Analysis Interpretation of FinStatements (1)

ANALYSIS AND INTERPRETATION OF

FINANCIAL STATEMENTS

Introduction to Business Finance (Fall 2015) 1

Balance Sheet shows a firm’s accounting value on a particular date…

• Assets are listed in order of liquidity.• Assets are recorded at historical or fair

market values.


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Basic Accounting Equation says…Assets = Liabilities + Shareholders’ Equity

CurrentAssets

Fixed Assets1.Tangible fixed assets2.Intangible fixed assets

Current Liabilities

Non-current Liabilities

Shareholders’ Equity

Total Value of Assets Total Value of Liabilities and Shareholders’ Equity


Income Statement measures a firm’s performance over a period of time…

Sales $2000Less: Cost of Good Sold 1200Gross Profit 800Less: Selling and Adm. Expenses 300 EBIT/Operating Income 500Less: Interest 100Taxable Income 400Tax (50%) 200Net Profit $200Less: Preferred Dividends 80Income available to CSH $120


Net Income on income statement is not necessarily the cash income…

The figures on the Statement of Financial Performance may differ from actual cash inflows and outflows during a period due to:– Revenues and costs being recorded when they

are realized, not when they are received or paid.– The existence of non-cash items such as

depreciation.


Statement of cash flows summarizes the sources and uses of cash over a specified period…

• Sources of cash are those activities that bring in cash.

• Uses of cash are those activities that involve spending cash.


Cash Flow Statement divides the cash changes into three main categories:– Operating activities—includes net profit and

changes in operating current accounts

– Investment activities—includes changes in fixed assets and financial investments

– Financing activities—includes changes in notes payable, long-term debt and equity accounts as well as dividends.


LUCKY CEMENT

Three sets of parties are interested in financial analysis…

• Shareholders

• Creditors

• Management


There are different methods of analyzing the financial position and performance…

• Common-Size Statements– Horizontal Analysis– Vertical Analysis

• Ratio Analysis– Trend Analysis– Cross-sectional Analysis


Common-Size Statements are Financial statements that show

only percentages and no absolute dollar amounts…


HORIZONTAL & VERTICAL ANALYSIS

Is based on:1. Profit and Loss Statement2. Balance Sheet


LUCKY CEMENT

2009 2010 2011 2012 2013 2014Turnover 26,330,404 24,508,793 26,017,519 33,322,535 37,810,456 43,083,169Cost of Sales 16,519,138 16,529,932 17,306,400 20,601,261 21,054,058 24,393,064Gross Profit 9,811,267 7,978,861 8,711,119 12,721,274 16,756,398 18,690,105Distribution Cost 2,427,837 3,433,047 3,236,425 3,236,721 3,664,019 3,382,156Administrative Cost 165,936 303,244 313,389 474,135 680,347 760,269Operating Profit 7217494 4,242,570 5,161,305 9,010,418 12,412,032 14,547,680Finance Cost 1236971 569,184 517,788 253,234 75,829 34,225(Other Income)/Charges 803,521 255,872 322,996 433,207 590,335 57,090Profit before taxation 5177002 3417514 4320521 8323977 11745868 14456365Taxation 580453 280057 350121 1541561 1997106 3111962Profit after taxation 4596549 3137457.00 3970400 6782416 9748762 11344403Other Comprehensive Income - - - - -34814 -663Total Comprehensive Income 4596549 3137457 3970400 6782416 9713948 11343740

PROFIT AND LOSS STATEMENTfigures in (Rs. 000)

LUCKY CEMENT2009 2010 2011 2012 2013 2014

Assets EmployedProperty, plant and equipment 30,477 31,378 31,705 31,017 31,008 31,937Intangible Assets - 3 2 1 5 28Long term investments - - - - 5,619 8,158Long term advance 55 55 55 55 547 72Long term deposit & deferred cost 2 2 3 3 3 3Current assets 7,858 6,871 9,444 9,555 13,013 19,600Total Assets 38,392 38,310 41,210 40,631 50,196 59,798Financed ByShareholders’ Equity 23,252 25,096 27,773 33,262 41,035 49,792Long-term liabilitiesLong term finance 4,300 1,659 658 393 127 -Current portion of long term finance - 176 265 265 265 127

