Professional Documents
Culture Documents
Explain: Analysis of Financial Statement
Explain: Analysis of Financial Statement
MODULE 2
Learning Objectives:
INTRODUCTION
Looking into the financial statements will give readers a glimpse of how business
performed, what its resources and obligations are and how much claim does an
owner have on these resources. The figures we see in the financial statements are
more than just the peso value amounts. There are stories beyond these numbers.
In any case, these stories are more interesting as they give us insights meaningful
enough to strategize the next business move. They paint the picture of fhe of the
character of the management. It could reveal what went wrong, enabling decision
makers to take actions to avoid the same in the future. The value of the financial
statement for management lies heavily on one’s ability to interpret them.
This module will allow learners to appreciate and understand the different
technique in analyzing financial statements, in the hope that they will apply these
techniques to interpret financial reports for management decision making.
profit, operating expenses, income tax, and net income etc. are shown as a
percentage of sales.
In a vertical analysis the percentage is computed by using the following formula:
Percentage of base = (Amount of individual item/Amount of base item) × 100
A basic vertical analysis needs an individual statement for a reporting period but
comparative statements may be prepared to increase the usefulness of the analysis.
An example of the vertical analysis of income statement is given below:
Comparative income statement with vertical analysis:
Also known as Ratio Analysis is the most applied ways of analyzing the
financial statements. This involves methods of calculating and interpreting figures in
the financial statements based on the use ratios or relative values. It expresses the
direct relationship between two or more quantities in the balance sheet and income
statement.
1. The objectives of financial statement analysis is the basis for the selection of
techniques of analysis. Hence, the organization should decide the purpose of
financial statement analysis.
2. The extent of interpretation is also decided to select right type of techniques
of financial statement analysis.
3. The financial statements are prepared on certain assumptions, principles and
practices which are ascertained to understand their significance.
4. Additional information required for the work of interpretation should be
collected properly.
5. The collected data should be presented in a logical sequence by
rearrangement of data.
6. Data should be analyzed for preparing comparative statement, common size
statement, trend percentage, calculation of ratios and the like.
7. General market conditions and economic conditions are taken into
consideration for analyzing and interpreting the collected facts.
8. Interpreted data and information should be presented in a suitable report
form.
THE DUPONT EQUATION (FORMULA)
The DuPont system first brings together the net profit margin, which measures
the firm profitability on sales, with its total assets turnover, which indicates how
efficiently the firm has used its to generate sales. In DuPont formula, the product of
these two ratios result in the return of total assets (ROA}. Multiplying ROA to
Equity multiplier (Total assets/Total equity) will result to return in Equity (ROE)
MODULE 2 - ACTIVITY 1
Instructions:
Part 2. Using the given financial statement for Midwest Tours, prepare the following:
ELABORATE:
The previous discussions have already given us a concrete background on performing financial statement
analysis. At this point, you are tasked to analyze a case study as a group. The reporting group should be
able to present the work in class. Other groups also need to prepare the case, submit thru google
classroom and must be able to participate in the synchronous discussion. Use the suggested format in
preparing the case study analysis.
Instructions:
1. Answer the case that follow. Process it using MS Office and submit a soft file. This is due on Oct.
4, 2021 8pm
\
\
Andre Pires opened his automobile parts store, Quickfix Auto Parts, five years ago, in a mid-
sized city located in the mid-western region of the United States. Having worked for an automobile
dealership, first as a technician, and later as the parts department manager, for over 15 years, Andre
had learned the many nuances of the fiercely competitive automobile servicing business. He had
developed many contacts with dealers and service technicians, which came in really handy when
establishing his own retail store. Business had picked up significantly well over the years, and as a
result, Andre had more than doubled his store size by the third year of operations. The industry and
local forecasts for the next few years were very good and Andre was confident that his sales would
keep growing at or above recent levels.
However, Andre had used up most of his available funds in expanding the business and was well
aware that future growth would have to be funded with external sources of funds. What was worrying
Andre was the fact that over the past two years, the store’s net income figures had been negative,
and his cash flow situation had gotten pretty weak (See Tables 1 and 2). He figured that he had better
take a good look at his firm’s financial situation and improve it, if possible, before his suppliers found
out. He knew fully well that being shut out by suppliers would be disastrous!
Andre’s knowledge of finance and accounting, not unlike many businessmen’s, was very limited.
He had often entertained the thought of taking some financial management courses, but could never
find the time. One day, at his weekly bridge session, he happened to mention his problem to Tom
Andrews, his long-time friend and bridge partner. Tom had often given him good advice in the past
and Andre was desperate for a solution. “I’m no finance expert, Andre”, said Tom, “but you might
want to contact the finance department at our local university’s business school and see if you can
hire and MBA student as an intern. These students can often be very insightful, you know.”
That’s exactly what Andre did. Within a week he was able to recruit Juan Plexo, a second
semester MBA student, who had an undergraduate degree in Accountancy and was interested in
concentrating in Finance. When Juan started his internship, Andre explained exactly what his
concerns were. “I’m going to have to raise funds for future growth, and given my recent profit
situation, the prospects look pretty bleak. I can’t seem to put my finger on the exact cause. The
bank’s commercial loan is going to want some pretty convincing arguments as to why they should
grant me the loan. I need to put some concrete remedial measures in place, and was hoping that you
can help sort things out, Juan,” said Andre. “I think I may have bitten off more than I can currently
chew.”
Table 1
Quickfix Autoparts
Balance Sheets
Table 2
Quickfix Autoparts
Income Statements
\
\
Suggested Questions:
1. How does Quickfix’s average compound growth rate in sales compare with its earnings growth rate
over the past five years?
2. Which statements should Juan refer to and which ones should he construct so as to develop a fair
assessment of the firm’s financial condition? Explain why?
3. What calculations should Juan do in order to get a good grasp of what is going on with Quickfix’s
performance?
4. Juan knows that he should compare Quickfix’s condition with an appropriate benchmark. How
should he go about obtaining the necessary comparison data?
5. Besides comparison with the benchmark what other types of analyses could Juan perform to
comprehensively analyze the firm’s condition? Perform the suggested analyses and comment on your
findings.
6. Comment on Quickfix’s liquidity, asset utilization, long-term solvency, and profitability ratios. What
arguments would have to be made to convince the bank that they should grant Quickfix the loan?
7. If you were the commercial loan officer and were approached by Andre for a short-term loan of
$25,000, what would your decision be? Why?
8. What recommendations should Juan make for improvement, if any?
9. What kinds of problems do you think Juan would have to cope with when conducting a
comprehensive financial statement analysis of Quickfix Auto Parts? What are the limitations of
financial statement analysis in general?