivalents + marketable ext{ }securities + AR}{current ext{ }liabilities}$

• Profitability Ratio: Measures business earnings as a percentage.

  • Return on Equity (ROE): $\frac{Net ext{ }Income}{Average ext{ }shareholders' ext{ }equity}$
  • Return on Assets (ROA): $\frac{Net ext{ }Income}{Average ext{ }total ext{ }assets}$
  • Gross Profit Margin: rac{Gross ext{ }Profit}{Net ext{ }Sales} imes 100 ext{%}
  • Net Profit Margin: rac{Net ext{ }Income}{Net ext{ }Sales} imes 100 ext{%}
  • Operating Profit Margin: rac{Operating ext{ }Profit}{Net ext{ }Sales} imes 100 ext{%}

• Financial Leverage: The use of debt in a company's capital structure.

  • Debt Ratio: $\frac{Total ext{ }Liabilities}{Total ext{ }Assets}$
  • Debt to Equity Ratio: $\frac{Total ext{ }Liabilities}{Total ext{ }Equity}$
  • Interest Coverage Ratio: $\frac{EBIT}{Interest ext{ }Expense}$

• Efficiency Ratios: Measure how well a company utilizes its assets and manages its operations.

  • Accounts Receivable Turnover Ratio: $\frac{net ext{ }sales}{average ext{ }accounts ext{ }receivable}$
  • Inventory Turnover Ratio: $\frac{COGS}{average ext{ }inventory}$
  • Total Asset Turnover Ratio: $\frac{net ext{ }sales}{average ext{ }total ext{ }assets}$
  • Cash Conversion Cycle: Links how quickly a company can convert its investments in inventory and accounts receivable into cash flows from sales.

Lesson 5: Vertical and Horizontal Analysis

• Vertical Analysis: Each line item in the financial statement as a percentage of a base amount.

  • Common-size analysis for comparison between companies of different sizes.
  • Balance Sheet: Items as % of total assets; Income Statement: Items as % of net sales.

• Horizontal Analysis: Evaluates the performance over time.

  • Calculating Changes:
  • Amount of Change: $current ext{ }year - base ext{ }year$
  • Percent of Change: $\frac{amount ext{ }of ext{ }change}{base ext{ }year ext{ }amount}$

Lesson 6: Financial Planning Tools & Concepts

• Financial Planning: Projects future sales, income, and assets based on strategies。

  • Long-Term Plans: Goals for overall direction, integrated strategies across departments, with a 2-10 year focus.
  • Short-Term Plans: Specific actions to meet long-term goals, operational details emphasized over a 1-year period.

• Financial Planning Process:

  1. Set goals.
  2. Identify resources.
  3. Identify tasks.
  4. Establish accountability.
  5. Set evaluation systems.
  6. Plan for contingencies.

• Budgeting: Quantitative monetary plan.

  • Sales Budget: Projects sales volume and revenue.
  • Production Budget: Plans production based on sales forecasts and inventory requirements.
  • Operating Budget: Covers variable and fixed operating costs.
  • Cash Budget: Estimates cash inflows and outflows, critical for financial management.

• Factors Influencing Sales:

  • External: Economic factors, competition, regulatory environment.
  • Internal: Management, production capacity, financial resources.

• Cash Budget Steps:

  1. Forecast sales and collections.
  2. Identify receipts and disbursements.
  3. Maintain a required cash balance for contingencies.