Financial Analysis
Financial Analysis
ratio in finance
1. ROE return on equity
Equation of ROE = net income / stockholder equity
less than 10% is not good while more than 20% is good
applying the DuPont framework consists of three are profitability, efficiency, and
leverage
leverage ratio is how much money has been borrowed to purchase assets
leverage ratio equation: total assets/stockholder equity
efficiency ratio is measuring how much sales are generated from the company's
assets
equation of efficiency ratio total sales / total assets
profitability ratio measures how much income is generated from sales
DuPon framework
It has three components are leverage ratio, efficiency and profitability
As for leverage ratio : total assets / stockholder equity
Efficiency ratio : total sales / total assets
profitability ratio : net income / sales
return on equity (ROE) tell us how much income did we generate given a fixed
amount of stakeholder equity that has been invested by the owners in firm
common-size financial statements
it converts a company’s raw financial statement numbers into percentage of total
sales or percentage of total assets.
Each category in income statement / total sales
For an example
A firm B firm
8.000 Cost of goods sold 52.000
20.000 Total sales 130.000
40% 40%
A Company B company
Sales 100% 100%
Cost of goods sales -40% -40%
Wage expense -27.5% -23.1%
R&D expense -21.0% -12.3%
Advertising expense -8.0% -18.5%
Net Income -3.5% -6.2%
A Company B company
Cash 3.5% 3.5%
Account receivable 20.0% 11.5%
Inventory 9.0% 13.1%
Property, plant, and 40% 30.8%
equipment
Total assets 72.5% 58.8%
Revenue 110.360
Cost of revenue 38.353
Gross margin 72.007
Research and development 14.726
Sales and marketing 17.469
General and administrative 4.754
Operating income 35.058
Other income (expenses), net 1.416
Income before income taxes 36.474
Provision for income taxes 19.903
Net income 16.571
Walmart target
Beginning inventory 43.783 8.597
Ending inventory 44.269 9.497
Average inventory 44.026 9.047
Cost of goods sold 385.301 53.299
Inventory turnover 8.75/year 5.89/year
Days sales in inventory 42 62
Days sales in inventory formula
Year / 8.75 / 365/ 8.75 = 42 days
business converts the fund into inventory, if the inventory was not sold in market,
their money would not come back to them till the inventory was sold. It means days’
sales in inventory is a significant thing for businesses. If business sells inventories as
fast as possible, business will increase the revenue and profit.
Average collection period
It describes how many days buyer pays back the debt of inventory payment in a
credit contract. Since money is a tool of transaction, a business is not able to
produce inventory again, if the fund of production in previous has not returned
completely.
From this ratio we conclude that there are many types of businesses, business has
Leverage
Leverage is a term used in finance to depict a productive debt. For example, a
business that produces a pair of shoes borrows fund to buy a machine in order to
improve the production of shoes, so the debt called as a leverage. In the finance,
leverage is part of return of equity, it means the increase in leverage meaning
increasing assets, then the increase of assets affects the increase in sales then it
increases revenue.
Debt ratio
Debt to equity is a financial ratio that measures the relative proportion of a
company's debt and equity used to finance its assets. It's used to assess a
company's financial leverage and how much of its operations are funded by
borrowed money compared to owners' equity.
Here’s the formula for the debt-to-equity ratio:
An example of question
TechSales is a profitable tech company. Compared to other tech companies, it
has lower assets to equity and debt-to-equity ratio. What does this mean?
Assets = liabilities (leverage) + equity (owner’s equities + external
investments)
a. Techsales has high leverages compared to similar companies (the
techsale use debt to finance the company’s financial so that techsale
can increase revenue)
b. TechSales has higher debt than similar companies (higher debt does
not mean that debt is not used to finance the asset, that it might debt
be utilized to finance utilities of company)
c. Techsales purchases more assets with owners’ equity than similar
companies (it purchases more assets means the equity more than
liabilities or debt or companies is lower risk because it does not have
much debt)
d. Techsales has low leverage compared to similar companies (low debt to
equity ratio, in which the company does not rely on debt to finance its
operations, assets and growth.
Payroll refers to the total amount of money that a company pays to its
employees. It includes salries, wages, bonuses, and deductions. In the
context of the video, the payroll of a baseball team like the Yankees or red
sox represents the total salaries paid to their players and staff.