WORKING WITH FINANCIAL

STATEMENTS
CHAPTER 3
ATTENDANCE
2:30 – 2:45 PM

Note: Kindly do not

share the QR code
or link outside this
teams.
LEARNINGS:
• Ratio Analysis
o Liquidity
o Asset Utilization
o Debt Utilization
o Profitability
o Market Value
• DuPont Relationships
• Ratio Analysis and Wealth Maximization
• Some Analytical Problems
 RATIO ANALYSIS
• DEFINED: • High – Low – Average: How do
One number divided by another. you judge?

Industry Averages:
• Why do we calculate Ratios?
• Dun & Bradstreet
To make data matter/ more
• Robert Morris Associates
meaningful.
• Trade Associations
 RATIO ANALYSIS
Prior Period Ratios:
• Calculated from the firm’s previous financial statements (e.g., trend analysis)

Current Goals:
• Often, goals are stated in the form of ratios.

Benchmarking:
• A group of “selected” companies (e.g., form your own industry).
 Common Size Ratios
• Common Size Balance Sheet
 Each item is stated as a % of total assets.

• Common Size Income Statement

 Each item is stated as a % of sales.
 Liquidity Ratios
• able to meet short-term obligations
 Asset Utilization Ratios

• Effective use of assets in the process of generating sales.

Receivables Ratios

Note: Ideally, credit sales should be used for the receivable's ratios. However, only
total sales are available at times.
 Inventory Turnover

• Note: COGS is sometimes used in lieu of sales, and average inventories

may replace ending inventories.
 Asset Turnover Ratios

• Note: Net fixed assets equals gross fixed assets minus accumulated
depreciation.
Leverage Ratios:
Fixed Charge Coverage Ratio*

Could also be adjusted to include principal

payments on loans.
 Profitability Ratios
(Ability to Earn an Adequate Return)

• Profit Margins:
Return on Investment Ratios:
DuPont Relationships
 Market Value Ratios
(Investors’ Reactions)

• Notes:
(1) Book Value Per Share = (Com Equity)/(# of Shares)
(2) Cash flow per share equals net income plus depreciation or amortization divided by
the number of shares outstanding.
 Ratio Analysis and
Wealth Maximization

Expenses

Net
Profit Return
Margin on
Assets Return
Sales on Total
Equity

Total Return
Debt to
Asset on
Assets
Turnover Common
Ratio
Preferred Equity
Assets Stock
Financing
 Ratio Analysis and Wealth
Maximization (Continued)

Return
Book Value Earnings
on
Common X Per = Per
Share Share
Equity

Earnings Price
Per X Earnings
Ratio
= Price Per Share
Share
 Some Analytical Problems
Involving Asset Quality

• It
is possible to increase ROI by
avoiding the purchase of new plant and
equipment (i.e., keep the asset base
low).

Of course, the firm may suffer in the long run.

• A high level of accounts receivable may improve the current ratio, but
what if a large percentage of accounts are uncollectible?
• Inflation
Sales and profits may increase simply because of rising prices, even
without an increase in physical volume.
Replacement costs of assets may be higher than historical costs.
• Inventory Accounting
If firms employ different techniques (e.g., LIFO, FIFO), comparability
of ratios is impaired.

• Industry Averages
Some firms operate in more than one.
 PROBLEM SOLVING
• Income statement: In this one-year summary of the firm’s operations, Moontoon, Inc.
showed a net profit for 2012 and the ability to pay cash dividends to its stockholders.
• Balance sheet: The financial condition of Moontoon, Inc. at December 31, 2011 and 2012 is
shown as a summary of assets and liabilities. Moontoon, Inc. has an excess of current assets
over current liabilities, demonstrating liquidity. The firm’s fixed assets represent over one-
half of total assets (P270,000 of P408,300). The firm is financed by short-term debt, long-
term debt, common stock, and retained earnings. It appears that it repurchased 500 shares of
common stock in 2012.
• Statement of retained earnings: Moontoon, Inc. earned a net profit of P42,900 in 2012 and
paid out P20,000 in cash dividends. The reconciliation of the retained earnings account
from P50,200 to P73,100 shows the net amount (P22,900) retained by the firm.
From the details above
kindly prepare the
following:

1) INCOME
STATEMENT
2) EARNINGS PER
SHARE
3) RETAINED
EARNINGS
PROBLEM
• The following occurred during the year regarding common stock:
• Shares outstanding—1/1 30,000
• 2-for-1 stock split—4/1 30,000
• Shares issued—8/1 5,000

• How much is the common share?

• On December 1, 2022, a company declared and issued an 8% stock
dividend on its 200,000 outstanding common shares.

• WHAT IS THE COMMON SHARE TO BE USED IN DETERMINING

BASIC EPS?