Financial Statement Analysis for Decision Making

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Financial Statement Analysis : Financial Statement Analysis Financial Statement Analysis for Decision Making

Opening Vignette - Bristol-Myers Squibb : Opening Vignette - Bristol-Myers Squibb A leading company in the health-care and consumer products industry Sales revenues of $14-billion Assets of $13-billion

Opening Vignette - Bristol-Myers Squibb : How would you compare Bristol-Myers Squibb’s performance against other industry competitors? Companies differ in size, so you can’t compare absolute dollar amounts Need to use ratios - tools to translate financial data into percentages - which can be compared across companies Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 Assets 28.0 Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : BRISTOL-MYERS SQUIBB Sales revenues $13.7 Net income 1.8 Assets 13.0 PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 Assets 28.0 Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : BRISTOL-MYERS SQUIBB Sales revenues $13.7 Net income 1.8 Assets 13.0 You can use the return on sales ratio to compare PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 Assets 28.0 Which company was better in generating net income from sales revenues earned? Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 $2.6 $33.4 = 7.78% Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : BRISTOL-MYERS SQUIBB Sales revenues $13.7 Net income 1.8 PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 $2.6 $33.4 = 7.78% Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : BRISTOL-MYERS SQUIBB Sales revenues $13.7 Net income 1.8 $1.8 $13.7 = 13.13% PROCTER & GAMBLE Sales revenues $33.4 Net income 2.6 $2.6 $33.4 = 7.78% Opening Vignette - Bristol-Myers Squibb

Opening Vignette - Bristol-Myers Squibb : BRISTOL-MYERS SQUIBB Sales revenues $13.7 PROCTER & GAMBLE Sales revenues $33.4 Opening Vignette - Bristol-Myers Squibb Although P&G’s sales were higher

Chapter Learning Objectives : Chapter Learning Objectives 1. Perform a horizontal analysis of comparative financial statements 2. Perform a vertical analysis of financial statements 3. Prepare common-size financial statements for benchmarking against the industry average and key competitors

Chapter Learning Objectives : 4. Use the statement of cash flows in decision making 5. Compute the standard financial ratios used for decision making 6. Use ratios in decision making 7. Measure economic value added by a company’s operations Chapter Learning Objectives

Financial Statement Analysis : Financial Statement Analysis External users rely on publicly-available information to perform financial analysis Such information is contained in corporate annual report

Annual Report Contents : FOUR BASIC FINANCIAL STATEMENTS Annual Report Contents

Annual Report Contents : FOUR BASIC FINANCIAL STATEMENTS FOOTNOTES TO THE FINANCIAL STATEMENTS Annual Report Contents

Annual Report Contents : FOUR BASIC FINANCIAL STATEMENTS FOOTNOTES TO THE FINANCIAL STATEMENTS SUMMARY OF ACCOUNTING METHODS Annual Report Contents

Annual Report Contents : FOUR BASIC FINANCIAL STATEMENTS FOOTNOTES TO THE FINANCIAL STATEMENTS SUMMARY OF ACCOUNTING METHODS MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL STATEMENTS Annual Report Contents

Financial Statement Analysis : Financial Statement Analysis Before you jump to a decision, consider the following: 1. Financial statements provide data about what happened during the accounting period Pick the one annual report component which provides investors and creditors with the most descriptive information about the corporation’s activities and financial condition

Financial Statement Analysis : Financial Statement Analysis 2. Investors and creditors use information contained in the annual report to: Forecast future income and cash flows Assess risk of investing in or lending to the corporation

Financial Statement Analysis : MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL STATEMENTS 4 Financial Statement Analysis

Financial Statement Analysis : Financial Statement Analysis Management’s discussion and analysis (MD&A) includes: Evaluation of current business operations Assessment of future operations

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information Horizontal Analysis

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information Horizontal Analysis Vertical Analysis

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information Horizontal Analysis Vertical Analysis Ratio Analysis

Chapter Objective 1 : Chapter Objective 1 Perform a horizontal analysis of comparative financial statements

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information

Tools to Evaluate Financial Information : Tools to Evaluate Financial Information Horizontal Analysis

Horizontal Analysis : Horizontal Analysis Examines percentage change in each item on the financial statements Compares current year’s dollar amount with prior year’s dollar amount Expresses the change in Dollars Percentage

