Introduction to Financial Management

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10 Νοε 2013 (πριν από 3 χρόνια και 7 μήνες)

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Key Concepts and Skills

Have a good understanding of:


The basic types of financial management
decisions and the role of the financial
manager


The goal of financial management


The financial implications of the different
forms of business organization


The conflicts of interest that can arise
between owners and managers

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-
3

Basic Areas Of Finance

1.
Corporate finance = Business Finance

2.
Investments

3.
Financial institutions

4.
International finance

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4

Investments


Work with financial assets such as
stocks and
bonds



Value
of financial assets, risk
versus return, and asset
allocation

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-
5

Financial Institutions


Companies that specialize in
financial
matters



Banks


commercial and investment,
credit unions, savings and loans


Insurance companies


Brokerage
firms

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-
6

International Finance


An area of specialization within each of
the areas discussed so far


May allow you to work in other countries
or at least travel on a regular basis


Need to be familiar with exchange rates
and political risk


Need to understand the customs of
other countries; speaking a foreign
language fluently is also helpful

1
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7

Finance

and




Marketing


Budgets, marketing research, marketing financial
products


Accounting


Dual accounting and finance function, preparation
of financial statements


Management


Strategic thinking, job performance, profitability


Personal finance


Budgeting, retirement planning, college planning,
day
-
to
-
day cash flow issues

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8

Business Finance


Some important questions that are
answered using finance


What long
-
term investments should the firm
take on?


Where will we get the long
-
term financing to
pay for the investments?


How will we manage the everyday financial
activities of the firm?

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-
9

Financial Management
Decisions


Capital budgeting


What long
-
term investments or projects
should the business take on?


Capital structure


How should we pay for our assets?


Should we use debt or equity?


Working capital management


How do we manage the day
-
to
-
day
finances of the firm?

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10

Forms of Business Organization

Three major forms in the United States


Sole proprietorship


Partnership


General


Limited


Corporation


S
-
Corp


Limited liability company

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Sole Proprietorship


Advantages


Easiest to start


Least regulated


Single owner keeps
all of the profits


Taxed once as
personal income


Disadvantages


Limited to life of owner


Equity capital limited to
owner’s personal
wealth


Unlimited liability


Difficult to sell
ownership interest

Business owned by one person

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12

Partnership


Advantages


Two or more owners


More capital available


Relatively easy to
start


Income taxed once as
personal income


Disadvantages


Unlimited liability


General partnership


Limited partnership


Partnership dissolves
when one partner dies
or wishes to sell


Difficult to transfer
ownership

Business owned by two or more persons

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13

Corporation


Advantages


Limited liability


Unlimited life


Separation of
ownership and
management


Transfer of ownership
is easy


Easier to raise capital


Disadvantages


Separation of ownership
and management
(agency problem)


Double taxation (income
taxed at the corporate
rate and then dividends
taxed at personal rate,
while dividends paid are
not tax deductible)

A legal “person” distinct from owners and a
resident of a state

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International Corporate Forms


Joint stock companies


Public limited companies


Limited liability companies



All share:


Public ownership


Limited liability

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Goal Of Financial Management


What should be the goal of a
corporation?


Maximize profit?


Minimize costs?


Maximize market share?


Maximize the current value per share
of the company’s existing stock


Maximize the market value of the
existing owners’ equity

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Goal Of Financial Management


Does this mean we should do
anything and everything to maximize
owner wealth?


Outsourcing?


Off
-
shoring?


Enron?


Corporate support of charities?



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The Agency Problem


Agency relationship


Principal hires an agent to represent its
interests


Stockholders (principals) hire managers
(agents) to run the company


Agency problem


Conflict of interest between principal and
agent


Management goals and agency costs

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Do Managers Act in the
Shareholders’ Interests?


