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1、1CHAPTER 8Analysis of Financial Statements2Topics in ChapterRatio analysisDu Pont systemEffects of improving ratiosLimitations of ratio analysis3Why are ratios useful?Standardize numbers;facilitate comparisonsUsed to highlight weaknesses and strengths4Five Major Categories of RatiosLiquidity:Can we
2、make required payments as they fall due?Asset management:Do we have the right amount of assets for the level of sales?(More)5Ratio Categories(Continued)Debt management:Do we have the right mix of debt and equity?Profitability:Do sales prices exceed unit costs,and are sales high enough as reflected i
3、n PM,ROE,and ROA?Market value:Do investors like what they see as reflected in P/E and M/B ratios?6Effects of Debt on ROA and ROEROA is lowered by debt-interest expense lowers net income,which also lowers ROA.However,the use of debt lowers equity,and if equity is lowered more than net income,ROE woul
4、d increase.7Interpreting Market Based RatiosP/E:How much investors will pay for$1 of earnings.Higher is better.M/B:How much paid for$1 of book value.Higher is better.P/E and M/B are high if ROE is high,risk is low.Common Size Balance SheetsDivide all asset categories by total assets.Divide all liabi
5、lity and equity categories by total liabilities plus equities.Expressed as percentages in order to facilitate comparison between years or companies.8Percent Change Income Statement/Balance SheetChoose a base year and calculate a percentage change for each item in the income statement from that year
6、until the current year.Allows comparison of company performance over time.910Explain the Du Pont SystemThe Du Pont system focuses on:Expense control(PM)Asset utilization(TATO)Debt utilization(EM)It shows how these factors combine to determine the ROE.11()()()=ROE ProfitmarginTAturnoverEquitymultipli
7、er NI SalesSalesTA TA CExx=ROE.The Du Pont System12Potential Problems and Limitations of Ratio Analysis?Comparison with industry averages is difficult if the firm operates many different divisions.“Average”performance is not necessarily good.Seasonal factors can distort ratios.Different accounting a
8、nd operating practices can distort comparisons.13Problems and Limitations(Continued)Sometimes it is difficult to tell if a ratio value is“good”or“bad.”Often,different ratios give different signals,so it is difficult to tell,on balance,whether a company is in a strong or weak financial condition.Qual
9、itative FactorsAre the companys revenues tied to a single customer?To what extent are the companys revenues tied to a single product?To what extent does the company rely on a single supplier?(More)Qualitative Factors(Continued)What percentage of the companys business is generated overseas?What is the competitive situation?What does the future have in store?What is the companys legal and regulatory environment?