Horizontal Analysis : Horizontal Analysis First, calculate dollar change from base year (prior year) to current year

Horizontal Analysis : Horizontal Analysis First, calculate dollar change from base year (prior year) to current year Second, divide dollar change by base-year dollar amount

Horizontal Analysis : Horizontal Analysis Let’s use several pieces of information from The Home Depot’s balance sheet - provided in the opening pages of textbook Chapter 7 - to illustrate the process of horizontal analysis

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225 Difference

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225 $53,159 Difference

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225 $53,159 Divide

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225 $53,159 19.5% Divide

Horizontal Analysis : Horizontal Analysis DOLLAR AMOUNT INCREASE (DECREASE) Amounts in thousands 1996 1995 Dollars % Receivables (net) $325,384 $272,225 $53,159 19.5% Leasehold Improv. 314,933 273,015 41,918 15.3

Trend Percentages : Trend Percentages Specialized form of horizontal analysis Shows trend of financial statement items over longer time periods such as 5 or 10 years

Trend Percentages : Trend Percentages Base year (earliest year in the time series) set at 100% All other years expressed as percentage of base year

Trend Percentages : Trend Percentages Income statement amounts for Ray’s Seafood Shack are presented in the next slide Compute the trend percentages for these items

Trend Percentages : Trend Percentages (AMOUNTS IN THOUSANDS ) 1998 1997 1996 1995 1994 1993 Net Sales $714 $553 $502 $474 $451 $346

Trend Percentages : Trend Percentages (AMOUNTS IN THOUSANDS ) 1998 1997 1996 1995 1994 1993 Net Sales $714 $553 $502 $474 $451 $346 Divide x 100 Net Sales 206% 160% 145% 137% 130% 100%

Trend Percentages : Trend Percentages (AMOUNTS IN THOUSANDS ) 1998 1997 1996 1995 1994 1993 Net Sales $714 $553 $502 $474 $451 $346 Cost of Sales 373 265 201 259 280 193 Net Sales 206% 160% 145% 137% 130% 100% Cost of Sales 193 137 104 134 145 100

Trend Percentages : Trend Percentages (AMOUNTS IN THOUSANDS ) 1998 1997 1996 1995 1994 1993 Net Sales $714 $553 $502 $474 $451 $346 Cost of Sales 373 265 201 259 280 193 Gross Profit 341 288 301 215 171 153 Net Sales 206% 160% 145% 137% 130% 100% Cost of Sales 193 137 104 134 145 100 Gross Profit 223 188 197 140 112 100

Horizontal Analysis and Trend Percentages: A Summary : Horizontal Analysis and Trend Percentages: A Summary Tools used to compare financial results of companies of different sizes and/or in different industries

Chapter Objective 2 : Chapter Objective 2 Perform a vertical analysis of financial statements

Vertical Analysis : Vertical Analysis

Vertical Analysis : Vertical Analysis Vertical Analysis

Vertical Analysis : Vertical Analysis Compares each item on the financial statement to a key, or base, item Base-item dollar amount always set to 100% Income statement Net sales = 100% Balance sheet Total assets = 100%

Vertical Analysis : 19X7 19X6 AMOUNT % AMOUNT % Net sales $430,013 100% $362,386 100% Cost of Goods Sold 336,589 78 284,897 79 Gross Profit 93,424 22 77,489 21 Selling, General & Admin. 72,363 17 65,096 18 Income from Operations 21,061 5 12,393 3 Income Taxes 7,072 2 4,350 2 Net Income $13,989 3% $8,043 2% Vertical Analysis

Vertical Analysis : Vertical Analysis Once financial statement items are converted into percentages of the base item, users can compare one company’s financials against another’s These are called common-size statements

Chapter Objective 3 : Chapter Objective 3 Prepare common-size financial statements for benchmarking against the industry average and key competitors

Common-Size Statements : Common-Size Statements Show all items as percentages of the key, or base, amount Use no dollar amounts Facilitate financial statement comparison among different sized companies Improve user’s ability to assess company performance against industry averages

Common-Size Statements : Common-Size Statements Can also be used to evaluate company performance over time Refer to textbook Exhibit 13-6

