Financial Statement Analysis

Chandra Sekhar Mishra

VGSOM, IIT Kharagpur
 Outline

●Financial Statements and their Content

●Why Financial Statement Analysis (FSA)?
●Tools for FSA
 Financial Statements
●Balance Sheet
● Statement of financial position
● Statement of Assets and Liabilities
● Assets: What a business owns
● Liabilities: What a business owes to non-owners
● Equities: What a business owes to owners
●Income Statement
● Statement of financial performance
● Revenues and Expenses
●Cash flow Statement
● Statement cash inflows and cash outflows
● Operating, Investing and Financing
 Balance Sheet - Assets
●Major Types of Assets
● Fixed Assets
● Investments
● Current Assets
● Cash and cash equivalents
● Marketable securities
● Receivables
● Inventory
● Loans and advances
● Other current assets
● Intangible Assets
 Balance Sheet - Liabilities
●Current Liabilities and Provisions
● Creditors
● Accounts/ Notes payable
● Accrued liabilities
● Income Tax payable
●Debt/ Loan
● Short term and long term
● Secured and unsecured
●Debentures and bonds
●Preference share capital
●Equity Capital
● Paid-up capital
● Reserves and surplus
 Income Statement
●Income
● Sales
● Other income
●Expenses
● Operating expenses
● Financial expenses
● Tax provision
● Net profit
●Appropriation of net profit
● Transfer to reserves
● Distribution of profit as dividend
 Cash Flow Statement
●Cash flow from operating activities
● The profit adjusted for depreciation, gains and/or
losses on sale of non-current assets, tax paid, and
working capital changes.
●Cash flow from investment activities
● Purchases of non-current assets and proceeds on the
sale of non-current assets
●Cash flow from financing activities
● Proceeds on the issue of equity/preference shares
and loans/debentures and the redemption of
redeemable preference shares and loan/debentures
Sources of Financial Information

●Annual Reports of Companies

●Secondary databases/ information services
●Stock exchanges
●Periodicals and Newspapers
●Websites
Financial Statement Analysis (FSA)

●Why FSA?
● Helps evaluate past performance and
financial position
● Facilitates prediction of future performance
● Helps in estimating risk, cost of capital and
capitalization rate
● Helps in estimating appropriate valuation
multiples
 Financial Performance Analysis,
contd..
●Trend Analysis
● Comparison of major financial figures over a
time period and observing a trend in the
same;
●Comparative Statements
● Comparison of financial performance between
current year and previous year
● Comparison with other companies in the
same industry/ sector
Financial Performance Analysis
●Common Size Statements
● A financial statement presented by representing each
item as a percentage to the total amount of which it is
a part.
● Common size balance sheet
● Constructed by showing each item of asset as a percentage
of total assets, similarly each item of liability and owner’s
equity is shown as a percentage of total liabilities and owners
equity.
● Common size income statement
● Here one can show the net sales as 100% and each of the
components of expenses and profits as a percentage of net
sales.
 Financial Ratios

●Profitability
●Efficiency
●Liquidity
●Solvency
●Capital market standing
 Profitability Ratios
●Profit margin
● Gross profit to sales
● Operating profit to sales
● Net profit to sales
●Return on assets or return on investment
● Earnings before interest and taxes (EBIT) to Average Total Assets
●The Du Pont financial analysis
● Combination of profit margin and asset efficiency (Sales to Average
Total Assets)
●Return on equity
● Effect of leveraging
● Profit after tax to Net worth
●Earnings per share
● Profit after tax divided by number of equity shares
●Dividend per share
● Dividends declared divided by number of shares
 Efficiency Ratios
●Essentially talks about efficiency in asset
utilization and in broad terms a relationship
between sales and assets
● Total assets turnover
● Fixed assets turnover
● Current assets turnover
● Inventory turnover
● Inventory conversion period
● Receivables turnover
● Average collection period
 Liquidity or Short Term Solvency

●Current Ratio
● Current assets to current liabilities
●Quick Ratio
● Quick assets to current liabilities
● Quick assets is current assets except inventories
●Inventory conversion period
●Average collection period
 Long Term Solvency

●Debt-to-equity ratio
● Use of leverage
●Liabilities-to-equity ratio
●Total debt to total capital (debt + equity)
●Long term debt to total capital
●Interest coverage ratio (EBIT / Interest)
●Fixed charges coverage ratio
 Capital Market Standing
●Price-earnings ratio
● Market price per share to EPS
● Enterprise value / EBITDA
● Enterprise value is combination of market value of equity and
debt; EBITDA: Earnings before interest, tax, depreciation and
amortization.
●Dividend-yield
● Dividend per share to Market price per share
●Price-to-book ratio
● Market price per share to book value per share
● Book value per share = Net worth / Number of equity shares
 References
●Reilly and Brown (2006), Investment Analysis and
Portfolio Management, 8e, Thomson (Cengage) Learning,
New Delhi
●Bodie et al (2009), Investments, 8e, Tata McGraw Hill,
New Delhi
●Prasanna Chandra (2008), Investment Analysis and
Portfolio Management, 3e, Tata McGraw Hill, New Delhi
●Ramachandran and Kakani (2008), Financial Accounting
for Management, 2e, Tata McGraw Hill, New Delhi
●Narayanaswamy (2012), Financial Accounting: A
Managerial Perspective, Prentice Hall India, New Delhi