UNIT 1

THE ENVIRONMENT OF FINANCIAL MANAGEMENT

Presented by :
ALAO, PHOEBE ROSE M.
BADILLA, RYAN G.
GELLANGARIN, SHENNA H.
MANGACOP, KIER OMAR A.
ORACION, ARMIE M.
UNDERSTANDING THE FINANCIAL
STATEMENTS, TAXES, AND CASH FLOW
PRESENTED BY:
PHOEBE ROSE M. ALAO
RYAN G. BADILLA
WHY STUDY FINANCIAL STATEMENTS?

1. Assess current performance through financial statement

analysis
2. Monitor and control operations, and
3. Forecast future performance.
FINANCIAL STATEMENTS AND REPORTS
 The annual report is the most important report that corporations issue to
stock holders.
- 2 types of information:
• verbal section
• Four basic financial statements:
1. Balance sheet
2. Income statement
3. Statement of cash flows
4. Statement of stockholder’s equity.
BALANCE SHEET

It shows what assets the company owns and who has claims on
those assets as of a given date.
 The balance sheet is defined by the following equation:
 BALANCE SHEET
Assets represents the resources owned by the firm.
Two major categories:
BALANCE SHEET

Liabilities represent the

total amount of money
the company owes to
others.
BALANCE SHEET

 Two components:
1. The amount the company
received from selling stock
to investors.
2. The amount of the firm’s
retained earnings.
 BALANCE SHEET

 Stockholder’s equity = Paid in Capital +

Retained Earnings
 Stockholders' equity = Total Assets – Total
Liabilities
INCOME STATEMENT

Income statement is a report summarizing a firm’s

revenues, expenses, and profits during a reporting period.
Operating Income is an earnings from operations before
interest and taxes.

Operating Sales Operating

Income Revenue
- Costs
 STATEMENT OF CASH FLOWS

A report that shows how

items that affect the
balance sheet and
income statement affect
the firm’s cash flows.
 Four sections of Statement of
Cash Flows
1. Operating activities
2. Long-term investing activities
3. Financing activities
4. Summary
STATEMENT OF STOCK HOLDER’S EQUITY

 A statement that shows by how much a firm’s equity changed during the
year and why this change occurred.
 FREE CASH FLOW
 The amount of cash that could be
withdrawn without harming a firm’s
ability to operate and to produce future
cash flows.
 The cash flow actually available for
distribution to all investors
(stockholder’s and debt holders) after
the company has made all the
investments in fixed assets, new
products, and working capital
necessary to sustain ongoing
operations.
FREE CASH FLOW
Free cash flow Equation:

Net operating Profit After Taxes (NOPAT)

- The profit a company would generate if it had no debt and
held only operating assets.
 FREE CASH FLOW
MVA and EVA
 Market Value Added (MVA)
- the excess of the market of value of equity over its book value.
- the difference between the market value of the firm’s stock and the amount
of equity capital investors have supplied.
 Economic Value Added (EVA)
- value added to shareholders by management during a given year.
- Excess of NOPAT over capital costs.
 INCOME TAXES

 Taxes can be one of the largest

cash outflows a firm
experiences.
 It is based on the gross
income/taxable income payable
yearly by individual persons or
corporations.
 INCOME TAXES

 Individual Taxes
- The tax rates are progressive-that is, the higher one’s income the larger the
percentage paid in taxes.
- income of residents in Philippines is taxed progressively up to 32%. Resident
citizens are taxed on all their net income derived from sources within and without
the Philippines.
- For nonresident, whether an individual or not of the Philippines, is taxable only
on income derived from sources within the Philippines.
 INCOME TAXES

Marginal and Average Tax Rates

 Marginal tax rate is the tax rate that the company will pay on its next dollar
of taxable income.
 Average tax rate is total taxes paid divided by the taxable income.

Capital Gain or Loss

- The profit (loss) from the sale of a capital asset for more (less) than its
purchase price.
INCOME TAXES
 Corporate Taxes
- A firm’s income tax liability is calculated using its taxable income and the
tax rates on corporate income.
- The corporate income tax rate both for domestic and residents foreign
corporations is 30% based on net taxable income. Excluded from the income
tax are dividends received from demostic corporations; interest on Philippine
currency bank deposit and yield from trust funds. It is important to note that
foreign corporations, whether resident or nonresident, are taxable only on
income derived from sources within the Philippines.
 CHAPTER 4:
ANALYSIS OF FINANCIAL STATEMENTS &
RATIO

