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Three basic accounting statements: Income statement – provides information on the revenues and expenses of the firm, and the resulting income made by the firm, during a period. - PowerPoint PPT Presentation
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Three basic accounting statements:• Income statement – provides information on the
revenues and expenses of the firm, and the resulting income made by the firm, during a period.
• Balance sheet – summarizes the assets owned by a firm, the value of these assets, and the mix of financing used to finance these assets at a point in time.
• Statement of cash flows – specifies the sources and uses of cash to the firm from operating, investing, and financing activities during a period.
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Typical financial statements we encounter in the classroom
Income Statement
SalesCost of Goods SoldGross ProfitSelling, General, & Administrative ExpensesEarnings Before Interest and TaxesIncome Tax ExpenseNet Income
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RevenueCost of goods soldGross profitOperating expenses Selling, general and adminstrative expensesEBITDADepreciation and amortizationEBIT Interest Interest expense Interest incomeEBTIncome tax expenseNet income before non-recurring events and non-controlling interestsNon-recurring events Discontinued operationsNet income after non-recurring eventsDistributions Income attributable to non-controlling interestsNet income
Usually part of CGS or SG&A. Make sure that if you break it out this way, that you subtract it from CGS or SG&A
Make sure these are really non-recurring. If they always appear think about whether it should be included as part of operations.
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Measures of profitability from operating activities
SalesNetIncome
SalestEBIT
SalesEBITDA
SalesCGSSales
Margin IncomeNet
1Margin Operating
MarginEBITDA
MarginProfit Gross
One way to generate these ratios is to construct common-size Income Statements.
Quick review: common-size financial statements are financial statements expressed in percentage terms. For example, common-size Income Statements would express line items as a percentage of sales; common-size Balance Sheets would express line items as a percentage of Total Assets
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Typical financial statements we encounter in the classroom
Cash Accounts PayableAccounts Receivable Notes PayableInventory Accrued LiabilitiesOther Current Assets Total Short-term LiabilitiesTotal Current Assets Long-Term DebtProperty, Plant & Equipment Capital LeasesIntangible Assets Total LiabilitiesGoodwill Stockholders' EquityTotal Assets Total Liabilities & Stockholders' Equity
Balance Sheet
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Measures of Profitability• Return on Equity – examines profitability from the
equity investor’s perspective
– DuPont Identity – shows the components of ROE; useful for tracking down the sources of profitability from a shareholders’ perspective
BVEquityNetIncomeROE
BVEquityNetIncome
BVEquitysTotalAsset
sTotalAssetSales
SalesNetIncomeROE
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• Asset turnover – measures how effectively a company utilizes its capital.
• Equity multiplier – another measure of leverage
BVEquitysTotalAssetiplierEquityMult
sTotalAssetSalesverAssetTurno
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• Return on capital – measures the profitability of the overall firm
• Return on Assets – measures operating efficiency in generating profits from assets, before the effects of financing
sTotalAssettEBITROA
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BVEquityBVDebt
tEBITBVCapital
tEBITROC
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Measures of Financial Stability
• Debt refers to interest-bearing debt: S/T debt + Current portion of L/T debt + L/T debt + Capital leases. It does not include payments to suppliers such as Accounts Payable
• We can use book values or market values when calculating the ratios above. In most instances, we will be using market values.
EquityDebtDebt Ratio Capital Debt to
EquityDebt RatioEquity Debt to
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• Gearing – this ratio shows how much net debt is covered by shareholders’ equity
• Capex ratio – measures how much capital investments are needed to generate profits
Operating cash flows = EBIT(1- tax rate) + depreciation
EquityrsShareholdetshEquivalenCashAndCasDebtGearing
'
ashFlowOperatingCendituresCapitalExpCapexRatio
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• Goodwill ratio – this can be used as a measure of “latent” impairments that could significantly affect the balance sheet (impairments reduce total assets and shareholders’ equity)
EquityrsShareholdeGoodwilltioGoodwillRa
'
sTotalAssetGoodwilltioGoodwillRa
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A note on “Comprehensive Income” and dirty surplus accounting
• Comprehensive income = net income + other comprehensive income• Dirty surplus items are items that are allowed under GAAP to bypass
the income statement and be reported directly either into shareholders’ equity or as a footnote to the financial statements or in a separate statement
• These items are gains and/or losses that have not yet been realized (usually changes in assets or liabilities, arising from changes in market prices. See items on next slide). Once they are realized (e.g., sale of securities, subsidiaries), these items are moved to net income.
• These items are usually collectively labeled as – Accumulated other comprehensive income/loss– Other comprehensive income/loss– Accumulated non-owner equity account changes
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• Dirty surplus items allowed under GAAP– Unrealized fair value gains and losses on available-
for-sale investment securities– Foreign currency translation gains and losses– Changes in assets and liabilities related to
pensions and postemployment benefits– Effects of cash flow hedges
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• Sources:
– Damodaran, Investment Valuation, 2nd ed.– Palepu and Healy, Business Analysis and Valuation Using Financial
Statements, 4th ed.– Schmidlin, The Art of Company Valuation and Analysis– Wahlen, Baginski, and Bradshaw, Financial Reporting, Financial
Statement Analysis, and Valuation
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