4,300 1,834 923 658 393 127Long term deposits and deferred liabilites 1,742 1,914 2,082 3,352 5,187 5,522Current liabilities 9,099 9,642 10,697 3,624 3,846 4,484Current portion of long term finance - (176) (265) (265) (265) (127)

9,099 9,466 10,432 3,359 3,580 4,357Total Funds Invested 38,392 38,310 41,210 40,631 50,196 59,798

BALANCE SHEETFigures in (Rs. million)

Horizontal Analysis involves…

using comparative financial statements to calculate dollar or percentage changes in a financial statement items from one period to the next.


LUCKY CEMENT – Horizontal Analysis

2009 2010 2011 2012 2013 2014Turnover 100.00 (6.92) (1.19) 26.56 43.60 63.63Cost of Sales 100.00 0.07 4.77 24.71 27.45 47.67Gross Profit 100.00 (18.68) (11.21) 29.66 70.79 90.50Distribution Cost 100.00 41.40 33.30 33.32 50.92 39.31Administrative Cost 100.00 82.75 88.86 185.73 310.01 358.17Operating Profit 100.00 (41.22) (28.49) 24.84 71.97 101.56Finance Cost 100.00 (53.99) (58.14) (79.53) (93.87) (97.23)Other Income/Charges 100.00 (68.16) (59.80) (46.09) (26.53) (92.90)Profit before taxation 100.00 (33.99) (16.54) 60.79 126.89 179.24Taxation 100.00 (51.75) (39.68) 165.58 244.06 436.13Profit after taxation 100.00 (31.74) (13.62) 47.55 112.09 146.80Other Comprehensive Income 100.00 - - - (100.00) (100.00)Total Comprehensive Income 100.00 (31.74) (13.62) 47.55 111.33 146.79

Horizontal Analysis PROFIT AND LOSS STATEMENT

LUCKY CEMENT – Horizontal Analysis

2009 2010 2011 2012 2013 2014Share Capital & Reserves 100.00 7.93 19.44 43.05 76.48 114.14Non Current Liabilities 100.00 (40.87) (54.64) (38.01) (12.03) (8.61)Current Liabilities 100.00 5.97 17.56 (60.17) (57.73) (50.72)Total Equity & Liabilities 100.00 (0.21) 7.34 5.83 30.75 55.75Non Current Assets 100.00 2.96 4.03 1.78 21.77 31.65Current Assets 100.00 (12.55) 20.19 21.59 65.61 149.43Total Assets 100.00 (0.21) 7.34 5.83 30.75 55.75

Horizontal Analysis

BALANCE SHEET

In a Vertical Analysis…

for a single financial statement, each item is expressed as a percentage of a significant total, e.g., all income statement items are expressed as a percentage of net sales.


LUCKY CEMENT – Vertical analysis

2009 2010 2011 2012 2013 2014Turnover 100.00 100.00 100.00 100.00 100.00 100.00Cost of Sales 62.74 67.44 66.52 61.82 55.68 56.62Gross Profit 37.26 32.56 33.48 38.18 44.32 43.38Distribution Cost 9.22 14.01 12.44 9.71 9.69 7.85Administrative Cost 0.63 1.24 1.20 1.42 1.80 1.76Operating Profit 27.41 17.31 19.84 27.04 32.83 33.77Finance Cost 4.70 2.32 1.99 0.76 0.20 0.08(Other Income)/Charges 3.05 1.04 1.24 1.30 1.56 0.13Profit before taxation 19.66 13.94 16.61 24.98 31.07 33.55Taxation 2.20 1.14 1.35 4.63 5.28 7.22Profit after taxation 17.46 12.80 15.26 20.35 25.78 26.33Other Comprehensive Income - - - - (0.09) -Total Comprehensive Income 17.46 12.80 15.26 20.35 25.69 26.33

