3 How to Read, Analyze, and Interpret Financial Reports #16How to Read, Analyze, and Interpret Financial ReportsLearning Unit ObjectivesBalance Sheet -- Report as of a Particular DateLU16.1Explain the purpose and the key items on the balance sheetExplain and complete vertical and horizontal analysis
4 How to Read, Analyze, and Interpret Financial Reports #16How to Read, Analyze, and Interpret Financial ReportsLearning Unit ObjectivesIncome Statement -- Report for a Specific Period of TimeLU16.2Explain the purpose and the key items on the income statementExplain and complete vertical and horizontal analysis
5 How to Read, Analyze, and Interpret Financial Reports #16How to Read, Analyze, and Interpret Financial ReportsLearning Unit ObjectivesLU16.3Trend and Ratio AnalysisExplain and complete a trend analysisList, explain, and calculate key financial ratios
7 Balance SheetGives a financial picture of what a company is worth as of particular date.How much the company owesLiabilities+Owner’s Equity=AssetsHow much the company ownsHow much the owner is worth
8 Figure 16.1 - Elements of the Balance Sheet MOOL COMPANYBalance SheetDecember 31, 2007Assets Liabilitiesa. Current assets: a. Current liabilities:b. Cash $ 7, b. Accounts payable $ 80,000c. Accounts receivable ,000 c. Salaries payable ,000d. Merchandise inventory ,000 d Total current liabilities $ 92,000e. Prepaid expenses , e. Long-term liabilities:f Total current assets $61, f Mortgage note payable ,000g. Plant and equipment: g Total liabilities $150,000h. Building (net) $60,000i Land , Stockholders Equityj Total plant and equipment ,000 a. Common stock $ 20,000b. Retained earnings ,000c Total stockholders equity ,000k. Total assets $205, d. Total liab. and stkhlds equity $205,000
9 Preparing a Vertical Analysis of a Balance Sheet Step 1. Divide each asset (the portion) as a percent of total assets (the base). Round as indicated.Step 2. Round each liability and stockholders’ equity (the portions) as a percent of total liabilities and stockholders’ equity (the base). Round as indicated.
10 Figure 16.2 - Comparative Balance Sheet: Vertical Analysis ROGER COMPANYComparative Balance SheetDecember 31, 2006 and 2007Amount Percent Amount PercentAssetsCurrent Assets:Cash $22, $18,Accounts Receivable 8, ,Merchandise inventory 9, ,Prepaid rent , ,Total current assets $43, $39, *Plant and equipment:Building (net) $18, $18,Land , ,Total plant and equipment $42, * $42,Total assets $85, $81,* Due to rounding
11 Preparing a Horizontal Analysis of a Comparative Balance Sheet Step 1. Calculate the increase or decrease (portion) in each item from the base year.Step 2. Divide the increase or decrease in Step 1 by the old or base year.Step 3. Round as indicated.
13 Income StatementIncome Statement$A financial report that tells how well a company is performing (its profitability or net profit) during a specific period of time.Retail BusinessRevenues (Sales)- Cost of merchandise sold= Gross profit from sales- Operating Expenses= Net Income (Profit)Service BusinessRevenues-Operating Expenses=Net Income
14 Figure 16.4 - Income Statement MOOL COMPANYIncome StatementFor Month Ended December 31, 2007Revenuesa. Gross Sales $22,080b. Less: Sales returns and allowances $ 1,082c Sales discounts ,514d. Net SalesCost of merchandise (goods) sold: $20,566a. Merchandise Inventory 12/1/ $ 1,248b. Purchases $10,512c. Less: Purchases returns and allowances $336d. Less: Purchase discountse. Cost of net purchases ,972f. Cost of merchandise (goods available for sale) $11,220g. Less: Merchandise inventory 12/31/ ,600h. Cost of merchandise (goods sold) ,620Gross profit from sales $10,946Operating expenses:a Salary $ 2,200b Insurancec Utilitiesd Plumbinge Rentc DepreciationTotal operating expenses ,630Net income $ 6,316
15 Key Calculations on Income Statement Net sales = Gross sales - Sales returns and - Sales discountsAllowancesCost of Net purchasesmerchandise = Beginning (purchase less Ending(goods) sold inventory returns & discounts) inventoryGross profit = Net sales - Cost of merchandisefrom sales (goods) soldNet income = Gross profit - Operating expenses
16 Figure 16.5 - Income Statement Vertical Analysis ROYAL COMPANYComparative Income StatementFor Years Ended December 31, 2006 and 2007Percent Percentof net of netNet Sales $45, $29,Cost of merchandise sold 19, ,Gross profit from sales $26, $17,Operating expenses:Depreciation $1, $Selling and Advertising , ,Research , ,MiscellaneousTotal operating expenses $8, * $ 4,Income before interest and taxes $17, $12,Interest expense , ,Income before taxes $11, * $ 9,Provision for taxes , ,Net income $ 5, $ 6, ** Due to rounding
17 Figure 16.6 - Horizontal Analysis Income Statement FLINT COMPANYComparative Income StatementFor Years Ended December 31, 2006 and 2007Increase (decrease)Amount PercentSales $ 90, $80,000 $10,000Sales returns and allowances , ,Net Sales $88, $78,000 $10,Cost of merchandise sold 45, , ,Gross profit from sales $43,000 $38,000 $ 5,Operating expenses:Depreciation $ 6,000 $ 5,000 $ 1,Selling and Advertising 16, , ,Research , (400)Miscellaneous ,Total operating expenses $23,800 $18,500 $ 5,Income before interest and taxes $19,200 $19,500 $ (300)Interest expense , ,Income before taxes $15,200 $15,500 $ (300)Provision for taxes , , (200)Net income $11,400 $11,500 $ (100)
18 Completing a Trend Analysis Analyzes the changes that occur by expressing each number as a percent of the base yearEach ItemBase AmountStep 1. Select the base year (100%)Step 2. Express each amount as a percent of the base year amount (rounded to the nearest whole percent)
19 Trend Analysis Given (base year 2005) 2008 2007 2006 2005 Sales $750,000 $650,000 $625,000 $650,000Gross Profit 200, , , ,000Net Income , , , ,000Trend AnalysisSales* 115% 100% 96% 100%Gross ProfitNet Income$625,000$650,000* Round to nearest whole percent
20 Ratio Analysis A relationship of one number to another. Used to make comparisons versus previous performanceor other companiesAsset Management ratiosHow well the company manages its assetsProfitability ratiosThe company’s profitability pictureDebt Management ratiosThe company’s debt situation
21 Summary of Key Ratios Industry average, 50% - 70% Current ratio = Current assetsCurrent liabilitiesIndustry average, 2 to 1Acid test (quick ratio) = Current assets - inventory-prepaid expensesIndustry average, 1 to 1Average day’s collection = Accounts receivableNet sales360Industry average, daysTotal debt to total assets = Total liabilitiesTotal assetsIndustry average, 50% - 70%
22 Summary of Key Ratios Return on equity = Net Income Stockholders equityIndustry average, 15% - 20%Asset turnover = Net salesTotal assetsIndustry average, $.03 to $.08Profit margin on net sales = Net incomeNet salesIndustry average, 25% - 40%
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