Benchmarking Against the Industry Average : Benchmarking Against the Industry Average Benchmarking is a term used to describe the process of comparing a company’s activities to a standard of excellence achieved by industry leaders

Benchmarking Against Key Competitors : A company also can compare its common-size financials to those of its industry’s leaders Determine where it differs Design and implement business processes to bring financial results in line with these benchmark entities Benchmarking Against Key Competitors

Benchmarking Against Key Competitors : Examine textbook Exhibits 13-7 and 13-8 to see how common-size financials can be used in benchmarking Benchmarking Against Key Competitors

Chapter Objective 4 : Chapter Objective 4 Use the statement of cash flows in decision making

Statement of Cash Flows in Decision Making : Statement of Cash Flows in Decision Making Summarizes sources and uses of entity’s cash flows Internal and external decision makers want to see majority of cash inflows coming from operating activities WHY?

Statement of Cash Flows in Decision Making : Company cannot stay in business for long if it cannot generate enough cash from operations to cover operating expenses While borrowing and investing activities provide cash for business use, long-term reliance on these activities for sources of cash is not advised Statement of Cash Flows in Decision Making

Chapter Objective 5 : Chapter Objective 5 Compute the standard financial ratios used for decision making

Using Ratios to Make Business Decisions : Using Ratios to Make Business Decisions

Using Ratios to Make Business Decisions : Ratio Analysis Using Ratios to Make Business Decisions

Using Ratios to Make Business Decisions : Using Ratios to Make Business Decisions Ratios - the relationship between two items on financial statements - permit users to calculate a variety of financial comparisons These ratios can be compared to: Prior years’ financial results Industry averages Benchmark entities’ ratios

Using Ratios to Make Business Decisions : Ratios measure an entity’s ability to: Pay current liabilities Sell inventory and collect receivables Pay long-term debt Generate profits from operations Sustain shareholder wealth Using Ratios to Make Business Decisions

Using Ratios to Make Business Decisions : Access to computerized spreadsheets, integrated financial analysis software, and financial databases makes ratio calculation a snap! Using Ratios to Make Business Decisions

Measuring the Company’s Ability to Pay Current Liabilities : Measuring the Company’s Ability to Pay Current Liabilities One measure of entity’s ability to pay its current obligations is to look at working capital Current assets - current liabilities 2 ratios help users assess working capital information

Using Ratios to Make Business Decisions : We’ll use the Lands’ End, Inc., financial statements from textbook Chapter 1 to illustrate a variety of financial ratios for business decision making All dollar amounts presented are in thousands Using Ratios to Make Business Decisions

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Current ratio

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Current ratio Current assets Current liabilities

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Current ratio Current assets Current liabilities $222,089 $114,744 = 1.94

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Quick ratio

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Quick ratio Current assets - inventory - prepaid items Current liabilities

Ability to Pay Current Liabilities : Ability to Pay Current Liabilities Current ratio Current assets - inventory - prepaid items Current liabilities $25,240 $114,744 = .22

Measuring the Company’s Ability to Sell Inventory and Collect Receivables : Measuring the Company’s Ability to Sell Inventory and Collect Receivables Entity’s operating cycle Time to go from cash to inventory to receivables to cash is critical to generating cash inflows from operating activities 3 ratios help users assess management’s skill in selling inventory and collecting receivables

Measuring the Company’s Ability to Sell Inventory and Collect Receivables : Inventory turnover Measuring the Company’s Ability to Sell Inventory and Collect Receivables 1

Measuring the Company’s Ability to Sell Inventory and Collect Receivables : Inventory turnover A/R turnover Measuring the Company’s Ability to Sell Inventory and Collect Receivables 1 2

Measuring the Company’s Ability to Sell Inventory and Collect Receivables : Inventory turnover A/R turnover Days’ sales in receivables Measuring the Company’s Ability to Sell Inventory and Collect Receivables 1 2 3

Inventory Turnover : Inventory Turnover Number of times the average level of inventory is sold during the accounting year Measures time required to earn return on company’s investment in inventory

Inventory Turnover : Inventory Turnover Cost of goods sold Average inventory

Inventory Turnover : Inventory Turnover Cost of goods sold Average inventory $588,017 ($164,816 + $168,652) / 2 = 3.53

