FinancialStatementAnalysis (I)

Financial management
Juan Cerón
Financial statements analysis (1/2)
© Prof. Juan Cerón PhD. All rights reserved - Derechos reservados – Prohibida la reproducción o utilización sin permiso previo del autor – Utilization forbidden without previous expressed consent by the author
Index
00. Introduction
01. Previous steps
02.Financial statements analysis
0201. Vertical analysis
0202. Horizontal analysis
0203. Cash Flow analysis
03. Ratio analysis
00. Introduction
3
00. Introduction
It’s about answering these questions:
1. How is the firm doing?

2. What are its perspectives?
3. What are the potential risks from investing in it?
… with the aim of helping in decision making: Should I buy shares or not (investors);
Should I launch a new productor or not (the company); Should I lend money (banks);
Should I accept this job (workers); Should I sell my products to this company (suppliers);
Should I increase the bonus to managers (the chief).
4
00. Introduction
Steps to examine a company’s financial statements:
1. Understand the business environment at a high level, that is, the global context in which it
operates.
2. Understand the industry in which it operates.
3. Identify characteristics of the company: product mix, market focus, management skills,
strengths, weaknesses, competitive advantages ...
4. And finally, financial statement analysis. And to do this, two complementary approach:
 Vertical and horizontal analysis
 Analysis using ratios
5
01. Previous steps
6
01. Previous steps
The macro-framework:
 Economic, political, social, legal, technological and environmental situation affect all
businesses, and that is why it is important to know it.
 For the economic framework, use good resources: IMF, OECD, World Bank, statistical
center of each country, large consulting firms, etc.
7
01. Previous steps
The industry context:
• What products are sold?

• Who are the sellers?
• How much do they sell?
• Where do they sell?
• Recent dynamic and perspectives
8
01. Previous steps Porter’s five forces
A framework to understand the industry structure
01. Previous steps Firm specific non-financial information
In general:
• Product mix
• Market focus
• Management skills
• Strengths
• Weaknesses
• Opportunities
• Threats
02. Financial statements analysis
11
Financial Statements
Balance sheet Income statement Cash Flows statement
Equity Revenues Operating
Assets
Expenses Investing
Liabilities
Profit or loss Financing
12
The next step is to analyze the company in depth, through financial statements.
Three key topics:
 Profitability
 Solvency
 Liquidity
13
Purposes of analysis:
1. Diagnosis of the performance of the company and perspectives.
2. Comparing the firm in a double view:
i. With prior periods of the company itself: trend analysis
ii. With other companies in the industry or the industry as a whole: cross-section
analysis
14
FINANCIAL STATEMENT ANALYSIS WEAKNESSES
 They can be manipulated, many times in the limit of law: ENRON, WorldCom, Parmalat, Pescanova.
 Considering accounting principles, financial statements are not always a fair picture of the real
situation. For example, in the valuation of fixed assets according to the acquisition price.
 Accounting statements look backward, but making decisions always look forward.
https://www.wallstreetmojo.com/accounting-scandals/
https://www.investopedia.com/ask/answers/032715/what-accounting-fraud.asp
https://www.britannica.com/event/Enron-scandal/Downfall-and-bankruptcy
https://cincodias.elpais.com/mercados-financieros/2023-04-21/como-saber-si-una-cotizada-abusa-del-ebitda-en
-su-presentacion-de-resultados.html
15
When it comes to understanding a business, standard approaches to financial statements are used:
• Vertical analysis: each item is presented as a percentage of a base figure within the financial
statement. It allows to compare one company with others or with the entire sector. Also called
“common-size financial statements” and “cross-section analysis”.
• Horizontal analysis: focuses on changes over time. It’s frequently used in absolute terms, but also
can be used in percentages. Also called trend analysis.
• Ratios analysis.
• In practice, all methods are used simultaneously.
16
0201. Financial statements analysis: vertical analysis
TELEFÓNICA: CONSOLIDATED BALANCE SHEET. Millions of euros
% of Total
% of Total
Equity and
Assets
ASSETS 2022 EQUITY AND LIABILITIES 2022 Liabilities
A) NON-CURRENT ASSETS 87053 79% A) EQUITY 31708 29%
Intangibles 12017 11% Equity attributable to equity holders of the parent 25088 23%
Goodwill 18471 17% Equity attributable to non-controlling interests 6620 6%
Property, plant and equipment 23714 22% B) NON-CURRENT LIABILITIES 54834 50%
Rights of use 8279 8% Non-current financial liabilities 35059 32%
Investments accounted for by the equity method 11587 11% Non-current lease liabilities 6657 6%
Financial assets and other non-current assets 8101 7% Payables and other non-current liabilities 3546 3%
Deferred tax assets 4884 4% Deferred tax liabilities 3067 3%
B) CURRENT ASSETS 22589 21% Non-current provisions 6505 6%
Inventories 1546 1% C) CURRENT LIABILITIES 23100 21%
Receivable and other current assets 9134 8% Current financial liabilities 4020 4%
Tax receivables 2213 2% Current lease liabilities 2020 2%
Other current financial assets 2444 2% Payables and other current liabilities 13509 12%
Cash and cash equivalents 7245 7% Current tax payables 1920 2%
Non-current assets and disposal groups held for sale 7 0% Current provisions 1631 1%
Liabilities associated with non-current assets and
0% disposal groups held for sale 0 0%
TOTAL ASSETS (A+B) 109642 100% TOTAL EQUITY AND LIABILITIES (A+B+C) 109642 100%
17
• When it comes to compare the target firm with competitors of different size or with accounts in
different currencies, the way is to arrange accounts on a common basis. Each firm’s balance sheet
numbers are expressed as a percentage of its total assets and in income statement, each number is
expressed as a percentage of its total revenues. This procedure is known as the common-sizing of
financial statements.
18
CONSOLIDATED BALANCE SHEET AT 31-Dec-2001
Carslberg Heineken Carslberg Heineken

