Financial Statement Analysis

BY GHANENDRA FAGO
MBA, M PHIL
Objectives of financial statements

 To provide necessary information about economic activity of

the business organisation.

 To provide information about changes in economic resources.

 Helps to forecast about future earning of the organisation.

 To provide information for decision making Provides

information to the management for decision making activities.

 Provides information about profitability, liquidity and

operating activities of the business organisation.
 Limitations of financial statement

 It contains only quantitative information. It ignores qualitative

aspect.
 It contains some valueless assets like preliminary expenses, discount
on issue of share and debentures, goodwill etc.
 It is based on historical data and information so it may not represent
the true financial position to date.
 The management may be biased on financial statement for
calculation of profit by adopting different system of stock valuation
(HIFO, NIFO, LIFO, FIFO), different system of depreciation method
(straight line, diminishing balance, Annuity method etc.)
 Users of financial analysis

i) Short term creditors – To determine whether the

amounts owing to them will be paid when due.
ii) Long term creditors – To determine whether their
principal and the interest thereon will be paid when
due.
ii) Management – To evaluate the solvency,
profitability, liquidity and efficiency of the business
organization.
iv) Share holders – To decide whether they should
buy, hold or sell the shares.
 Methods of Financial statement
Analysis
 Dollar or percentage changes in statements
 Common size statements
 Ratios
Dollar and percentage changes in statements

 Horizontal Analysis (Trend analysis)

 Vertical Analysis ( Trend percentage)
 COMMON SIZE INCOME STATEMENT
For the year ending Dec 31, 2002 Common size
Particulars A Co B Co C Co A Co B Co C Co

Sales revenues 650000 775000 870000 100% 100% 100.%

Cost of goods sold 300000 340000 356000 46% 44% 40.92%
Gross Profit 350000 435000 514000 54% 56% 59.08%
Operating expenses

Administrative expenses 150000 175000 180000 23% 23% 20.69%

Selling expenses 123000 120000 130000 19% 15% 14.94%

Total Operating expenses 273000 295000 310000 42% 38% 35.63%

Net operating income 77000 140000 70000 12% 18% 8.05%
Interest expenses 10000 12000 18000 2% 2% 2.07%
Income before taxes 67000 128000 52000 10% 17% 5.98%
Income taxes (40%) 26800 51200 20800 4% 7% 2.39%
Income after tax 40200 76800 31200 6% 10% 3.59%
 Common size income statement
For the year ending Dec 31,2001 and 2002 Common size
Particulars A Co B Co C Co A Co B Co C Co

Sales revenues 2000000 775000 500000 100% 100% 100%

Cost of goods sold 1600000 340000 450000 80% 44% 90%
Gross Profit 400000 435000 50000 20% 56% 10%
Opeartiong expenses

Administrative expenses 100000 175000 180000 5% 23% 36%

Selling expenses 123000 120000 130000 6% 15% 26%

Total Operating expenses 223000 295000 310000 11% 38% 62%

Net operating income 177000 140000 -260000 9% 18% -52%

Interest expenses 10000 12000 18000 1% 2% 3.6%
Income before taxes 167000 128000 -278000 8% 17% -55.6%
Income taxes (40%) 66800 51200 -111200 3% 7% -22.24%
Income after tax 100200 76800 -166800 5% 10% -33.36%
 INCOME STATEMENT
For the year ending Dec 31,2001 and 2002 Common size
Particulars A Co B Co C Co A Co B Co C Co

Sales revenues 2000000 775000 500000 100% 100% 100.%

Cost of goods sold 1600000 340000 450000 80% 44% 90%

Gross Profit 400000 435000 50000 20% 56% 10%

Opeartiong expenses
Administrative
expenses 100000 175000 180000 5% 23% 36%
Selling expenses 123000 120000 130000 6% 15% 26%
Total Operating
expenses 223000 295000 310000 11% 38% 62%