Inventory Turnover : Inventory Turnover High ratio indicates ability to quickly sell inventory Too high a ratio may indicate inadequate inventory levels Turnover ratio should be compared to historical and industry averages Analyze significant variances

Accounts Receivable Turnover : Accounts Receivable Turnover Number of times the average level of A/R is collected during the accounting year Measures ability to collect cash from credit customers $

Accounts Receivable Turnover : Accounts Receivable Turnover Net credit sales Average net A/R

Accounts Receivable Turnover : Net credit sales* Average net A/R $1,031,548* ($8,064 + $4,459) / 2 = 165 * Lands’ End’s ratio is not accurate. Net credit sales figure is unavailable. Net sales from the income statement used instead. Accounts Receivable Turnover

Days’ Sales in Receivables : Days’ Sales in Receivables Number of equivalent days’ sales revenue represented by the outstanding A/R balance Measures A/R balance in terms of number of days it would take to generate the equivalent dollar amount of sales $

Days’ Sales in Receivables : Average net A/R (Net sales / 365 days) Days’ Sales in Receivables

Days’ Sales in Receivables : Average net A/R (Net sales / 365 days) $6,262 ($1,031,548 / 365 days) = 2.22 days Days’ Sales in Receivables

Days’ Sales in Receivables : Lands’ End’s receivables ratios look unusual when compared to the textbook and industry averages This is due to significant volume of sales made with bank cards like VISA, MasterCard, and American Express Days’ Sales in Receivables

Days’ Sales in Receivables : These sales treated like cash sales - merchandisers receive payment for them almost immediately Lands’ End’s receivables are rather small when compared to total net sales Not the situation for retailers like JCPenney or Montgomery Ward who offer their own lines of revolving credit Days’ Sales in Receivables

Measuring the Company’s Ability to Pay Long-Term Debt : Measuring the Company’s Ability to Pay Long-Term Debt Bondholders and long-term lenders are concerned about an entity’s ability to repay debt principal and accumulated interest on long-term notes and loans 2 ratios help these users assess the entity’s ability to pay its long-term obligations Debt ratio Times-interest-earned ratio

Debt Ratio : Debt Ratio Relationship between company’s total liabilities and total assets Measures proportion of total assets provided through debt 1 - debt ratio = proportion of assets provided by equity

Debt Ratio : Debt Ratio Total Liabilities Total Assets

Debt Ratio : Debt Ratio Total Liabilities Total Assets $122,305 $323,497 = .38

Debt Ratio : Debt Ratio If debt ratio = 1.0, company used all debt to finance acquisition of its assets A highly unlikely situation Thus, debt ratio is generally less than 1.0 LOANS, NOTES, BONDS, ETC.

Debt Ratio : Debt Ratio The higher the ratio, the more cash the company must commit toward paying annual interest expense and loan principal As a result, company’s cash flow might be negatively affected

Debt Ratio : Lenders and creditors might require company to appropriate portion of retained earnings to ensure sufficient assets to repay interest and loan principal Debt Ratio

Times-Interest-Earned Ratio : Times-Interest-Earned Ratio Relationship between company’s net income from operations and interest expense Measures ability of company to cover, or pay for, its interest expense out of operating income

Times-Interest-Earned Ratio : Times-Interest-Earned Ratio Income from operations Interest expense

Times-Interest-Earned Ratio : Times-Interest-Earned Ratio Income from operations Interest expense $49,165 $2,771 = 17.7

Times-Interest-Earned Ratio : Lands’ End’s high ratio indicates ease in meeting debt interest payments Times-Interest-Earned Ratio

Times-Interest-Earned Ratio : A low ratio would signal possible difficulties in making payments to lenders and bondholders Times-Interest-Earned Ratio

Measuring a Company’s Profitability : Measuring a Company’s Profitability Financial analysts pay close attention to ratios which assess a company’s ability to generate profits and operate efficiently Creditors and investors rely on forecasts of a company’s potential to generate net income when they make lending and investing choices

Measuring a Company’s Profitability : 4 profitability ratios are commonly used in financial statement analysis Measuring a Company’s Profitability

Measuring a Company’s Profitability : 4 profitability ratios are commonly used in financial statement analysis Return on sales Measuring a Company’s Profitability