Danish Danish
€ (M) € (M)
Khrone (M) Khrone (M)
A) NON-CURRENT ASSETS 25093 61% 58% 4158 A) EQUITY 12513 30% 43% 3139
Parent company
Intangibles 0% 0% 13 8059 20% 38% 2758
Fixed assets 20326 49% 50% 3614 Minority interests 4454 11% 5% 381
Non-current financial assets 4767 12% 7% 531 B) NON-CURRENT LIABILITIES 15744 38% 26% 1843
B) CURRENT ASSETS 15976 39% 42% 3059 Long-term debt 12042 29% 11% 797
Inventories 2865 7% 10% 692 Other long-term liabilities 3702 9% 14% 1046
Accounts receivable 9820 24% 17% 1192 C) CURRENT LIABILITIES 12812 31% 31% 2235
Cash and cash equivalents 3291 8% 16% 1175 Short-term debt 2199 5% 5% 329
Accounts payable and other chor-term liabilities 10613 26% 26% 1906
TOTAL ASSETS (A + B) 41069 100% 100% 7217 TOTAL EQUITY AND LIABILITIES 41069 100% 100% 7217
Adapted from Tim Sutton: Corporate Financial and Reporting. Prentice Hall. Second edition. 2004
19
TELEFÓNICA: INCOME STATEMENT STRUCTURE. Millions of euros
% of
2022 Revenues
Revenues 39993 100%

Other income 2065 5%
Supplies -12941 -32%
Personnel expenses -5524 -14%
Other expenses -10741 -27%
OPERATING INCOME BEFORE DEPRECIATION
AND AMORTIZATION (OIBDA) 12852 32%
Depreciation and amortization -8796 -22%
OPERATING INCOME 4056 10%
Share of income (loss) of investments
accounted for by the equity method 217 1%
Finance income 1803 5%
Exchange gains 2910 7%
Finance costs -3030 -8%
Exchange losses -2996 -7%
Net financial expense -1313 -3%
PROFIT BEFORE TAX 2960 7%
Corporate income tax -641 -2%
PROFIT FOR THE YEAR 2319 6%
Attributable to equity holders of the parent 2011 5%
Attributable to non-controlling interests 308 1%
20
Exercise: Arquillos S.A.
21
0202. Financial statements analysis: horizontal analysis
TELEFÓNICA: CONSOLIDATED BALANCE SHEET EVOLUTION. Millions of euros
Change Change Change Change

ASSETS 2020 2021 € % 2022 € % EQUITY AND LIABILITIES 2020 2021 € % 2022 € %
A) NON-CURRENT ASSETS 71396 84284 12888 18% 87053 2769 3% A) EQUITY 18260 28684 10424 57% 31708 3024 11%
Intangibles 11488 11725 237 2% 12017 292 2% Equity attributable to equity holders of the parent 11235 22207 10972 98% 25088 2881 13%
Goodwill 17044 16519 -525 -3% 18471 1952 12% Equity attributable to non-controlling interests 7025 6477 -548 -8% 6620 143 2%
Property, plant and equipment 23769 22725 -1044 -4% 23714 989 4% B) NON-CURRENT LIABILITIES 58674 55034 -3640 -6% 54834 -200 0%
Rights of use 4982 7579 2597 52% 8279 700 9% Non-current financial liabilities 42297 35290 -7007 -17% 35059 -231 -1%
Investments accounted for by the equity method 427 12773 12346 2891% 11587 -1186 -9% Non-current lease liabilities 4039 6391 2352 58% 6657 266 4%
Financial assets and other non-current assets 7270 7347 77 1% 8101 754 10% Payables and other non-current liabilities 2561 3089 528 21% 3546 457 15%
Deferred tax assets 6416 5616 -800 -12% 4884 -732 -13% Deferred tax liabilities 2620 2602 -18 -1% 3067 465 18%
B) CURRENT ASSETS 33655 24929 -8726 -26% 22589 -2340 -9% Non-current provisions 7157 7662 505 7% 6505 -1157 -15%
Inventories 1718 1749 31 2% 1546 -203 -12% C) CURRENT LIABILITIES 28117 25495 -2622 -9% 23100 -2395 -9%
Receivable and other current assets 7523 8287 764 10% 9134 847 10% Current financial liabilities 8123 7005 -1118 -14% 4020 -2985 -43%
Tax receivables 902 2120 1218 135% 2213 93 4% Current lease liabilities 1255 1679 424 34% 2020 341 20%
Other current financial assets 2495 3835 1340 54% 2444 -1391 -36% Payables and other current liabilities 10912 13210 2298 21% 13509 299 2%
Cash and cash equivalents 5604 8580 2976 53% 7245 -1335 -16% Current tax payables 1732 2026 294 17% 1920 -106 -5%
Non-current assets and disposal groups held for sale 15413 358 -15055 -98% 7 -351 -98% Current provisions 1304 1441 137 11% 1631 190 13%
Liabilities associated with non-current assets and
disposal groups held for sale 4791 134 0
TOTAL ASSETS (A+B) 105051 109213 4162 4% 109642 429 0% TOTAL EQUITY AND LIABILITIES (A+B+C) 105051 109213 4162 4% 109642 429 0%
22
TELEFÓNICA: CONSOLIDATED BALANCE SHEET EVOLUTION. Millions of euros
2019 2020 2021 2022