Vertical Analysis - %PROFIT AND LOSS STATEMENT

LUCKY CEMENT – Vertical analysis

2009 2010 2011 2012 2013 2014Share Capital & Reserves 60.56 65.50 67.39 81.86 81.75 83.27Non Current Liabilities 15.74 9.33 6.65 9.22 10.59 9.23Current Liabilities 23.70 25.17 25.96 8.92 7.66 7.50Total Equity & Liabilities 100.00 100.00 100.00 100.00 100.00 100.00Non Current Assets 79.53 82.06 77.08 76.48 74.08 67.22Current Assets 20.47 17.94 22.92 23.52 25.92 32.78Total Assets 100.00 100.00 100.00 100.00 100.00 100.00

BALANCE SHEETVertical Analysis - %

Ratios express the logical relationships between items in a

financial statement or from different financial statements of a

single period…


When Numerator and Denominator are from different

statements:If numerator (denominator) is from balance sheet and the denominator (numerator) is from income statement, the figures will have to be adjusted as Balance sheet is made over a point in time whereas Income Statement covers a period.

For example,

Asset Turnover = Sales/ Total Assets

Sales figure is taken from Income StatementTotal Assets figure is obtained from Balance Sheet

Hence, Average of Total Assets will be taken in the denominator instead of total assets.

There are five important categories of ratios…

1. Liquidity Ratios2. Asset Management Ratios3. Debt Management Ratios4. Profitability Ratios5. Market Ratios


LIQUIDITY RATIOS

2009 2010 2011 2012 2013 2014Current ratio 0.86 0.71 0.88 2.64 3.38 4.37Quick ratio 0.36 0.23 0.18 0.8 1.66 2.65

LUCKY CEMENT

measure the ability of the firm to meet its short-term financial obligations…


Liquidity Ratios

Current Ratio = Current Assets/Current Liabilities = 10,600/4,484 = 4.37 (as of 2014)Are there sufficient Current assets to pay off Current Liabilities?

High Ratio Safe Liquidity but might indicate inefficient management of Current Assets

Low Ratio Company might not be able to meet its debt obligations

Liquidity ratiosQuick Ratio = Current Assets- Stock/Current

Liabilities = 10,600-*1,283/4,484 = 2.65 (as of 2014)

*figure of stock is mentioned in the notes to accounts.

What is the liquidity position after the least liquid asset is subtracted?

High Ratio Availability of quick funds but might also indicate pilling up of cash unnecessarily

Low Ratio Inventory is a significant portion of current assets and its removal might reveal liquidity issues.

ASSET MANAGEMENT RATIOS

Inventory turnover times 3.49 3.58 2.84 2.89 3.17 3.02No. of days in Inventory days 104.58 101.96 128.52 126.30 115.14 120.8Debtor turnover times 26.50 23.95 37.16 39.87 27.81 23.00No. of days in Receivables days 13.77 15.24 9.82 9.15 13.12 15.87Creditor turnover times 5.31 5.78 4.88 5.58 6.09 5.56No. of days in Payables days 68.74 63.15 74.80 65.41 59.93 57.39Operating Cycle days 49.61 54.05 63.54 70.04 68.33 65.83Total assets turnover times 0.69 0.64 0.63 0.82 0.75 0.78Fixed assets turnover times 0.86 0.78 0.82 1.07 1.22 1.11

assess how effectively the firm is using assets to generate sales…


Asset Management Ratios

Inventory Turnover Ratio = CGS/Average Inventory

= 21,054 / {(7,510 + 6,415)/2} = 3.02 times

*Average inventory includes stock in trade + stores and spares – any movement in spares.

How many times, on average, the inventory is sold and replaced during the fiscal year?

High Ratio High Sales

Low Ratio Poor liquidity, overstocking but might indicate planned inventory

Receivables Turnover Ratio = Credit Sales/ Average Receivables

= 43,083/{(2,077 +1,668)/2}= 23 times

How many times receivables are collected, on average, during the fiscal year?High Ratio Quick collection of receivables

Low Ratio The longer the receivables are held, risk increases. Company should re-assess its credit policies


Payables Turnover Ratio=Credit Purchases/Average Payables

=21,330/ {(4,096 + 3,573)/2}= 5.56 times

How many times the company pays its suppliers

bills, on average, during the fiscal year?Low Ratio If it has increased over time, company is delaying payments and hence has cash available but this might spoil the relations with suppliers

High Ratio Company has a policy of quickly paying off its obligations

The figure of purchases = Cost of Sales-Opening Inventory+Closing Inventory.Assumption: All purchases were made on account.


