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McGraw Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved
Fundamentals
of Corporate
Finance

Sixth Edition
Richard A. Brealey
Stewart C. Myers
Alan J. Marcus
Slides by
Matthew Will
Chapter 4
McGraw Hill/Irwin Copyright 2009 by The McGraw-Hill Companies, Inc. All rights reserved
Measuring Corporate
Performance
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Topics Covered
Value and Value Added
Measuring Profitability
Measuring Efficiency
Analyzing the Return on Assets: The Du Pont System
Measuring Leverage
Measuring Liquidity
Calculating Sustainable Growth
Interpreting Financial Ratios
The Role of Financial Ratiosand a Final Note on
Transparency



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Value and Value Added
Market Capitalization
Total market value of equity, equal to share price
times number of shares outstanding.


Market Value Added
Market capitalization minus book value of equity.
share) per (price shares) (# tion Capitaliza Market
Value Book
Equity - tion Capitaliza Market MVA
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Value and Value Added
PepsiCo Balance Sheet (December 31, 2006)
$Millions
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Value and Value Added
Pepsico Income Statement (year end 2006)

Net Sales 35,753
COGS 15,762
Selling, G&A expenses 11,530
Depreciation expense 1,406
EBIT 7,055
Net interest expense 66
Taxable Income 6,989
Income Taxes 1,347
Net Income 5,642
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Value and Value Added
Market-to-Book Ratio
Ratio of market value of equity to book value of
equity.


7 6
368 15 $
457 102 $
equity of book value
equity of ue market val
ratio book - to - Market
.
,
,

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Value and Value Added
Stock market measures of company performance, 2006.
Companies are ranked by market value added. (dollar values
in millions)
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Measuring Profitability
Economic Value Added (EVA)
Net income minus a charge for the cost of capital
employed. Also called residual income.
Residual Income
Net Dollar return after deducting the cost of
capital



Equity Equity of Cost - Income Net
Income Residual

EVA
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Measuring Profitability
Economic Value Added (EVA) of PepsiCo



Equity Equity of Cost - Income Net
Income Residual

EVA

million $4,527
14,251 .095 - 5,642
Income Residual

EVA
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Measuring Profitability
Accounting measures of company performance, 2006.
Companies are ranked by return on equity.
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Measuring Profitability
Return on Equity (ROE)
Net income as a percentage of shareholders
equity
Return on Capital (ROC)
Net income plus Interest as a percentage of long-
term capital.
Return on Assets (ROA)
Net income plus interest as a percentage of total
assets
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Measuring Profitability
396 .
14,251
5,642
equity
income net
= equity on Return
185 .
31,727
239 5,642
=
assets total
Interest Income Net
= assets on Return

355 .
564 , 16
239 5,642
equity debt term Long
Interest Income Net
= capital on Return

PepsiCo Profitability Measurements

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Measuring Efficiency
year of start at assets total
Sales
= ratio over Asset turn
assets total Average
Sales
= ratio over Asset turn
OR
13 . 1
31,727
35,753
year of start at assets total
Sales
= ratio over Asset turn
16 . 1
2 / ) 930 , 29 (31,727
35,753
assets total Average
Sales
= ratio over Asset turn

OR
For PepsiCo
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Measuring Efficiency
sold/365 goods of cost
year of start at inventory
= Inventory in Days Average
year of start at inventory
sold goods of cost
= ratio turnover Inventory
sales daily average
year of start at s receivable
= period collection Average
year of start at s receivable
sales
= Turnover s Receivable
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The DuPont System
A breakdown of ROE and ROA into
component ratios
sales
Interest Income Net
= Margin Profit Operating
sales
Income Net
= Margin Profit

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The DuPont System
sales
interest Income Net
x
assets
sales
= ROA

asset
turnover
Operating profit
margin
assets
interest Income Net
= ROA

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Measuring Leverage
equity + debt term long
debt term long
= ratio debt term Long
equity
debt term long
= ratio equity Debt
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Measuring Leverage
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Measuring Leverage
interest Income Net
Income Net
x
sales
interest Income Net
x
assets
sales
x
equity
assets
= ROE

leverage
ratio
asset
turnover
Operating
profit
margin
debt
burden
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Measuring Liquidity
Net working capital
to total assets ratio
=
Net working capital
Total assets
Current ratio =
current assets
current liabilities
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Liquidity Ratios
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Sustainable Growth
Plowback ratio =
earnings - dividends
earnings
= 1 - payout ratio
Payout ratio =
dividends
earnings
Growth in equity from plowback =
earnings - dividends
earnings
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Interpreting Financial Ratios
PepsiCo Ratios
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Interpreting Financial Ratios
PepsiCo Ratios (continued)
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Interpreting Financial Ratios
Selected 2006 financial ratios for industry groups in Standard & Poors
Composite Index
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The Role of Financial Ratios
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Web Resources