Financial Statement Analysis

Financial Ratios
Figure 1. Summary Table of Financial Ratios

Ratio Formula What it measures What it tells you

Owners: Net Income

Return on Investment Average Owners’ Equity Return on owners’ capital How well is this company
(ROI) When compared with doing as an investment?
return on assets, it
measures the extent to
which financial leverage is
being used for or against
the owner.

Return on Assets (ROA) Net Income How well assets have been How well has management
Average Total Assets employed by management. employed company assets?
Does it pay to borrow?
Managers: Net Income
Net Profit Margin Sales Operating efficiency. The Are profits high enough,
ability to create sufficient given the level of sales?
profits from operating
activities.

Asset Turnover Sales Relative efficiency in using How well are assets being
Average Total Assets total resources to product used to generate sales
output. revenue?

Return on Assets Net Income x Sales Earning power on all How well has management
Sales Total Assets assets; ROA ratio broken employed company assets?
into its logical parts:
turnover and margin
.
Average Collection Average A/R x 365 Liquidity of receivables in Are receivables coming in
Period Annual Credit Sales terms of average number too slowly?
of days receivables are
outstanding.

Inventory Turnover Cost of Goods Sold Expense Liquidity of inventory; the Is too much cash tied up in
Average Inventory number of times it turns inventories?
over per year.

Average Age of Average A/P x 365 Approximate length of time How quickly does a
Payables Net Purchases a firm takes to pay its bills prospective customer pay its
for trade purchases. bills?
Short-Term Creditors
Working Capital Current Assets – Short-term debt-paying Does this customer have
Current Liabilities ability. sufficient cash or other liquid
assets to cover its short-
term obligations?
Page 1 of 9
Current Ratio Current Assets Short-term debt-paying Does this customer have
Current Liabilities ability without regard to the sufficient cash or other liquid
liquidity of current assets. assets to cover its short-
term obligations?

Quick Ratio Cash+Mktble Sec.+A/R Short-term debt-paying Does this customer have
Current Liabilities ability without having to rely sufficient cash or other liquid
on sale of inventory. assets to cover its short-
term obligations?

Long-Term Creditors: Total Debt Amount of assets provided Is the company’s debt load
Debt-to-Equity Ratio Total Equity by creditors for each dollar excessive?
of assets provided by
owner(s)

Times Interest Earned Net Income+(Interest+Taxes) Ability to pay fixed charges Are earnings and cash flows
Interest Expense for interest from operating sufficient to cover interest
profits. payments and some
principal repayments?

Cash Flow to Liabilities Operating Cash Flow Total debt coverage. Are earnings and cash flows
Total Liabilities General debt-paying ability. sufficient to cover interest
payments and some
principal repayments

Figure 2. K-L Fashions, Inc. Financial Statements

Income Statement
For the year ended January 31:

(Dollars in thousands) 2005 2004 2003 2002

Net Sales $6,039,750 $5,452,010 $4,558,060 $3,362,910

Cost of Goods 3,573,070 3,135,730 2,616,710 1,903,480
Gross Profit 2,466,680 2,316,280 1,941,350 1,459,430

Selling, General and Administrative 2,221,540 1,849,100 1,434,860 1,076,990

Expenses (including depreciation)

Income from Operations 245,140 467,180 506,490 382,440

Other Income (expenses):
Interest and other income 14,470 19,510 27,250 14,410
Interest Expense (10,180) (13,990) (12,320) (13,570)

Income Before Income Taxes 249,430 472,700 521,420 383,280

Income Tax Provision 102,000 181,990 198,600 162,080

Net Income $147,430 $290,710 $322,820 $221,200

(As a Percentage of Sales)

Net Sales 100.0% 100.0% 100.0% 100.0%
Cost of Goods 59.2 57.5 57.4 56.6
Gross Profit 40.8 42.5 42.6 43.4

Selling, General and Administrative 36.8 33.9 31.5 32.0

Expenses (including depreciation)

Income from Operations 4.0 8.6 11.1 11.4

Other Income (expenses):
Page 2 of 9
 Interest and other income .3 .4 .6 .4

Interest Expense (.2) (.3) (.3) (.4)

Income Before Income Taxes 4.1 8.7 11.4 11.4

Income Tax Provision 1.7 3.4 4.3 4.8

Net Income 2.4% 5.3% 7.1% 6.6%

Figure 2. (Cont.) K-L Fashions, Inc. Financial Statements
Balance Sheet
January 31:

(Dollars in thousands) 2005 2004 2003 2002

Assets
Current Assets:
Cash and Cash Equivalents $272,640 $82,540 $321,390 $281,750
Receivables 12,090 3,480 7,550 2,740
Inventory 738,630 857,090 668,200 464,440
Prepaid Expenses 54,880 54,030 39,670 33,630
Total Current Assets 1,078,240 997,140 1,036,810 782,560

Property, Plant & Equipment (at cost):

Land and Buildings 531,270 383,350 312,670 151,140
Fixtures and equipment 476,460 411,230 251,920 219,740
Leasehold improvements 16,460 15,120 12,340 9,080
Construction in progress ---- 46,370 32,800 6,740
Less Accumulated Depreciation (248,430) (183,890) (135,020) (99,470)
Property, Plant & Equipment, net 775,760 672,180 474,710 287,230
Total Assets $1,854,000 $1,669,320 $1,511,520 $1,069,790

Liabilities and Stockholders’ Equity

Current Liabilities:
Accounts Payable $377,970 $244,150 $259,040 $212,223
Advance Payment on Orders 4,460 2,030 3,500 4,530
Income Taxes Payable 70,800 53,020 103,970 53,940
Other Current Obligations 154,510 139,950 148,790 117,900
Total Current Liabilities 607,740 439,150 515,300 388,600

Long-Term Debt 78,000 84,130 76,740 86,670

Stockholders’ Equity:
Common Stock; 20.1M, 20.1M &20.0M
Shares, respectively, at par 2,010 2,010 2,000 2,000
Additional Capital, net 311,360 307,810 293,080 223,080
Retained Earnings 983,810 875,160 624,400 341,666
Less Treasury Stock, at cost (128,920) (38,940) ---- ----
Total Stockholders’ Equity 1,168,260 1,146,040 919,480 566,740
Total Liabilities and Equity $1,854,000 $1,669,320 $1,511,520 $1,069,790

The financial statements of Summer Limited

Summer Limited Balance Sheet as at 30th April 2011
2011 2010
£ £ £ £
000 000 000 000
Non-current (Fixed) assets 458 360

Page 3 of 9
Current Assets
Inventories (Stocks) 125 160
Receivables (Debtors) 100 80
Cash 54 0
279 240

Less Current liabilities

(Payables) Trade creditors 50 50
Taxation 18 12
Dividend 45 30
Bank overdraft 0 16
(113) (108)
Net Currents Assets 166 132

Non-current liabilities
Loans (78) (78)
Net assets 546 414

Capital and reserves

£1 Ordinary shares 200 200
Retained profit 346 214
546 414

Summer Limited Income Statement for the year ended 30 April 2011

2011 2010
£ £
000 000
Sales 760 750
Less Cost of sales 335 375
Gross Profit 425 375
Less Operating expenses 220 260
Operating profit 205 115
Less Interest payable 10 10
Profit before taxation 195 105
Less Tax payable 18 12
Profit after taxation 177 93
Retained profit brought 214 151
forward
Less Dividend 45 30
Retained profit £346 £214

Page 4 of 9
Calculate relevant ratios and analyse the position and performance of
Summer Limited. Your ratios should cover the areas of liquidity, profitability,
asset utilisation, gearing and other ratios of interest to the shareholders.

Summary of Key Financial Ratios

Return on ordinary
shareholders’ funds (ROSF)
Return on capital employed Net profit before interest & tax
x 100
ROCE Share capital + reserves + long - term loans
Net profit margin

Gross profit margin

Average stock (inventory) Average stock held

x 365
turnover period Cost of sales
Average settlement period Trade debtors
x 365
for debtors Credit sales
Average settlement period Trade creditors
x 365
for creditors Credit purchases
Sales revenue to capital
employed
Sales revenue per
employee
Current ratio

Acid test ratio

Cash generated from

operations to maturing
obligations
Gearing

Interest cover Profit before interest & tax

Interest payable
Dividend payout Dividends announced during the year
x 100
Earnings for the year available for dividend
Dividend yield Dividend per share / (1 - t)
x 100
Market value per share
Earnings per share

Cash generated from

operations per share
Price earnings ratio (P/E)

Page 5 of 9
Page 6 of 9
Page 7 of 9
Page 8 of 9
Page 9 of 9