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lucky cement - asset managementInventory turnover Debtor turnover Creditor turnover

Days Sales Outstanding = 365/Receivables TO(Av. Collection period) = 365/23 = 15.87 daysDays Sales of Inventory = 365/Inventory TO(Av. Days to sell the inventory) = 365/3.02 = 120.8 daysDays Payables Outstanding = 365/Payables TO(Av. Days to pay creditors) = 365/5.56 days = 65.64 days

States the turnover ratios in terms of days.


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lucky cement - asset managementNo. of days in Inventory No. of days in Receivables No. of days in Payables

Operating Cycle= DSI + DSO = 120.8 + 15.87 = 136.7 daysShows the time elapse between purchase of raw material and cash collection from sales.Long Cycle Necessitates borrowing

Short Cycle Creates cash flow


2009 2010 2011 2012 2013 2014

118.35117.2

138.34

135.45

128.26

136.67

LUCKY CEMENT - ASSET MANAGEMENT

Cash Conversion Cycle = DSI+DSO-DPO = 136.7 – 65.6 = 71.1 daysShows the time between the payment of raw material and collection of sales. Long Cycle Delayed inflows

Short Cycle Desirable as it means less time between inflows and outflows

The value is negative since Honda has no receivables and we have assumed that all its purchases are made on account.


2009 2010 2011 2012 2013 2014160

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Asset Turnover = Sales/ Total Assets = 43,083 / {(59,798+

50,196 )/2} = 0.78 How effective is the firm in using its overall assets to generate sales?Gives amount of sales that each unit of asset generates. Hence, the higher the better!


Fixed Asset TO = Sales/ Total Fixed Assets = 43,083 / {(40,198+

37,190 )/2} = 1.11 (as of 2014)How effective is the firm in using its overall assets to generate sales?Gives amount of sales that each unit of asset generates. Hence, the higher the better!


2009 2010 2011 2012 2013 20140

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Total assets turnover Fixed assets turnover

DEBT MANAGEMENT RATIOS

quantify the firm's ability to repay long-term debt…


2009 2010 2011 2012 2013 2014Financial leverage ratio times 0.45 0.32 0.26 0.02 0.01 0.02TIE ratio times 5.83 7.45 9.97 35.58 188.55 426.2

Debt Ratio = Total Debt/ Total Assets = 9,160/59,798

= 0.18*total debt includes short term + long term debt

What percentage of company’s total assets are financed through debt (borrowed funds)?

Debt management ratios

High Ratio Highly leveraged firm and high risk.

Low Ratio Usage of internally generated funds to finance the company.

Also called financial leverage ratio

2009 2010 2011 2012 2013 20140

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0.35

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0.45

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lucky cement - debt management

Long term Debt Ratio = LT Debt/ Total Assets = 5,521 / 59,798

= 0.09 (as of 2015)

What percentage of company’s total assets are

financed through long term debt?



Times Interest Earned Ratio (TIE)= EBIT/Interest Expense

= 14,490 / 34 = 426.2 times

How many times the company can cover its finance cost from its earnings on a pre-tax basis?High Ratio Favorable. Greater ability of business to repay its interest and debt.

Low Ratio If its < 1. Company’s earnings aren’t suffice to cover interest expense


2009 2010 2011 2012 2013 20140

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lucky cement - debt management

PROFITABILITY RATIOS

Assess the profitability of the company…

2009 2010 2011 2012 2013 2014Gross profit margin percent 37.26% 32.56% 33.48% 38.18% 44.32% 43.38%Net profit margin percent 17.46% 12.80% 15.26% 20.35% 25.78% 26.33%Return on Equity percent 19.77% 12.50% 14.30% 20.39% 23.67% 22.78%Return on Capital Employed percent 17.40% 11.55% 14.39% 21.85% 25.97% 24.94%


Profitability ratios

Gross Profit Margin= Gross Profit/ Sales= 18,690 / 43,083= 43.38%

Measures the company's manufacturing anddistribution efficiency during the productionprocess.High Ratio Company can make reasonable profits but only cost of production is

accounted for.