PRESENTED BY:
KIER OMAR ANG MANGACOP
RATIO ANALYSIS

 FIVE CATEGORIES OF RATIOS

 Liquidity Ratio : Can we make required payments?
 Asset Management Ratio : right amount of assets vs. sales?
 Debt Management Ratio : Mix of debt and equity?
 Profitability Ratio : Do sales prices exceed unit costs, and are sales high enough as
reflected in Profit Margin, Return On Equity, and Return On Asset/Total Asset?
 Market Value Ratio : How do investors value the business as reflected in Price/Earning
and Market/Book ratios?
LIQUIDITY RATIO

• Current Ratio

Current Assets
Current Ratio= Current Liabilities

• Quick, or Acid Test Ratio

Quick, or Acid Test Ratio =

ASSET MANAGEMENT RATIO
• Inventory Turnover Ratio

• Inventory Turnover Ratio =

• Days Sales Outstanding

• DSO= =
• Fixed Assets Turnover Ratio

– Fixed Assests Turnover Ratio =

• Total Assets Turnover Ratio

– Total Assets Turnover Ratio =

DEBT MANAGEMENT RATIO
• Total Debt to Total Capital
___Total Debt___
=
Total Debt + Equity

• Times-Interest-Earned Ratio

TIE Ratio =
PROFITABILITY RATIO
• Operating Margin
Operating Margin = _EBIT_
Sales

• Profit Margin
Profit Margin = Net Income
Sales

• Return on Total Asset

ROA = Net Income
Total Assets
Return on Common Equity
ROE = __Net Income__
Common Equity

• Return on Invested Capital

ROIC = __Net Income__ = __EBIT(1 - T)__
Common Equity Debt + Equity

• Basic Earning Power (BEP) Ratio

BEP = ___EBIT___
Total Assets
MARKET VALUE RATIO
• Price/Earnings Ratio

P/E ratio = __Price per Share__

Earnings per Share

• Market/Book Ratio

Book Value per Share = __Common Equity__

Shares Outstanding

M/B ratio = Market Price per Share

Book Value per Share
TYING THE RATIOS TOGETHER: THE DUPONT
EQUATION
ROE = ROA x Equity Multiplier

= Profit Margin x Total Assets Turnover x Equity Multiplier

= Net Income x ___Sales___

x ____Total
Assets____
Sales Total Assets Total Common Equity
POTENTIAL MISUSES OF ROE
• ROE does not consider risk.
• ROE does not consider the amount of invested capital.
• ROE can cause managers to turn down profitable projects.
USING FINANCIAL RATIOS TO ASSESS
PERFORMANCE
• COMPARISON TO INDUSTRIAL AVERAGE
– comapare the company's key ratio to the industry average.
• BENCHMARKING
– comparing to themselve to top competitors in the industry.
– the companies used for the comparison are called benchmark
companies.
• TREND ANALYSIS
– analysis of a firms financial ratio over time
– used to estimate the likelihood of improvement or deterioration in its
financial condition.
Who use Ratio Analysis?

– Managers
• use ratio to help analyze, control, and improve firms’ operation
– Credit Analysts
• use to help judge a company’s ability to repay its debts.
– Stock Analysts
• who are interested in a company’s efficiency, risk and growth prospects.
 LIMITATION OF RATIO
• Many firms have division that oparate in different industries; and for such companies, it is difficult to
develop a meaningful set of industry averages. therefor ratio analysis is more useful for narrowly
focused firms than for multidivisional ones
• Most firms want to be better that average, so merely attaining average performance is not necessarily
good. as a target for high-level performance it is best to focus on the industry leaders ratio.
• inflation has distorted many firm's balance sheets-book values are often different from market values.
Market values would be more appropriate for the most purposes, but we cannot generally get market
value figures because assets such as used machinary are not traded in market place.
• Seasonal factors can also distort a ratio analysis.
• Firms can employ “window dressing” techniques to improve their financial statements.
• Different accounting practises can distort comparisons.
• It is difficult to generalize about whether a particular ratio is “good” or “bad”.
• Firms often have some ratio that look “good” and other that look “bad” making at difficult to tell
whether the company is, on balance, strong or weak.
FINANCIAL PLANNING AND FORECASTING AND BUDGETING

PRESENTED BY:
SHENNA H. GELLANGARIN
OBJECTIVES

Discuss the importance of strategic

planning
The central role that financial forecasting
Budgeting
ELEMENTS OF A STRATEGIC PLAN

1. Mission Statement - a condensed version of a firm’s strategic plan.

Pepsi’s mission statement:

Our mission is to be the world’s premier consumer products company focused on convenient foods
and beverages. We seek to produce financial rewards to investors as we provide opportunities for
growth and enrich me everything we do, we strive for honesty, fairness and integrity
 ELEMENTS OF A STRATEGIC PLAN

2. Corporate Scope –

a firm’s lines of business and
geographic areas of
operation.
 ELEMENTS OF A STRATEGIC PLAN
3. Statement of Corporate
Objectives –
sets forth specific goals to
guide management
Area Examples
Innovation
New products, better
processes, using technology
Productivity
Optimum use of resources,
focus on core activities
Physical & financial Factories, business locations,
resources finance, supplies
Level of profit, rates of
Profitability
return on investment
ELEMENTS OF A STRATEGIC PLAN

4. Corporate Strategies -

broad approaches
developed for achieving a
firm’s goals.
ELEMENTS OF A STRATEGIC PLAN

5. Operating Plan –

provides management detailed
implementation guidance, based on
the corporate strategy, to help meet
the corporate objectives.
ELEMENTS OF A STRATEGIC PLAN

6. Financial Plan - the

document that includes
assumptions, projected
financial statements,
and projected ratios and
ties the entire planning
process together
SALES FORECAST
 In order to develop budgets, we will start with a forecast of what drives much of our
financial activity; namely sales. Therefore, the first forecast we will prepare is the
Sales Forecast.
 Look at past sales histories and various factors that influence sales (review of sales
during the past 5 years)
 It is important that we arrive at a good estimate since this estimate will be used for
several other estimates in our budgets.
 The Sales Forecast has to take into account what we expect to sell at what sales price.
ADDITIONAL FUNDS NEEDED (AFN)

a financial concept used when a

business looks to expand its operations.
Since a business that seeks to increase its
sales level will require more assets to meet
that goal, some provision must be made to
accommodate the change in assets.
Equation:
AFN = Projected increase in assets – Spontaneous increase in
liabilities – Any increase in retained earnings
FINANCIAL
MARKETS AND
INSTITUTIONS
PRESENTED BY:
ARMIE M. ORACION
RYAN G. BADILLA
 THE CAPITAL ALLOCATION PROCESS

Three ways of
transferring capital
• Direct transfers
• Primary market
transactions
• Financial intermediary
 FINANCIAL MARKETS

 Facilitates the transfer of

savings from savers to
investors
 Provides pricing
information in the market
TYPES OF MARKETS

Physical asset markets versus financial asset markets.

Spot markets versus futures markets.
Money markets versus capital markets.
Primary markets versus secondary markets
Private markets versus public markets.
FINANCIAL INSTITUTIONS

 Investment Banks
 Commercial Banks
 Financial Services Corporations
 Credit Unions
 Pension funds
 Life insurance Companies
FINANCIAL INSTITUTIONS

 Mutual Funds
 Exchange Traded Funds
 Hedge Funds
 Private Equity Companies
 THE STOCK MARKET

 Where the prices of firms’ stocks are established.

 Physical Location Exchanges
– formal organizations having tangible physical locations that
conduct auction markets in designated (listed) securities.
 Ove-the-Counter (OTC) Market
– a large collection of brokers and dealers, connected electronically
by telephones and computers, that provides for trading in unlisted
securities.
THE MARKET FOR COMMON STOCK

 Closely Held Corporation

– a corporation that is owned by a few individuals who are typically
associated with the firm’s management
 Publicly Owned Corporation
– a corporation that is owned by a relatively large number of
individuals who are not actively involved in the firm’s management.
 TYPES OF STOCK MARKET TRANSACTIONS

 Outstanding shares of established publicly owned companies

that are traded: the secondary market.
 Additional shares sold by established publicly owned
companies: the primary market.
 Initial public offerings made by privately held firms: the IPO
market.
STOCK MARKETS AND RETURNS

 Stock Market Returns are the returns that the investors generate out
of the stock market. This return could be in the form of profit
through trading or in the form of dividends given by the company to
its shareholders from time-to-time.
 Stock Market Returns are not fixed or ensured ones
 Stock Market Returns are subjected to market risks
 Stock Market Returns could be positive or negative
STOCK MARKET EFFICIENCY

 Market price – the current price of a stock.

 Intrinsic value – the price at which the stock would sell if all
investors had all knowable information about a stock.
 Equilibrium price – the price that balances buy and sell orders at any
given time.
 Efficient market – a market in which prices are close to intrinsic
values and stocks seem to be in equilibrium.