5 AGibson 13E Ch08 (Topic 5) Profitability

8/18/2019 5 AGibson 13E Ch08 (Topic 5) Profitability

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Financial Statement

Analysis

C%ARL&' %. ()*'+


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use as per#itted in a license distributed ith a certain product or service or otherise on a passord$protected ebsite "or

classroo# use.

Chapter

-

ro"itability


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product or service or otherise on a passord$protected ebsite "or classroo# use.

• /he pri#ary "inancial analysis o" pro"it ratios

should include only those ite#s o" inco#e

arising "ro# nor#al operations

• &!cludes – iscontinued operations

– &!traordinary ite#s

ro"itability Measures


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• Also re"erred to as return on sales

• Re"lects net inco#e dollars generated by each

dollar o" sales

• otential distortion can be caused by other

inco#e and other e!pense ite#s "ro# net

inco#e, as these do not relate to net sales

et ro"it Margin

et )nco#e *e"ore oncontrolling )nterest,

&uity )nco#e, and onrecurring )te#set ro"it Margin 4

et 'ales


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• Measures the activity o" the assets and the

ability o" the "ir# to generate sales through the

use o" the assets

• otential distortion – )nvest#ents

– Construction in progress

– +ther assets that do not relate to net sales

/otal Asset /urnover

et 'ales/otal Asset /urnover 4

Average /otal Assets


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• Measures the ability to utili5e assets to create

pro"its

• Average total assets – 6or internal analysis use #onth$end a#ounts

– 6or e!ternal analysis use beginning and ending

a#ounts

– )" necessary, consistent use o" end$o"$year a#ounts,

instead o" averages

Return on Assets

et )nco#e *e"ore oncontrolling

)nterest and onrecurring )te#sReturn on Assets 4



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• uont analysis separates return on assets into

net pro"it #argin and total asset turnover

• 'eparating the ratio into the to ele#ents allos

"or i#proved analysis o" the causes "or thechange in the percentage o" return on assets

uont Return on Assets

Return on Assets 4 et ro"it Margin /otal Asset /urnover ×


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uont Return on Assets7Continued

et )nco#e *e"ore et )nco#e *e"ore

oncontrolling )nterest oncontrolling )nterest

and onrecurring )te#s and onrecurring )te#s et 'ales4 8

Average /otal Assets et sales Average /otal Assets


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• Consider only operating assets and inco#e – +perating assets e!clude

• Construction in progress

•

Long$ter# invest#ents• )ntangibles

• 9+ther: assets

– +perating inco#e includes only• et sales less the cost o" sales

• +perating e!penses

• May give signi"icantly di""erent results

• Re"lective o" R+A "ro# pri#ary business

uont Analysis ;ariation


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• )ncludes only operating inco#e in the nu#erator

+perating )nco#e Margin

+perating )nco#e+perating )nco#e Margin 4et 'ales


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• Measures the ability o" operating assets to

generate sales dollars

+perating Asset /urnover

,et 'ales+perating Asset /urnover 4

Average +perating Assets


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• Measures the ability o" operating assets to

generate operating inco#e

Return on +perating Assets

• uont analysis o" the return on operating

assets<

Return on +perating assets 4+perating )nco#e

Average +perating Assets

uont Return +perating +perating+n 4 )nco#e 8 Asset

+perating Assets Margin /urnover

÷ ÷ ÷ ÷ ÷ ÷ ÷ ÷ ÷


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• Measures the ability to #a=e productive use o"

property, plant, and euip#ent by generating

sales dollars

– &!clude construction in progress "ro# net "i!ed assets• ossible distortions

– +ld "i!ed assets

– Labor$intensive industry

'ales to 6i!ed Assets

et 'ales'ales to 6i!ed Assets 4

Average et 6i!ed Assets

>&!clude Construction in rogress?