Net operating income 50000 140000 70000 3% 18% 14%

Interest expenses 10000 12000 18000 1% 2% 3.6%
Income before taxes 40000 128000 52000 2% 17% 10.4%
Income taxes (40%) 16000 51200 20800 1% 7% 4.16%
Income after tax 24000 76800 31200 1% 10% 6.24%
 COMMON SIZE INCOME STATEMENT
For the year ending Dec 31,2001 and 2002 Common size
Particulars 2001 2002 2003 2001 2002 2003
Sales revenues 600000 700000 775000 100% 100% 100.%
Cost of goods sold 300000 340000 356000 50% 49% 45.94%
Gross Profit 300000 360000 419000 50% 51% 54.06%
Operating expenses
Administrative expenses 150000 175000 180000 25% 25% 23.23%
Selling expenses 123000 120000 130000 21% 17% 16.77%
Total Operating expenses 273000 295000 310000 46% 42% 40.00%
Net operating income 27000 65000 70000 5% 9% 9.03%
Interest expenses 10000 12000 18000 2% 2% 2.32%
Income before taxes 17000 53000 52000 3% 8% 6.71%
Income taxes (40%) 6800 21200 20800 1% 3% 2.68%
Income after tax 10200 31800 31200 2% 5% 4.03%
Balance sheet
As on Dec Dec. 2001 and 2002 Common size
Assets 2001 2002 2001 2002
Current Assets:
Cash 20,000 15000 6.29% 4.41%
Account receivables 105,000 85000 33.02% 25.00%
Stock 50000 75000 15.72% 22.06%
Advances 5000 10000 1.57% 2.94%
Accrued Incomes 10000 25000 3.14% 7.35%
Total Current Assets 190,000 210,000 59.75% 61.76%
Fixed assets Net: 0.00% 0.00%
Plant and Equipments 50000 55000 15.72% 16.18%
Furniture and fixtures 78000 75000 24.53% 22.06%
Total Fixed assets 128,000 130000 40.25% 38.24%
Total assets 318,000 340,000 100.00% 100.00%
Current Liabilties
Notes payable 100000 34000 31.45% 10.00%
Account payable 12000 25000 3.77% 7.35%
unearned income 25000 40000 7.86% 11.76%
Total current laibilities 137000 99000 43.08% 29.12%
Long term liabilites
Mortgage payable 50000 50000 15.72% 14.71%
Total Liabilities 50000 50000 15.72% 14.71%
common stock 100000 100000 31.45% 29.41%
Retained Earnings 31,000 91,000 9.75% 26.76%
Shareholders' equity 131,000 191,000 41.19% 56.18%
Total equity and liabilites 318,000 340,000 100.00% 100.00%
Balance sheet
As on Dec Dec. 2002 Common size
Assets A Co B Co A Co B Co
Cash 200,000 15000 6.29% 4.41%
Account receivables 105,000 85000 33.02% 25.00%
Stock 250000 75000 15.72% 22.06%
Advances 50000 10000 1.57% 2.94%
Accrued Incomes 10000 25000 3.14% 7.35%
Total Current Assets 615,000 210,000 59.75% 61.76%
Fixed assets Net: 0.00% 0.00%
Plant and Equipments 500000 55000 15.72% 16.18%
Furniture and fixtures 700000 75000 24.53% 22.06%
Total Fixed assets 1,200,000 130000 40.25% 38.24%
Total assets 1,815,000 340,000 100.00% 100.00%
Notes payable 100000 34000 31.45% 10.00%
Account payable 120000 25000 3.77% 7.35%
unearned income 250000 40000 7.86% 11.76%
Total current laibilities 470000 99000 43.08% 29.12%
Long term liabilites
Mortgage payable 500000 50000 15.72% 14.71%
Total Liabilities 500000 50000 15.72% 14.71%
common stock 600000 100000 31.45% 29.41%
Retained Earnings 245,000 91,000 9.75% 26.76%
Shareholders' equity 845,000 191,000 41.19% 56.18%
Total equity and liabilites 1,815,000 340,000 100.00% 100.00%
Balance sheet
As on Dec Dec. 2002 Common size
Assets A Co B Co A Co B Co
Current Assets:
Cash 200,000 15000 11.02% 4.41%
Account receivables 105,000 85000 5.79% 25.00%
Stock 250000 75000 13.77% 22.06%
Advances 50000 10000 2.75% 2.94%
Accrued Incomes 10000 25000 0.55% 7.35%
Total Current Assets 615,000 210,000 33.88% 61.76%
Fixed assets Net: 0.00% 0.00%
Plant and Equipments 500000 55000 27.55% 16.18%
Furniture and fixtures 700000 75000 38.57% 22.06%
Total Fixed assets 1,200,000 130000 66.12% 38.24%
Total assets 1,815,000 340,000 100.00% 100.00%
Current Liabilties
Notes payable 100000 34000 5.51% 10.00%
Account payable 120000 25000 6.61% 7.35%
unearned income 250000 40000 13.77% 11.76%
Total current laibilities 470000 99000 25.90% 29.12%
Long term liabilites 0.00%
Mortgage payable 500000 50000 27.55% 14.71%
Total Liabilities 500000 50000 27.55% 14.71%
common stock 600000 100000 33.06% 29.41%
Retained Earnings 245,000 91,000 13.50% 26.76%
Shareholders' equity 845,000 191,000 46.56% 56.18%
Total equity and liabilites 1,815,000 340,000 100.00% 100.00%
INCOME STATEMENT – Vertical Analysis