Managerial compensation


Incentives can be used to align
management and stockholder interests


Incentives need to be carefully structured
to insure that they achieve their goal


Corporate control


Threat of a takeover may result in better
management


Other stakeholders

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Cash Flows Between the Firm and the
Financial Markets

Figure 1.2

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20

Financial Markets


Cash flows to the firm


Primary vs. secondary markets


Dealer vs. auction markets


Listed vs. over
-
the
-
counter securities


NYSE


NASDAQ

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Key Concepts and Skills

Know:


The difference between book value and
market value


The difference between accounting income
and cash flow


The difference between average and
marginal tax rates


How to determine a firm’s cash flow from
its financial statements

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The Balance Sheet


A snapshot of the firm’s assets and liabilities
at a given point in time (“as of …”)


Assets


Left
-
hand side (or upper portion)


In order of decreasing liquidity


Liabilities and Owners’ Equity


Right
-
hand side (or lower portion)


In ascending order of when due to be paid


Balance Sheet Identity


Assets = Liabilities + Stockholders’ Equity

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The Balance Sheet


Net working capital


Current Assets minus Current Liabilities


Usually positive for a healthy firm


Liquidity


Speed and ease of conversion to cash
without significant loss of value


Valuable in avoiding financial distress


Debt versus Equity


Shareholders’ equity = Assets
-

Liabilities


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24

Market vs. Book Value


Book value

= the balance sheet value
of the assets, liabilities, and equity.


Market value

= true value; the price at
which the assets, liabilities, or equity
can actually be bought or sold.


Market value and book value are often
very different. Why?


Which is more important to the decision
-
making process?

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Income Statement


The income statement measures performance
over a specified period of time (period, quarter,
year).


Report revenues first and then deduct any
expenses for the period


End result = Net Income = “Bottom Line”


Dividends paid to shareholders


Addition to retained earnings


Income Statement Equation:


Net Income = Revenue
-

Expenses

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Financial Statements


GAAP Matching Principle:


Recognize revenue when it is fully
earned


Match expenses required to generate
revenue to the period of recognition


Noncash Items


Expenses charged against revenue
that do not affect cash flow


Depreciation = most important

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Financial Statements


Time and Costs


Fixed or variable costs


Not obvious on income statement


Earnings Management


Smoothing earnings


GAAP leaves “wiggle room”

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Taxes


Marginal vs. Average tax rates


Marginal


% tax paid on the next dollar
earned


Average


total tax bill / taxable income


If considering a project that will increase
taxable income by $1 million, which tax
rate should you use in your analysis?

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The Concept of Cash Flow


Cash flow = one of the most important

pieces of information that can be

derived from financial statements


The accounting Statement of Cash Flows

does
not
provide the same information

that we are interested in here


Our focus: how cash is generated from

utilizing assets and how it is paid to

those who finance the asset purchase.

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30

!! Cash
Flow

!!

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31

Key Concepts and Skills

Know:


How to standardize financial statements for
comparison purposes


How to compute and interpret important
financial ratios


The determinants of a firm’s profitability and
growth

Understand the problems and pitfalls in
financial statement analysis


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32

Standardized Financial Statements


Common
-
Size Balance Sheets


All accounts = percent of total assets (%TA)


Common
-
Size Income Statements


All line items = percent of sales or revenue
(%SLS)


Standardized statements are useful for:


Comparing financial information year
-
to
-
year


Comparing companies of different sizes,
particularly within the same industry

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33

Prufrock Corporation

Balance Sheets
-

Table 3.1




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34

Prufrock Corporation

Common
-
Size Balance Sheets

Table 3.2



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35

Ratio Analysis


Allow for better comparison through

time or between companies


Used both internally and externally


For each ratio, ask yourself:


What the ratio is trying to measure


Why that information is important

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36

Categories of Financial Ratios


Liquidity ratios

or Short
-
term solvency


Financial leverage ratios
or Long
-
term

solvency ratios


Asset management

or Turnover ratios


Profitability ratios


Market value ratios

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37

Table 3.5

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38

Liquidity Ratios


Current Ratio
= CA / CL


708 / 540 = 1.31 times


Quick Ratio
= (CA


Inventory) / CL


“Acid Test”


(708
-
422) / 540 = 0.53 times


Cash Ratio
= Cash / CL



98/ 540 = .18 times

ASSETS
Liabilities & Owners Equity
Current Assets
Current Liabilities
Cash
98
$

Accounts Payable
344
$

Accounts Receivable
188
$

Notes Payable
196
$

Inventory
422
$

Total
540
$

Total
708
$

Long term debt
457
$

Owners' Equity
Common Stock and paid in surplus
550
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

PRUFROCK
Balance Sheet -2010
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Financial Leverage Ratios


