Ratios Notes PDF

RATIOS  RATIOS Ratio Handout is in D2L under Financial Analysis. (Must do the 4 quizzes to see it) Memorize the handout. Why? Test Homework Ratio Project-15% of your grades for the semester It is your guide to the ratio project and you need to kn...

RATIOS  RATIOS Ratio Handout is in D2L under Financial Analysis. (Must do the 4 quizzes to see it) Memorize the handout. Why? Test Homework Ratio Project-15% of your grades for the semester It is your guide to the ratio project and you need to know it very well. What does these ratios mean.  RATIOS Longer term-Future Subtle Differences in some calculations You need to know what they are  RATIOS-Kellogg Liquidity Ratios 1. Current Ratio=CA/CL 2. Quick Ratio=CA-Inventory/CL  RATIOS-Kellogg Debt Management Ratios 1. Debt Ratio=TL(debt)/TA 2. T.I.E=EBIT/Interest Expense  RATIOS-Kellogg Asset Management Ratios 1. Inventory Turnover=COGS/Average Inv. 2. Day Sales Outstanding= Acct.Rec 1. Sales/365  RATIOS-Kellogg Asset Management Ratios 1. T.A Turnover=Sales/Total Assets 2. Fixed Assets Turnover=Sales/Net F.A  RATIOS-Kellogg Profitability Ratios 1. Profit Margin on Sales=Net Income/Sales 2. Return on Total Assets (ROA)=N.I./T.A 3. Return on Equity (ROE)=N.I./Common Equ  RATIOS-Kellogg Profitability Ratios 1. Profit Margin on Sales=Net Income/Sales 2. Return on Total Assets (ROA)=N.I./Sales 3. Return on Equity (ROE)=N.I./Common Equ  RATIOS-Kellogg Question How it possible that Kellogg is making 11 cents profit on every $ of sales but the shareholder is making 35.5%?  RATIOS-Kellogg Answer The equity multiplier-a ratio that measures a company’s financial leverage. The amount of money the company has borrowed to finance the purchase of assets Eq.M=TA/Total Shareholders Equity  RATIOS-Kellogg Answer Equity Multiplier=TA/T.S.E. 18178/4215=4.312 4.312 means the company’s assets is worth 4.3 times shareholders equity.  DuPont Analysis When ROE is broken down into 3 parts you are conducting a DuPont Analysis Profitability--Profit Margin Efficiency-Total Asset Turnover Leverage-Debt Ratio Call DuPont because the formula was invented by a sales-person from DuPont Shows how a company get to ROE and ROA  DuPont Analysis- Kellogg Equity Multiplier=TA/T.S.E. 18178/4215=4.312 From the DuPont Breakdown: 1/1-Debt Ratio 1/1-.77=1/.23=4.347 EM x ROA=ROE  The DuPont Equation The DuPont Equation × Total assets × Equity ROE = Profit Margin turnover multiplier ROE = (NI/Sales) × (Sales/TA) × (TA/Equity) Focuses on expense control (PM), asset utilization (TATO), and debt utilization (equity multiplier). DuPont Framework DuPont Framework DuPont Framework DuPont Framework Kellogg’s DuPont Analysis Potential Problems and Limitations of Financial Ratio Analysis  Comparison with industry averages is difficult for a conglomerate firm that operates in many different divisions.  Different operating and accounting practices can distort comparisons.  Sometimes it is hard to tell if a ratio is “good” or “bad.”  Difficult to tell whether a company is, on balance, in a strong or weak position. More Issues Regarding Ratios  “Average” performance is not necessarily good, perhaps the firm should aim higher.  Seasonal factors can distort ratios.  “Window dressing” techniques can make statements and ratios look better than they actually are.  Inflation has distorted many firms’ balance sheets, so analyses must be interpreted with judgment.  Ratio Summary  When calculating ratios there are pretend units: ◦ Liquidity Ratios-Times ◦ Asset Management Ratios-Times, except;  Days Sales Outstanding ◦ Debt Management Ratios-Percentage, except,  Times Interest Earned ◦ Profitability Ratios-Percentage