FINANCIAL STATEMENT

ANALYSIS & VALUATION

Third Edition

Peter D. Mary Lea Gregory A. Xiao-Jun

Easton McAnally Sommers Zhang
Modules 1 and 2:
Mod 1: Framework for Analysis and Valuation
Mod 2: Review of Business Activities and Financial Statements
 (Re)thinking About
Accounting and the
Financial Statements
Switching from the perspective of a financial statement preparer to that
of a financial statement user
Questions a Financial
Statement User Might
Ask…
Questions
• What kinds of assets appear on the balance sheet?
• Are there assets that are not included on the balance sheet?

• How is the reported value for most of the assets on the balance sheet
determined?

• Given historical cost accounting and unrecognized intangible assets,

for what types of companies do you think it is most difficult to analyze
the balance sheet??
Questions
• What do assets represent?

• What is the intended purpose of assets?

• How are the assets acquired?

Questions
• Who are the two main groups of owners?

• What pieces of the firm do the two groups hold a claim to?

• Which group gets the first slice of the pie?

Questions
• What are the trade-offs in financing a company using owner versus
non-owner financing?

• Why don’t we see companies financed entirely with borrowed

money?
Questions
• Companies in certain industries tend to carry high levels of cash.
Apple Inc.

• Why is that? CONSOLIDATED BALANCE SHEETS

(In millions, except number of shares, which are reflected in thousands, and par value)

September 30, September 24,

2023 2022
ASSETS:

• Is there a cost to holding too much cash? Current assets:

Cash and cash equivalents
Marketable securities
$ 29,965
31,590
$ 23,646
24,658
Accounts receivable, net 29,508 28,184
Vendor non-trade receivables 31,477 32,748
Inventories 6,331 4,946
• Is there a cost to holding too little cash? Other current assets
Total current assets
14,695
143,566
21,223
135,405

Non-current assets:
Marketable securities 100,544 120,805
Property, plant and equipment, net 43,715 42,117
Other non-current assets 64,758 54,428
Total non-current assets 209,017 217,350
Total assets $ 352,583 $ 352,755
Questions
• What should we think about transitory items on the income statement?

• Why do cash flows differ from net income?

• Can a company have good income and bad cash flows?

• Is it possible to conclude that a company with good income and bad cash flows is
performing well? Is it possible to conclude that they are performing badly?

• Can a company have bad income and good cash flows?

• Is it possible to conclude that a company with bad income and good cash flows is
performing well? Is it possible to conclude that they are performing badly?
Questions
• What is the book value of a company?

• What is the market value of a company?

• Is the market value of a company based on reported asset

values (measured at historical cost) OR an estimate of asset
fair market values?
Questions
• Why does book value differ from market value?

• Does the market value of a company incorporate the value of

unrecognized intangible assets?

• Is the difference between book value and market value permanent?

GAAP Deficiencies
GAAP Deficiencies
• Lack of consistency in application:
• Across firms
• Across time
• Extensive use of estimates
• Mixed use of historical cost and fair value
• Unmeasurable stuff
• Value of R&D
• Value of internally generated intangibles (e.g., Apple logo, star developer,
etc.)
In-Class
Exercise
In-Class Exercise
• Select a publicly traded company
• Access their most recent 10-K from Edgar
In-Class Exercise
• Compute and disaggregate their return on assets (ROA):
• ROA = Net Income / Average Total Assets
• ROA = Profit Margin * Asset Turnover
• Profit Margin (PM) = Net Income / Total Sales
• Asset Turnover (ATO) = Total Sales / Average Total Assets
• Compute their market-to-book ratio (M/B)
• M/B = MV / BV
• Where:
• BV = Total Assets – Total Liabilities = Shareholders’ Equity
• MV = Shares outstanding * Per share market price
• Compute the ratio of total liabilities to total assets:
• Lev = total liabilities / total assets

• Email me:
• Company name
• ROA, PM, ATO
• M/B, MV, BV
• Lev, Total Liab, Total Assets
 ROA

2.5

1.5

0.5

0
-5.00% 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00%
 ROA

2.5

1.5

0.5

0
-5.00% 0.00% 5.00% 10.00% 15.00% 20.00% 25.00% 30.00%
Profit Margin, Asset Turnover, and
Return on Assets for Selected Companies
• Why is there so much
variation in AT and PM
across industries?
• What factors could cause
big problems for
companies on the left-
hand side of this chart?
• What about companies
on the right-hand side of
the chart?
• How is really high ROA
achieved?
Relation Between MTB and P/E

P/B ROE P/E

P/B = profitability risk and growth

 MTB v PE
20

18

16

14

12

10

0
(25.00) (15.00) (5.00) 5.00 15.00 25.00 35.00 45.00 55.00 65.00 75.00
 Scatter Plot - P/B and P/E Ratios
45

40
Turnaround Glamour
35

30

P/E 25

20

15
Value Harvesters
10

0
0 1 2 3 4 5 6

M/B
 Leverage
1.2

0.8

0.6

0.4

0.2

0
Meta Platforms, Inc. 0.25
Tyson Foods Inc 0.46
Tesla 0.49
Walmart 0.63
Amazon 0.67
General Motors 0.73