Low Ratio Business is unable to meet its cost of production.


Net Profit Margin= Net Profit/ Sales= 11,343 / 43,083= 26.33%

Measures the company's overall efficiency during the production process.


2009 2010 2011 2012 2013 20140.00%

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35.00%

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45.00%

50.00%

LUCKY CEMENT - PROFITABILITYGross profit margin Net profit margin

Return On Assets = EBIT(1-T)/Total Assets =

14,401–3,111/{(59,797+50,196)/2} = 20.7%

Measures the earnings power of the assets regardless of how the assets are financed.High Ratio Better, as company is earning more on its assets

Low Ratio Inefficient use of company’s asset


Return on Common Equity or Capital Employed (ROCE):Net Profit-Preferred Dividends/Total Equity= 11,343 – 0/{(49,792 + 41,035)/2}= 24.94%

How much profit the company generates with the money invested by common stock owners?The most important ratio for investors. It shows how many dollars in earning result from investment in equity.


2009 2010 2011 2012 2013 20140.00%

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30.00%

LUCKY CEMENT - PROFITABILITYReturn on Equity Return on Capital Employed

MARKET VALUE RATIOSgive an idea of what the firm's

investors think of the firm's performance and future

prospects…


2009 2010 2011 2012 2013 2014Market Value Per Share rupees 58.53 62.14 70.84 115.39 209.72 410.30Book value per share rupees 71.9 77.6 85.9 102.9 126.9 144.20

2009 2010 2011 2012 2013 2014Earnings per share (after tax) rupees 14.21 9.70 12.28 20.97 30.15 35.12Price / Earning ratio (after tax) times 4.12 6.40 5.77 5.50 6.96 11.70Dividend Yield percent 6.83% 6.44% 5.65% 5.20% 3.81% 2.19%Dividend Payout ratio percent 28.15% 41.23% 32.58% 28.61% 26.54% 25.65%Dividend Cover ratio times 3.55 2.43 3.07 3.50 3.77 3.90

Market vs. Book value

Market Value ratios

2009 2010 2011 2012 2013 20140

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LUCKY CEMENT - MARKET VALUE

Market Value Per Share Book value per share

Market to Book Ratio = Market Price/Book Value = 410.3/144.2 = 2.84 (as of 2014)

How much are investors willing to pay per dollar of book value?

Market to book ratio of more than 1 means investors expectations about future profits are positive.

Market Value ratios


Earning per share = Net profit / outstanding shares= 11, 343 / 323= rs. 35.12

*figure for outstanding shares is specified in the annual report

How much are investors willing to pay per dollar of earnings of the firm?High Ratio Company is carrying a lot of risk.

Low Ratio Safer Investments.

Market Value ratios

Price to Earnings Ratio= Market price/ EPS = 410.3/35.12

= 11.7How much are investors willing to pay per dollar of earnings of the firm?High Ratio Company is carrying a lot of risk.

Low Ratio Safer Investments.

Market Value ratios

2009 2010 2011 2012 2013 20140

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LUCKY CEMENT - MARKET VALUEEarnings per share Price / Earning ratio

Dividend yield ratio: DPS / market value per share: 9 / 410.3: 2.19%

It is the return on investment on a stock.

The higher the dividend yield ratio, the greater the return. Hence; a profitable

investment.

Market Value ratios


2009 2010 2011 2012 2013 2014

6.83%6.44%

5.65%5.20%

3.81%

2.19%

lucky cement - Dividend Yield

Dividend payout ratio: DPS / EPS: 9 / 35.12: 25.6%

Shows what % of income is being distributed to common shareholders.

The higher the %, the more returns for the shareholder. Hence; a profitable

investment.

Market Value ratios


2009 2010 2011 2012 2013 2014

28.15%

41.23%

32.58%

28.61%26.54% 25.65%

LUCKY CEMENT - DIVIDEND PAYOUT

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Analysis Interpretation of FinStatements (1)