Trend Analysis, Benchmarking,

Uses and Limitations of Ratio Analysis,

Potential Misuses of ROE,
Looking beyond Numbers

Marialyn Meriales Mores

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Trend Analysis

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Trend Analysis Defined
Trend analysis is an analysis of a firm's
financial ratios over time. It is used to esti
mate the likelihood of improvement or de
terioration in its financial condition.

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 Trend analysis involves the collection of
information from multiple time periods
and plotting the information on a
horizontal line for further review. The
intent of this analysis is to spot actionable
patterns in the presented information.

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Trends can be classified into three types:
- Uptrend
- Downtrend
- Sideways/Horizontal trend

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Uptrend

When a particular stock is making higher

highs & higher lows, that stock is
considered to be in uptrend. Higher highs
indicate that the stock is making
consecutive peaks than previous highs.
Higher lows indicate that bottom is higher
than the previous lows.

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Uptrend

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Downtrend

When the stock is making lower highs &

lower lows, it is considered to be in
downtrend. Lower highs mean that
previous peak is higher than the current
peak. Lower lows mean the current bottom
is lower than the previous bottom.

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Downtrend

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Sideways

When the sstock trades in a range, it is

called sideways trend. Sideways trend
occurs when the force of demand & supply
are nearly equal. A sideways trend is also
called ‘horizontal trend’.

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Sideways

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DuPont Analysis

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 What is DuPont Analysis?

DuPont Analysis is an extended

examination of Return on Equity (ROE) of a
company which analyses Net Profit Margin,
Asset Turnover, and Financial Leverage.
This analysis was developed by the DuPont
Corporation in the year 1920.

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ROE Formula:

Return on Equity= Net Profit Margin x

Asset Turnover Ratio x
Financial Leverage

= (Net Income / Sales) x

(Sales / Total Assets) x
(Total Assets / Total
Equity) Financial Management
Example:
Ratio Company A Company B

Profit Margin 30% 15%

Asset Turnover 0.5 6

Financial Lever 3 0.5

age

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Benchmarking

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Benchmarking Defined
Benchmarking is the practice of a business
comparing key metrics of their operations to
other similar companies.

It is a process of comparing a particular

company with a set of benchmark
companies.

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Benchmarking occurs across all types of
companies, including private, public,
nonprofit, and for-profit, as well as industries
e.g., technology, education, and
manufacturing. Many companies have
positions or offices in the company that are in
charge of benchmarking. Some of the positions
include:
Institutional r Information o
Data analyst
esearcher fficer

Business anal Market resear

Consultant
yst cher

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Benchmarking Example

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What Are Some Different Types
of Benchmarking?

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Best Practices
This is a benchmark rep
ort where companies ch
oose to look at a compan
y or companies that they
aspire to be like. By choo
sing companies that are
on the leading edge of th
e industry, they can iden
tify best practices that he
lp improve their own co
mpany.
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Peer Benchmarkin
g
This is a benchmark rep
ort where companies ch
oose to look at other bu
sinesses very similar to
themselves. This allows
companies to make sure
they are staying compet
itive with similar busine
sses.

SWOT
This is a type of benchm
arking report where co
mpanies gather data by
looking at strengths, we
aknesses, opportunities,
and threats to help und
erstand their climate.
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Collaborative Benc
hmarking
This is benchmarking a
s a part of a group. Man
y industries have assoc
iations they can join e.g
., The Association of Inf
ormation Technology P
rofessionals, and The N
ational Education Asso
ciation.
Uses and Limitations
of Ratio Analysis

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 Users of Ratio Analysis
 Managers - use ratios to help analyze,
control, and improve their firm's
operations

 Credit Analysts - analyze ratios to help

judge a company's ability to repay its debts

 Stock Analysts - interested in a company's

efficiency, risk, and growth prospects

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 Uses of Ratio Analysis
 Analysis of Financial Statements
 Helps in Understanding the Profitability of the
Company
 Analysis of Operational Efficiency of the Firms
 Liquidity of the Firms
 Helps in Identifying the Business Risks of the Firm
 Helps in Identifying the Financial Risks of the
Company
 For Planning and Future Forecasting of the Firm
 To Compare the Performance of the Firms

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 Limitations
 Different divisions in different industries
 Average is not good enough
 Inflation
 Seasonal factors
 Window dressing
 Different accounting practices
 What is a good ratio?
 Financial statements accuracy

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Potential misuses of ROE

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 ROE should not be the sole measure of
performance
 ROE FOCUSES ONLY ON RETURN!!
 ROE does not consider risk - raising ROE
through the use of leverage may not be good
(too risky)
 ROE does not consider the amount of invested
capital
 Focusing on ROE can cause managers to turn
down profitable projects that might reduce the
average ROE

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Looking beyond Numbers

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 - are the company's revenues tied to one key
product?
 - to what extent does the company rely on a single
supplier?
 - what percentage of the company's business is
overseas?
 - how much competition does the firm face?
 - is it necessary for the company to continually
invest in R&D?
 - are changes in laws/regulations likely to have
important implications for the firm?

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