1.5 Financial Statement Analysis

UNISA SBL
MBL 4807 MBA 4807 PBA4807

Accounting for Managers NQF 8
Study school 2024 – Financial Statement
Analysis
Analysis
IMPORTANCE OF CASHFLOW
The expectation that the

Company will generate cash in
the future is what gives the
company its value.
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5
Analysis
Users of financial accounting information

Shareholders
Debtors (Accounts Receivable)
Suppliers (Accounts Payable)
Investors
The Government
Bankers
Labour Unions
Management
6
Shareholders wealth
Value = the contribution which the company makes

to the wealth of its owners as determined by its
market value.
Factors affecting value:

Cash flow
Timing
Risk

7
Analysis
Profit maximisation
PROFIT = SALES - EXPENSES
More profits are better than less profits, however, when

the pursuit of short-profits affects the size of future cash
flows, their timing and riskiness, then profit maximisation
does not equal wealth maximisation.
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Horisontal analysis
The study of percentage changes from year to

year.
Computing a percentage change takes two
steps:
Compute the rand amount of the change from
1
one period (the base period) to the next.
Divide the rand amount of change

2
by the base-period amount.
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Vertical analysis
• The relationship of a financial-statement item

to its base, which is the 100% figure.
• All items on the particular financial statement
are reported as a percentage of the base.
• For the income statement, total revenue
(sales) is usually the base.
• For the balance sheet, total assets is the base.

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Benchmarking
• Comparing one entity to another.
• Either direct competitors in the same
industry or market, peers in the broader
market, or just any other “aspiration”
entities.
• Gives context in which you could
interpret data.

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Common size financials
• Financial statements can be modified to

report only percentages (no currency
amounts).
• Aids the comparison of different companies
because all amounts are stated in
percentages
• Currency and size differences are
eliminated when you do a common-size
comparison.

12
Ratio analysis
Liquidity ratios
Profitability ratios
Solvency ratios
Efficiency ratios / cash conversion
Investment ratios

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Liquidity
Working
Current ratio
capital
Acid-test
ratio

14
Efficiency ratios
Accounts
Inventory
receivable
turnover
turnover
Days’-sales-in-
receivables

15
Solvency
Times-interest-
Debt ratio earned

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Profitability
Return on Return on
sales assets
Return on Earnings per

equity share

17
Investments
Price/Earnings
Dividend yield
ratio
Book value

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Analysis - Decision guidelines
Question / Decision What to look for
1. Can the company sell its products? Are sales revenue on the income statement growing or falling?
2. What are the main income measures to watch Gross profit

for trends? Operating income
Net income
(All 3 should be increasing over time)
3. What percentage of sales revenue ends up as Net income as a % of sales – trend from year to year
profit?
4. Can the company collect all its receivables? % increase in accounts receivable to the % increase in sales. If
receivables are growing much faster than sales, collections may
be too slow resulting in cash shortfall.
5. Can the company pay its
- Current liabilities Current assets vs current liabilities
- Current and long-term liabilities Total assets vs total liabilities
6. Where is the company’s cash coming from? Cash flow statement – operating activities should provide the bulk
of cash during most years.
7. How is cash being used? Examine investing cash flows to see if the company is purchasing
long-term assets – ppe and intangibles. (signals growth)
Examine financing cash flows for heavy borrowings () vs

issuance of stock ()

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Red flags
Earnings problems
Decreased cash flow
Too much debt
Inability to collect receivables
Buildup of inventories
Trends of sales, inventory and
receivables
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Ratio Computation Information provided
1. Current ratio Current assets / Current liabilities Measures the ability to pay current liabilities with current
assets
2. Acid (quick) ratio Cash+Short term inv +Net current Shows the ability to pay all current liabilities if the come due
receivables / Current liabilities immediately
3. Inventory turnover Cost of goods sold / Average inventory Indicates saleability of inventory – the no. Of times a company
sells its avg level of inventory during a year
4. Accounts receivable Net credit sales / Avg net accounts Measures the ability to collect cash from customers
turnover receivable
5. Payable turnover Cost of goods sold / avg payables Measures the frequency of payments to trade creditors
6. Cash conversion cycle Receivables collection period + Indicates the speed at which an entity is able to convert cash
Inventory resident period - Payable from its inventory & receivables
outstanding period
7. Debt ratio Total liabilities / Total assets Indicates percentage of assets financed with debt
8. Times-interest-earned Income from operations / Interest Measures the number of times operating income can cover
ratio expense interest expense
9. Rate of return on net Net income / Net sales Shows the percentage of each sales dollar earned as net
sales income
10. Rate of return on total Net income + Interest expense / Measures how profitably a company uses its assets
assets Average total assets
11. Rate of return on Net income – pref div / Avg ordinary Gauges how much income is earned with the money invested
ordinary shareholders shareholders equity by the ordinary shareholders
equity
12. Earnings per ordinary Net income – pref div / weighted-avg The amount of net income earned for each share of the
share no of ordinary shares outstanding company’s shares outstanding
13. Price/earnings ratio Market price per ordinary share / EPS Indicates the market price of 1 currency unit of earnings
14. Dividend yield Dividend per ordinary share / Market Shows the percentage of a share’s market value returned as
price per ordinary share dividends to shareholders each period
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Tel: +27 11 652 0214/0000
www.unisa.ac.za/sbl
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UNISA SBL

MBL 4807 MBA 4807 PBA4807

The expectation that the

by Lize Terre Blanche

Users of financial accounting information

Value = the contribution which the company makes

Factors affecting value:

by Lize Terre Blanche

PROFIT = SALES - EXPENSES

More profits are better than less profits, however, when

by Lize Terre Blanche 8

The study of percentage changes from year to

Divide the rand amount of change

by Lize Terre Bla 9

• The relationship of a financial-statement item

by Lize Terre Blanche

by Lize Terre Blanche

• Financial statements can be modified to

by Lize Terre Blanche

by Lize Terre Blanche

by Lize Terre Blanche

by Lize Terre Blanche

by Lize Terre Blanche

Return on Earnings per

by Lize Terre Blanche

by Lize Terre Blanche

2. What are the main income measures to watch Gross profit

5. Can the company pay its

- Current liabilities Current assets vs current liabilities

- Current and long-term liabilities Total assets vs total liabilities

Examine financing cash flows for heavy borrowings () vs

by Lize Terre Blanche

by Lize Terre Bla 20

by Lize Terre Blanche 22

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