Chapter 5 - Essentials of financial statement analysis. In this chapter you will learn: How cause of change analysis and common-size and trend statements illuminate financial statement patterns and shed light on business activities, how competitive forces and business strategies affect firms’ financial statements, how return on assets (ROA) is used to evaluate profitability, how return on equity (ROCE) can be used to assess the effect of financial leverage on profitability,. | Essentials of Financial Statement Analysis Revsine/Collins/Johnson/Mittelstaedt/Soffer: Chapter 5 Learning objectives How cause of change analysis and common-size and trend statements illuminate financial statement patterns and shed light on business activities. How competitive forces and business strategies affect firms’ financial statements. How return on assets (ROA) is used to evaluate profitability. How return on equity (ROCE) can be used to assess the effect of financial leverage on profitability. How short-term liquidity risk and long-term solvency risk are assessed. How to use the Statement of Cash Flows to assess credit and risk. How to interpret the results of an analysis of profitability and risk. How to prepare and analyze business segment disclosures. 5- Financial statement analysis: Tools and approaches Tools: Approaches used with each tool: Time-series analysis: the same firm over time (., Wal-Mart in 2012 and 2010) Common size statements Trend statements 2. Cross-sectional analysis: different firms at a single point in time (., Wal-Mart and Target in 2012). Financial ratios (., ROA and ROCE) 3. Benchmark comparison: using industry norms or predetermined standards. 5- Evaluating accounting “quality” Analysts use financial statement information to “get behind the numbers”. However, financial statements do not always provide a complete and faithful picture of a company’s activities and condition. 5- How the financial accounting “filter” sometimes works Managers have some discretion over estimates such as “bad debt expense”. Managers have some discretion over the timing of business transactions such as when to buy advertising. Managers can choose any of several different inventory accounting methods. GAAP puts capital leases on the balance sheet, but operating leases are “off-balance-sheet”. 5- Whole Foods Market: Comparative Income Statement 5- Whole Foods Market: Simple Financial Model Representation of Net Income 5- . | Essentials of Financial Statement Analysis Revsine/Collins/Johnson/Mittelstaedt/Soffer: Chapter 5 Learning objectives How cause of change analysis and common-size and trend statements illuminate financial statement patterns and shed light on business activities. How competitive forces and business strategies affect firms’ financial statements. How return on assets (ROA) is used to evaluate profitability. How return on equity (ROCE) can be used to assess the effect of financial leverage on profitability. How short-term liquidity risk and long-term solvency risk are assessed. How to use the Statement of Cash Flows to assess credit and risk. How to interpret the results of an analysis of profitability and risk. How to prepare and analyze business segment disclosures. 5- Financial statement analysis: Tools and approaches Tools: Approaches used with each tool: Time-series analysis: the same firm over time (., Wal-Mart in 2012 and 2010) Common size statements Trend statements 2. .
