Financial Statement Analysis

BA 115 Lecture

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Financial Statement Analysis
• Horizontal analysis
• Vertical analysis
• Ratio analysis

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Horizontal Analysis
• Also called trend analysis; a technique for evaluating a series of
financial statement data over a period of time
• Purpose is to determine increase or decrease, expressed as either an
amount or a percentage

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Not for reproduction/distribution; for classroom use only
Not for reproduction/distribution; for classroom use only
Vertical Analysis
• Also called common-size analysis; a technique that expresses each
financial statement item as a percentage of a base amount
• On a balance sheet we might express current assets as 22% of total
assets (total assets being the base amount)
• On an income statement we might say that selling expenses are 16%
of net sales (net sales being the base amount)

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Not for reproduction/distribution; for classroom use only
Not for reproduction/distribution; for classroom use only
Ratio Analysis
• Expresses the relationship among selected items of financial
statement data
• A single ratio by itself is not very meaningful; need for intracompany
comparisons, intracompany comparisons with principal competitors,
and industry average comparisons
Liquidity Profitability Solvency
Measure short-term Measure the income or Measure the ability of
ability of the company operating success of a the company to
to pay its maturing company for a given survive over a long
obligations and to period of time period of time
meet unexpected
needs for cash
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Not for reproduction/distribution; for classroom use only
Not for reproduction/distribution; for classroom use only
Not for reproduction/distribution; for classroom use only
Liquidity – Current Ratio
Current Assets
Current Ratio =
Current Liabilities

Chicago has $0.67 of current assets for every dollar of current

liabilities

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 Liquidity – Accounts Receivable Turnover
Net credit sales
Accounts Receivable Turnover =
Avearge net accounts receivable

Measures the number of times, on average, the company

collects receivables during the period

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 Liquidity – Average Collection Period
365days
Average Collection Period =
Aveargeaccounts turnover

Analysts frequently use average collection period to assess the

effectiveness of a company’s credit and collection policies

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Liquidity – Inventory Turnover
Cost of goods sold
Inventory Turnover =
Average inventory

The faster the inventory turnover, the less cash is tied up in

inventory and less chance of inventory becoming obsolete

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Liquidity – Days in Inventory
365 days
Days in Inventory =
Inventory turnover

Measures the average number of days inventory is held

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Solvency – Debt to Assets Ratio
Total liabilities
Debt to assets ratio =
Total assets

Provides some indication of company’s ability to withstand

losses without impairing the interests of its creditor
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Solvency – Times Interest Earned
Net Income + Interest expense + Income tax expense
Times interest earned =
Interest expense

Provides an indication of company’s ability to meet interest

payments as they come due

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Solvency – Free Cash Flow
Net cash
provided Capital Cash
Free Cash Flow = − −
by Operating expenditures dividends
activities

One indication of solvency is the amount of excess cash generated

after investing in capital expenditures and paying dividends
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Profitability

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Profitability – Return on Common
Stockholders’ Equity
Net Income − Preferred dividends
Return on Common Stockholders'Equity =
Aveargecommon stockholders'equity

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Profitability – Return on Assets
Net income
Return on Assets =
Average total assets

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Profitability – Net Profit Margin
Net income
Profit Margin =
Net sales

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Profitability – Asset Turnover
Net sales
Asset Turnover =
Average total assets

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Profitability – Gross Profit Margin
Gross profit
Gross Profit Rate =
Net sales

Indicates a company’s ability to maintain an adequate selling

price above its cost of goods sold
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Reference
• Weygandt, Kimmel & Kieso. Managerial Accounting

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