For the year ending Dec 31,2001 and 2002 Dollar and % Changes
Particulars 2001 2002 Dollars %
Sales revenues 600000 700000 100000 17%
Cost of goods sold 300000 340000 40000 13%
Gross Profit 300000 360000 60000 20%
Opeartiong expenses
Administrative expenses 150000 175000 25000 17%
Selling expenses 123000 152000 29000 24%
Total Operating expenses 273000 327000 54000 20%
Net operating income 27000 33000 6000 22%
Interest expenses 10000 13000 3000 30%
Income before taxes 17000 20000 3000 18%
Income taxes (40%) 6800 8000 1200 18%
Income after tax 10200 12000 1800 18%
 Ratio Analysis for common Stockholders
 A numbers of ratios can be computed to assess how well the
company is doing from the stand point of stock holders.

 These ratios naturally focus on net income dividend and

shareholders equities.
Ratios analysis for common stock holders
 Earning Per Share (EPS) = (Net Income – preferred dividend)/ No of common
shares outstanding
 Price earning ratio = Market price per share/Earning per share
 Dividend Payout ratio= Dividend per share/Earning per share
 Dividend yield ratio = Dividend per share/Market price per share
 Return of Assets (ROA)=net income/total assets
Or
(Net income +Interest )/Total assets
 Return on common shareholders equity(ROCSE)
= (Net income – Preferred dividend)/Common shareholders’ equity

 Common shareholders’ equity =shareholders’ equity – preferred stock

 Book value per share = common shareholders equity/no of common stock
 Ratios analysis for short term creditors
 Working capital = current assets – current liabilities

 Current ratios = current assets /current liabilities

 Quick ratio= quick asset/current liabilities

 Average receivable turnover ratio = credit sales/average account receivables

 Average collection period = no of days in a year/average receivable turn over

ratio

 Inventory turn over ratio = cost of goods sold/average inventory

 Average sales period =no of days in a year/inventory turnover ratio

 Ratios analysis for long term creditors
 Times Interest earned ratio = EBIT/I

 equity ratio = long term debt /shareholders equity

 Debt to common equity ratio = long term

debt/common equity
 Items of Current  Items of Current
Assets Liabilities

 Cash in hand  Bank overdraft

 Cash at bank  Short term loan
 Short term marketable  Bills payable
securities
 Sundry creditors
 Bills receivable
 Outstanding expenses
 Sundry debtors
 Income tax payable
 prepaid expenses
 Dividend payable
 Inventory (stock)
 Advance Incomes
 Accrued Income