Transcript MIM700 - Prof Dimond

Accounting & Financial Reporting
BUSG 503
Michael Dimond
Financial Accounting for MBAs
• Course Overview
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Introductions
Schedule
Resources
How do I get an A in this class?
Michael Dimond
School of Business Administration
Financial Accounting for MBAs
• Accounting Information
• Who uses it?
• What does it contain?
• How is it presented?
Michael Dimond
School of Business Administration
Financial Statements
Michael Dimond
School of Business Administration
Basic Financial Analysis
• Financial figures are related, and they can reveal many
details about a company, its performance, and its value
• Accounting figures are prepared according to specific rules
and certain distortions exist.
• There are so many numbers… where shall we begin?
Michael Dimond
School of Business Administration
Meaningful Ratio Analysis
• Analysis means to break something down to understand it.
• Ratio analysis should be used to answer a specific question
or set of questions.
• If you were examining the financial statements for a
company, you might start with this basic question:
“Is this a good use of investors’ money?”
• What financial ratio would answer this question?
How about Return on Equity?
• How do you compute Return on Equity (ROE)?
Michael Dimond
School of Business Administration
Analyzing ROE
• ROE = NI ÷ Equity and answers the question, “is this a good
use of investors’ money?”
• If you were to break this down, there are three basic
questions to answer:
How profitable is this business?
How efficiently are assets being used?
How much does financial leverage help the investors?
• What financial ratios would answer these questions?
Profit Margin (PM)
Total Asset Turnover (TAT)
Equity Multiplier (EM)
Michael Dimond
School of Business Administration
Drivers of ROE
• Profit Margin (PM) = NI ÷ Sales and answers the question,
“How profitable is this business?”
• Total Asset Turnover (TAT) = Sales ÷ Total Assets and
answers the question, “How efficiently are assets being
used?”
• Equity Multiplier (EM) = Total Assets ÷ Equity and answers
the question, “How much does financial leverage help the
investors?”
Michael Dimond
School of Business Administration
The DuPont Identity
• ROE is directly driven by profitability, efficiency and leverage.
• ROE = PM x TAT x EM
How does that work?
ROE =
PM x
TAT
x
EM
NI
NI
Sales
Total Assets
=
x
x
Equity
Sales
Total Assets
Equity
NI
NI
Sales
Total Assets
=
x
x
Equity
Sales
Total Assets
Equity
• The numerators and denominators cancel to reduce the
equation to NI ÷ Equity
Michael Dimond
School of Business Administration
A word about ROA
• ROA = Return on Assets
• What’s the difference between Equity & Assets?
• Leverage
• What’s the difference between ROE & ROA?
• Leverage
• ROE = PM x TAT x EM
• EM represents leverage
• ROA = PM x TAT
• No leverage
Michael Dimond
School of Business Administration
Digging Deeper with Financial Ratios
• How would you analyze profitability, efficiency and leverage?
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How do profitability, efficiency and leverage relate?
What affects profitability?
What drives sales?
What is the composition of assets?
How were assets paid for?
How are liabilities managed?
• Where shall we begin?
Michael Dimond
School of Business Administration
Common-Size Financial Statements
• Shows each line item as a percent of an appropriate total.
• Common-size balance sheet
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% of Total Assets
Shows the composition of assets
Liabilities & equity items are also shown as % of total assets
Debt Ratio = Total Liabilities ÷ Total Assets
• Common-size income statement
• % of Sales
• PM = Net Income as % of Sales
Michael Dimond
School of Business Administration
Common-Size Income Statement
100%
7.19%
5.77%
Michael Dimond
School of Business Administration
Common-Size Balance Sheet
100%
45.68%
44.34%
Michael Dimond
School of Business Administration
We don’t make a common-size CF Statement
There are other
ways to examine
relevant information
which would be
more helpful
Michael Dimond
School of Business Administration
Vertical & Horizontal Analysis
• Vertical Analysis compares figures as a percent of a relevant
total (“common size” financial statements)
• Horizontal Analysis compares the same figure over a series
of periods (showing % change or % growth)
Michael Dimond
School of Business Administration
Measuring growth
• Financial figures change from year to year
• To find the % change (“% growth”) over a 1-year period,
divide the difference of the two figures by the first year’s
value:
• [ending – beginning] / [beginning]
OR
• [ending] / [beginning] - 1
• Measuring growth over more than one period means we
need to find the average growth during that time.
Michael Dimond
School of Business Administration
Using the SEC website for information
Michael Dimond
School of Business Administration