Total Debt Ratio

= (TA


TE) / TA


(3588
-
2,591) / 3588 = 0.28 times


Debt/Equity

= TD / TE


(0.28/0.72) = 0.39 times


Equity Multiplier
= TA/TE = 1 + D/E


($1 /0.72) = 1.39


ASSETS
Liabilities & Owners Equity
Current Assets
Current Liabilities
Cash
98
$

Accounts Payable
344
$

Accounts Receivable
188
$

Notes Payable
196
$

Inventory
422
$

Total
540
$

Total
708
$

Long term debt
457
$

Owners' Equity
Common Stock and paid in surplus
550
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

PRUFROCK
Balance Sheet -2010
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40

Financial Leverage Ratios


Times Interest Earned

= EBIT / Interest


691/141 = 4.9 times


Cash Coverage

= (EBIT + Deprec) / Interest


(691 + 276) / 141 = 6.9 times


Sales
2,311
$

COGS
1,344
$

Depreciation
276
$

EBIT
691
$

Interest
141
$

Taxable Income
550
$

Taxes
187
$

Net Income
363
$

Dividends
121
$

Addition to RE
242
$

PRUFROCK
Income Statement - 2010
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41

Asset Management:

Inventory Ratios


Inventory Turnover

= COGS / Inventory


1344/422 = 3.2 times


Days’ Sales in Inventory

= 365 / Inventory Turnover


365 / 3.2= 114 days

ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
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42

Asset Management:

Receivables Ratios


Receivables Turnover

= Sales / AR


2311/188 = 12.3 times


Days’ Sales in Receivables

= 365 / Receivables Turnover


365 / 12.3 = 30 days


ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
3
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43

Asset Management:

Asset Turnover Ratios


Total Asset Turnover

= Sales / Total Assets


2311/3588 = 0.64 times


Capital Intensity Ratio

= 1/TAT


1/0.64 = 1.56

ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
3
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44

Profitability Measures


Profit Margin

= NI / Sales


363/2311 = 15.7%


Return on Assets (ROA)

= NI / TA


363/3588 = 10.12%


Return on Equity (ROE)

= NI / TE


363 / 2591 = 14.01%

ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
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45

Market Value Measures


Market Price = $88 per share = PPS


Shares outstanding = 33 million



Earnings per Share

= EPS = 363/33 = $11


PE Ratio

= PPS / EPS


$88 / $11 = 8 times


Price/Sales Ratio

= PPS/Sales per share


$88/($2,311/33) = 1.26


Market
-
to
-
book ratio

= PPS / Book value per share


Book value per share = Total Equity/shares outstanding






= $2,591/33 = $78.52


Market
-
to
-
Book = $88/78.52 = 1.12 times

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46

Prufrock Ratios

Current Ratio
1.31
Total Debt Ratio
0.28
Quick Ratio
0.53
Debt to Equity
0.39
Cash Ratio
0.18
Equity Multiplier
1.39
Times Interest Earned
4.9
Inventory Turnover
3.20
Cash Coverage
6.9
Days' Sales in Inventory
114
Receivables Turnover
12.30
Profit Margin
15.70%
Days' Sales in Receivables
30
ROA
10.12%
Total Asset Turnover
0.64
ROE
14.00%
Capital Intensity Ratio
1.56
Market Price
88.00
$

Shares Outstanding
33 m
EPS
11.00
$

Price/Sales Ratio
1.26
PE Ratio
8.0
Book value per share
$78.52
Market to Book
1.12
Market Value Measures
PRUFROCK RECAP
Financial Leverage Ratios
Profitability Measures
Asset Management Ratios
Liquidity Ratios
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Table 3.6

