Analysis for Financial Management Chap 2

EvaluatingFinancialPerformance CHAPTER2 McGraw Hill Irwin Copyright 2009byTheMcGraw HillCompanies Inc Allrightsreserved Introduction Analogytoflightcockpit Indicatorsandlevers LeversofFinancialPerformance ROEisNetIncomedividedbyShareholders equity Whyisthisasensibledefinition 3determinantsofROEareProfitmargin Netincome SalesAssetturnover Sales AssetsFinancialleverage Assets Shareholders equityComparedifferentcompaniesonthese TABLE2 1ROEsandLeversofPerformancefor10DiverseCompanies 2007 Comparisons DifferencesinROEacrossfirmsislessthandifferencesincomponents Why Roleofcompetition Isthereanyreasonwhyprofitmarginandassetreturnsarenegativelyrelated ROA Howdefined Netincome AssetsWhatdoesthismeasure Netincome interest Assets GrossMargin GrossProfit SalesGrossprofit AreCOGSvariableorfixed Whyisitimportanttodistinguishbetweenvariableandfixedcosts AssetTurnover TakeanotherlookatTable2 1 Whichcompanieshavehighassetturnovers Whichislikelytobemoresensitivetoexternalevents currentassetsorfixedassets TABLE2 1ROEsandLeversofPerformancefor10DiverseCompanies 2007 Whatisaself liquidatingloan WhathappenstoARandinventorywhensalesgoup WhathappenstoARandinventorywhensalesgodown WhatdoesaratiolikeAR Salestellus Collectionperiod DSO InventoryTurns COGS EndinginventoryWhataretheturns Days SalesinCash Cash Securities SalesperdayWhatdoesthisratiomeasure Cashasasubstitute PayablesPeriod AP CreditpurchasesperdayCOGSasaproxyforCreditpurchases Inventorychangesdowhat Laborcostsdowhat FixedAssetTurnover Sales NetPP ECapitalintensity What sthewheelanalogy FinancialLeverage WhatdoesincreasedfinancialleveragedotoROE Isincreasedleverageagoodthing FloridaPowervs NetflixandGenentechinTable2 1 JPMorganChase Havealook anddescribewhatyousee alongwithanexplanation TABLE2 1ROEsandLeversofPerformancefor10DiverseCompanies 2007 BalanceSheetRatios Debt to assets Totalliabilities TotalassetsDebt to equity Totalliabilities Shareholders equityWhatdotheseratiosmeasure CoverageRatios TIE EBIT InterestexpenseTimesburdencovered EBITdividedbythesumofinterestandprincipalrepayment 1 taxrate IncludesrepaymentofprincipalAdjustsfordifferentialimpactofwhatinrespecttotax Whichcoverageratioismoreimportant Howmuchcoverageisenough Cash borrowingcapacity salableassets businessrisk MarketValueLeverageRatios D EandD AWhatdotheyrepresent Coverageratios Growthprospectsandfuturecoveragepotential Rolloverrisk LiquidityRatios Currentratio CurrentAssets CurrentLiabilitiesAcidtestremovesinventoryfromcurrentassetstoyieldthequickratio IsROEaReliableYardstick TimingForwardlookingandlong termperspective RiskImpactofleverageROIC EBIT 1 Taxrate InterestBearingDebt EquityAPexcludedValueBookvaluevs marketvalueEarningsyield inverseofP EBacktoROIC ROICIsNotDistortedbyCompanyFinancing ROEorMarketPrice Whichisthebetterwaytomeasurefinancialperformance Valuecreationforinvestorsinvolvesmarketvalues Lineofsight Asymmetricinformation Externaleffects economy otherstocks etc ScatterPlots Price to bookvs ROE weightedaverage Figures2 1and2 2comingup Slopeanddispersion R squared FIGURE2 1MarketValuetoBookValueofEquityversusReturnonEquityfor37HouseholdProductsandRelatedCompanies FIGURE2 2MarkettoBookValueofEquityversusReturnonEquityfor87LargeCorporations UsingRatiosEffectively Ratiovaluesneedtobeunderstoodincontext Usually no correct valuesforratios Relyonruleofthumbassessmenttechniques suchascompsandowntimeserieschanges Figure2 3TheLeversofPerformanceSuggestOneRoadMapforRatioAnalysis ScottsMiracle Gro TimeseriesofScottsROE Recapin2007 Quality ROIC Profitmargin Puzzle Grossmargin Howstrongabrand AssetTurnover Assetturnover Loworhigh Goodorbad Fixedassetturnover Inventoryturnover Collectionperiod Days salesincash LeverageandLiquidityRatios Impactofrecap TIEorTBurdenCovered CompareScottstoindustryaverages seenextslide TABLE2 2RatioAnalysisofScottsMiracle GroCo 2003 2007 andIndustryAverages 2007 CommonSizeFinancialStatements Collectionperiod inventoryturnovervs ratiosofARandinventorytoassets Sales assets Workingcapital Fractionofassetsthatareshort term COGSSmall scanbelargerelativetonetincome TABLE2 3ScottsMiracle GroCo Common SizeFinancialStatements 2003 2007andIndustryAveragesfor2007 TABLE2 3ScottsMiracle GroCo Common SizeFinancialStatements 2003 2007andIndustryAveragesfor2007 continued OpportunitiesforCash Achallenge Examinestatementofcashflows contrastingcashflowsfromoperationstocashflowsfrominvestment Excesscash Recap distributiontoshareholders TABLE2 4SelectedRatiosforRepresentativeIndustries 2006 upper quartile medianandlower quartilevalues TABLE2 4SelectedRatiosforRepresentativeIndustries 2006 upper quartile medianandlower quartilevalues continued TABLE2 5DefinitionsofPrincipalRatiosAppearinginChapter TABLE2 5DefinitionsofPrincipalRatiosAppearinginChapter continued AppendixInternationalDifferences Intheupcomingtable lookattheUK GermanyandJapan AssetturnsandprofitmarginsinAsiaandLatinAmerica Japanesecollectionperiods payablesperiods andkeiretsu Leverageandliquidityacrosstheglobe PublicCompanies IndebtednessinLatinAmericavs U S Europe andJapan IndebtednessinKorea Thailand Indonesia Controllingfamilies state ownedbanks andthestateUseofbankstofostertop downdirecteddevelopment TABLE2A 1RatioAnalysisofCompaniesinVariousCountriesandRegions 2007 Me