Measuring a Company’s Profitability : 4 profitability ratios are commonly used in financial statement analysis Return on sales Return on assets Measuring a Company’s Profitability

Measuring a Company’s Profitability : 4 profitability ratios are commonly used in financial statement analysis Return on sales Return on assets Return on equity Measuring a Company’s Profitability

Measuring a Company’s Profitability : 4 profitability ratios are commonly used in financial statement analysis Return on sales Return on assets Return on equity Earnings per share Measuring a Company’s Profitability

Return on Sales : Relationship between a company’s net income and net sales Measures management’s ability to efficiently and effectively manage company operations Shows percentage of each net sales dollar earned as net income Return on Sales

Return on Sales : Return on Sales Net income Net sales revenue

Return on Sales : Return on Sales Net income Net sales revenue $ 30,555 $1,031,548 = .0296

Return on Sales : Higher rate tells users that more net sales dollars add to a company’s profits And fewer dollars go to cover company expenses Company conducts its business effectively, manages expenses Return on Sales Net Income

Return on Assets : Ratio of the return to the two groups that provide financing to the company Creditors and investors and average assets owned during the period Measures company’s success in generating income from its available resources Return on Assets

Return on Assets : Net income + interest expense Average total assets Return on Assets

Return on Assets : Net income + interest expense Average total assets $30,555 + 2,771 ($323,497 + $297,613) / 2 = .1073 Return on Assets

Return on Assets : Return on Assets Why do we add back interest expense to net income?

Return on Assets : Total assets are financed by 2 sources: Investors (equity) Creditors (debt) Net income is the return attributable to investors in the company’s stock Interest expense is the return paid to creditors for using their funds to acquire assets Return on Assets

Return on Equity : Relationship between net income available to common stockholders and the equity they provide Measures company’s success in using stockholders’ investments to generate net income Return on Equity

Return on Equity : Return on Equity Net income - preferred dividends Common contributed capital + retained earnings

Return on Equity : Return on Equity Net income - preferred dividends Common contributed capital + retained earnings $30,555* ($286,676 + $255,773) / 2 = .1126 * Lands’ End does not have preferred stock

Earnings Per Share : Relationship between net income available to common stockholders and the number of shares of common stock issued Expresses net income in terms of one share of the company’s common stock Earnings Per Share

Earnings Per Share : Earnings Per Share Net income - preferred dividends # of shares of common stock outstanding

Earnings Per Share : Earnings Per Share Net income - preferred dividends # of shares of common stock outstanding $30,555,000* 40,221,000 shares = $.76 * Lands’ End does not have preferred stock; numbers shown are actual amounts

Earnings Per Share : Earnings Per Share In addition to net income, EPS is presented for several other elements on the corporate income statement Discontinued operations Extraordinary items Cumulative effect of accounting change Earnings per share (EPS) disclosure on the face of the corporate income statement is mandatory

Analyzing the Company’s Stock as an Investment : Analyzing the Company’s Stock as an Investment

Analyzing the Company’s Stock as an Investment : Investors expect to receive 2 types of returns on their investments in a corporation’s common stock Gains earned when they sell the corporation’s stock Periodic dividends paid by the corporation to its stockholders Analyzing the Company’s Stock as an Investment

Analyzing the Company’s Stock as an Investment : Financial analysts use several ratios to assess value of stock investments Price/earnings ratio Dividend yield Book value Analyzing the Company’s Stock as an Investment

Price/Earnings Ratio : Price/Earnings Ratio Relationship between a stock’s market price and its earnings per share Measures the number of times one share of stock sells above the current period’s reported earnings Assists financial analysts in deciding if a stock is overpriced or underpriced

Price/Earnings Ratio : Calculating the P/E ratio Price/Earnings Ratio

Price/Earnings Ratio : Calculating the P/E ratio Market value of stock Earnings per share Price/Earnings Ratio

Price/Earnings Ratio : Suppose the market value of Asian Art, Inc., common stock is $15.75 on the last day of its fiscal year Calculating the P/E ratio Market value of stock Earnings per share Price/Earnings Ratio