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48

The DuPont Identity


ROE = NI / TE



= Basic Formula


ROE = PM * TAT * EM

= Dupont Identity


PM

= Net Income / Sales


TAT

= Sales / Total Assets


EM

= Total Assets / Total Equity



TE
NI
TE
TA
TA
Sales
Sales
NI
ROE























Profit Margin Asset Use Leverage = ROE




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49

Using the Du Pont Identity


ROE = PM * TAT * EM


Profit margin



Measures firm’s operating efficiency


How well does it control costs


Total asset turnover



Measures the firm’s asset use efficiency


How well does it manage its assets


Equity multiplier



Measures the firm’s financial leverage


EM = TA/TE = 1+D/E ratio

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50

Prufrock’s DuPont Identity


ROE = PM * TAT * EM


PM = 15.7%


TAT = .64


EM = 1.39


ROE = .157 x .64 x 1.39




= .139667 = 14%

Current Ratio
1.31
Total Debt Ratio
0.28
Quick Ratio
0.53
Debt to Equity
0.39
Cash Ratio
0.18
Equity Multiplier
1.39
Times Interest Earned
4.9
Inventory Turnover
3.20
Cash Coverage
6.9
Days' Sales in Inventory
114
Receivables Turnover
12.30
Profit Margin
15.70%
Days' Sales in Receivables
30
ROA
10.12%
Total Asset Turnover
0.64
ROE
14.00%
Capital Intensity Ratio
Market Price
88.00
$

Shares Outstanding
33 m
EPS
11.00
$

Price/Sales Ratio
1.26
PE Ratio
8.0
Book value per share
$78.52
Market to Book
1.12
Market Value Measures
PRUFROCK RECAP
Financial Leverage Ratios
Profitability Measures
Asset Management Ratios
Liquidity Ratios
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51

Internal and Sustainable Growth

Payout and Retention Ratios


Dividend payout ratio (“b”) = DPS/EPS


= Cash dividends / Net income



Retention ratio (“1


b”) = (EPS
-
DPS)/EPS


= (Addition to Retained Earnings) / Net income

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52

Internal and Sustainable Growth

Payout and Retention Ratios


Dividend payout ratio (“b”) =


Cash dividends / Net income (DIV / NI)


121/363 = 33.3%

ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
3
-
53

Internal and Sustainable Growth

Payout and Retention Ratios


Retention ratio (“1


b”) = (NI
-

DIV)/ NI


Addition to Retained Earnings / Net income


$242/363 = 66.7%

ASSETS
Liabilities & Owners Equity
Sales
2,311
$

Current Assets
Current Liabilities
COGS
1,344
$

Cash
98
$

Accounts Payable
344
$

Depreciation
276
$

Accounts Receivable
188
$

Notes Payable
196
$

EBIT
691
$

Inventory
422
$

Total
540
$

Interest
141
$

Total
708
$

Long term debt
457
$

Taxable Income
550
$

Owners' Equity
Taxes
187
$

Common Stock and paid in surplus
550
$

Net Income
363
$

Fixed Assets
Retained Earnings
2,041
$

Net Plant & Equipment
2,880
$

Total
2,591
$

Dividends
121
$

Total Asets
3,588
$

Total Liabilties & Owners' Equity
3,588
$

Addition to RE
242
$

PRUFROCK
Balance Sheet -2010
PRUFROCK
Income Statement - 2010
3
-
54

The Internal Growth Rate


How much the firm can grow assets
using retained earnings as the only
source of financing.


7.23%
.667
.1012
1
.667
.1012
b
ROA

-

1
b
ROA


Rate

Growth

Internal








3
-
55

The Sustainable Growth Rate


How much the firm can grow by using
internally generated funds and issuing
debt to maintain a constant debt ratio.

10.29%
0.667

0.14

-

1
0.667

.14
b
ROE
-
1
b
ROE


Rate

Growth

e
Sustainabl







3
-
56

Determinants of Growth


Profit margin


operating efficiency


Total asset turnover


asset use

efficiency


Financial leverage


choice of optimal

debt ratio


Dividend policy


choice of how much

to pay to shareholders versus

reinvesting in the firm

3
-
57

Table 3.7

3
-
58

Why Evaluate Financial
Statements?


Internal uses


Performance evaluation


compensation and
comparison between divisions


Planning for the future


guide in estimating future
cash flows


External uses


Creditors


Suppliers


Customers


Stockholders

3
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59

Benchmarking


Ratios need

to be compared to something


Time
-
Trend Analysis


How the firm’s performance is changing
through time


Internal and external uses


Peer Group Analysis


Compare to similar companies or within
industries


SIC and NAICS

codes

3
-
60

Problems with Financial Analysis


Conglomerates


No readily available comparables


Global competitors


Different accounting procedures


Different fiscal year ends


Differences in capital structure


Seasonal variations and one
-
time events