Total assets 100% 88% 92% 92%
Non-current assets 100% 76% 89% 92%
Current assets 100% 138% 102% 93%
Equity 100% 72% 113% 125%

Non-current liabilities 100% 93% 87% 87%
Current liabilities 100% 93% 84% 77%
23
TELEFÓNICA: INCOME STATEMENT EVOLUTION. Millions of euros
Change Change
2020 2021 € % 2022 € %
Revenues 43076 39277 -3799 -9% 39993 716 2%
Other income 1587 12673 11086 699% 2065 -10608 -84%
Supplies -13014 -12258 756 -6% -12941 -683 6%
Personnel expenses -5280 -6733 -1453 28% -5524 1209 -18%
Other expenses -12871 -10976 1895 -15% -10741 235 -2%
OPERATING INCOME BEFORE DEPRECIATION
AND AMORTIZATION (OIBDA) 13498 21983 8485 63% 12852 -9131 -42%
Depreciation and amortization -9359 -8397 962 -10% -8796 -399 5%
OPERATING INCOME 4139 13586 9447 228% 4056 -9530 -70%
Share of income (loss) of investments
accounted for by the equity method 2 -127 -129 -6450% 217 344 -271%
Finance income 677 614 -63 -9% 1803 1189 194%
Exchange gains 3847 2801 -1046 -27% 2910 109 4%
Finance costs -2417 -2028 389 -16% -3030 -1002 49%
Exchange losses -3665 -2751 914 -25% -2996 -245 9%
Net financial expense -1558 -1364 194 -12% -1313 51 -4%
PROFIT BEFORE TAX 2583 12095 9512 368% 2960 -9135 -76%
Corporate income tax -626 -1378 -752 120% 641 2019 -147%
PROFIT FOR THE YEAR 1957 10717 8760 448% 3601 -7116 -66%
Attributable to equity holders of the parent 1582 8137 6555 414% 2011 -6126 -75%
Attributable to non-controlling interests 375 258 -117 -31% 308 50 19%
24
TELEFÓNICA: INCOME STATEMENT EVOLUTION. Millions of euros
2018 2019 2020 2021 2022

Revenues 100% 99% 88% 81% 82%
Op. Profit 100% 70% 63% 208% 62%
Net income 100% 42% 50% 271% 59%
25
Be careful with horizontal analysis:
 Changes in accounting criteria

 Continuing operations
 Consolidation perimeter
26
0203. Financial statements analysis: cash flow analysis
Analyze the information
• Is OCF positive or negative? Is it growing?

• Is it Free Cash Flow (FCF) positive? and is it growing?:
• Can it pay for capital expenditure (CAPEX)?
• Can it pay for Dividends to shareholders?
• If not, how is it financing the shortfall?
• Possible resources:
• New debt
• Issuance of shares
• Sale of investments
• Reduction of cash balance
• If yes, How is it using the cash surplus?
• Possible uses:
• Early repayment of debt
• Special dividends or repurchase of shares
• Acquisitions of other companies
• Increase in cash balance
27
Portauto, first part
28
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Financial management

Financial statements analysis (1/2)

1. How is the firm doing?

2. Understand the industry in which it operates.

• What products are sold?

Balance sheet Income statement Cash Flows statement

Equity Revenues Operating

Profit or loss Financing

Three key topics:

1. Diagnosis of the performance of the company and perspectives.

2. Comparing the firm in a double view:

i. With prior periods of the company itself: trend analysis

• In practice, all methods are used simultaneously.

Carslberg Heineken Carslberg Heineken

Revenues 39993 100%

Exercise: Arquillos S.A.

TELEFÓNICA: CONSOLIDATED BALANCE SHEET EVOLUTION. Millions of euros

Change Change Change Change

2019 2020 2021 2022

Equity 100% 72% 113% 125%

2018 2019 2020 2021 2022

Be careful with horizontal analysis:

 Changes in accounting criteria

• Is OCF positive or negative? Is it growing?

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