Price/Earnings Ratio : Suppose the market value of Asian Art, Inc., common stock is $15.75 on the last day of its fiscal year The income statement reports EPS of $.92 Price/Earnings Ratio Calculating the P/E ratio Market value of stock Earnings per share

Price/Earnings Ratio : Suppose the market value of Asian Art, Inc., common stock is $15.75 on the last day of its fiscal year The income statement reports EPS of $.92 What is Asian Art’s price/earnings ratio? Price/Earnings Ratio Calculating the P/E ratio Market value of stock Earnings per share

Price/Earnings Ratio : Price/Earnings Ratio Market value of stock Earnings per share

Price/Earnings Ratio : Price/Earnings Ratio Market value of stock Earnings per share $15.75 $.92 = 17.12

Dividend Yield : Dividend Yield Ratio of dividends per share of stock to the stock’s market value Indicates the percentage of a stock’s market value “returned” to the stockholder in the form of dividends Assists investors who desire a steady flow of dividend revenue in their decisions to invest in a particular stock

Dividend Yield : Dividend Yield Annual dividends per share Stock’s market value per share If Asian Art paid a total of $1.25 in dividends per share, what would be its dividend yield, assuming the same market value for its stock ($15.75)?

Dividend Yield : Dividend Yield Annual dividends per share Stock’s market value per share

Dividend Yield : Dividend Yield Annual dividends per share Stock’s market value per share $1.25 $15.75 = .079

Book Value : Book Value Relationship between common stockholders’ equity and number of common shares outstanding Measures the accounting value of one share of the corporation’s common stock DEBIT CREDIT

Book Value : Book Value Total equity - preferred equity # of shares of common stock outstanding The book value of one share of Lands’ End common stock is: $201,192,000 40,221,000 shares = $5.00/share

Chapter Objective 6 : Chapter Objective 6 Use ratios in decision making

Limitations of Financial Analysis : Limitations of Financial Analysis No one ratio or year’s worth of financial information should be relied upon to provide a complete assessment of a corporation’s financial condition Analysts should: Examine trends over time Benchmark to industry and key competitors Seek answers about why ratios are different

Limitations of Financial Analysis : Limitations of Financial Analysis Recall the W.T. Grant bankruptcy discussed in textbook Chapter 12

Limitations of Financial Analysis : Limitations of Financial Analysis Recall the W.T. Grant bankruptcy discussed in textbook Chapter 12 Grant’s ratios were reasonably good up until several years before its failure

Limitations of Financial Analysis : Limitations of Financial Analysis But analysts and the investing public continued to believe the company’s strong history would carry it forward Recall the W.T. Grant bankruptcy discussed in textbook Chapter 12 Grant’s ratios were reasonably good up until several years before its failure

Limitations of Financial Analysis : Limitations of Financial Analysis But analysts and the investing public continued to believe the company’s strong history would carry it forward Financial statement users didn’t consider the social and economic changes of the early 1970s and how these affected the retailer! Recall the W.T. Grant bankruptcy discussed in textbook Chapter 12 Grant’s ratios were reasonably good up until several years before its failure

The Complexity of Business Decisions : The Complexity of Business Decisions Business environment is complicated by numerous local, regional, national, and global issues - all must be considered when evaluating current financial condition or forecasting future potential for income

Chapter Objective 7 : Chapter Objective 7 Measure economic value added by a company’s operations

Economic Value Added - A New Measure of Performance : Economic Value Added - A New Measure of Performance Measure of increase in stockholder wealth brought about by corporate operating activities Returns to the 2 providers of capital Investors Lenders should exceed amount these providers charge the corporation to use their capital

Economic Value Added - A New Measure of Performance : Economic Value Added - A New Measure of Performance Net income + interest exp.

Economic Value Added - A New Measure of Performance : Notes + loans + long-term debt + stockholders’ equity Economic Value Added - A New Measure of Performance x Net income + interest exp.

Economic Value Added - A New Measure of Performance : Notes + loans + long-term debt + stockholders’ equity Economic Value Added - A New Measure of Performance x Net income + interest exp. Cost of capital

World Wide Web Sites to Visit : World Wide Web Sites to Visit Bristol-Myers Squibb http://www.bms.com/ Procter & Gamble http://www.pg.com/

Slide 178 : TIME TO REST