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• Measures inco#e earned on invested capital

and ho ell the "ir# utili5es its asset base

• &valuates enterprise per"or#ance ithout regard

to "inancing sources

Return on )nvest#ent >R+)?

et )nco#e *e"ore oncontrolling

)nterest and onrecurring )te#s @>)nterest &!pense? 8 >1 /a! Rate?B

Return on )nvest#ent 4 Average >Long$/er# Liabilities @ &uity?

−


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• Measures the return to co##on and pre"erred

stoc=holders

Return on /otal &uity

• Adust#ents "or redee#able pre"erred stoc= – educt dividends "ro# net inco#e >nu#erator?

– educt stoc= value "ro# total euity >deno#inator?

et )nco#e *e"ore onrecurring )te#s

ividends on Redee#able re"erred 'toc=Return on &uity 4 Average /otal &uity

−


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• Measures the return to the co##on stoc=holder

Return on Co##on &uity

Co##on euity 4 /otal 'toc=holders: &uity

D re"erred Capital D

oncontrolling )nterest

et inco#e *e"ore onrecurring

)te#s re"erred ividendsReturn on Co##on &uity 4

Average Co##on &uity

−


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• )ncludes the return to all suppliers o" "unds, both

long$ and short$ter#, by both creditors and

investors

Return on /otal Asset ;ariation

• i""ers "ro# the return on assets ratio and return

on invest#ent• )t does not lend itsel" to uont Analysis

et )nco#e @ )nterest &!penseReturn on /otal Asset ;ariation 4



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Rate of return on

Measuresreturn to

providers of Typical result

Assets All "unds Loest >includes all assets?)nvest#ent Long$ter# "unds %igher than R+A >relative s#all

a#ount o" short$ter# "unds?

/otal euity &uity %igher than R+) >#easures returnonly to shareholders?

/he Relationship *eteen ro"itabilityRatios


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/he Relationship *eteen ro"itabilityRatios7Continued

Rate of return on

Measuresreturn to

providers of Typical result

Co##oneuity Co##on euity %ighest• Co##on shareholders absorbgreatest degree o" ris=

• Reuires that return to pre"erredshareholders e!ceed "unds paid topre"erred shareholders


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• Co#paring gross pro"it ith net sales is ter#ed

the gross pro"it #argin

(ross ro"it Margin

et 'ales Revenue

D Cost o" (oods 'old

4 (ross ro"it

*eginning )nventory

@ urchases o" )nventory

− &nding )nventory

(ross ro"it(ross ro"it Margin 4

et 'ales


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• Analysis helps the "olloing ays< – Managers budget gross pro"it levels into their

predictions o" pro"itability

–

Esed in cost control – &sti#ate inventory levels "or interi# "inancial

state#ents and insured losses in #erchandising

industries

–

Esed by auditor and )nternal Revenue 'ervice to udge accuracy o" accounting syste#s

(ross ro"it Margin Analysis


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• +perating seg#ents – 'eparate "inancial in"or#ation is available

– &valuated by the chie" operating decision #a=er

–Reuires in"or#ation about

• Countries in hich the "ir# earns revenues and holds assets

• Maor custo#ers

'eg#ent Reporting


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• isclosures – /he ay the operating seg#ents are deter#ined

– roducts and services by the operating seg#ents

–i""erences beteen the #easure#ents used inreporting seg#ent and "ir#:s general$purpose

"inancial in"or#ation

• ro"itability trends can also be shon as

revenues by #aor product lines

'eg#ent Reporting7Continued


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• Charged directly to retained earnings – Changes in accounting principles

– Reali5ation o" inco#e ta! bene"its o" preacuisition

operating loss carry"orards o" purchasedsubsidiaries

– Changes in accounting entity

– Correction o" errors in prior periods

(ains and Losses "ro# rior eriod

Adust#ents


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• )te#s not included in net inco#e

• Reported as a separate co#ponent o"

shareholders: euity

– 6oreign currency translation adust#ents – Enreali5ed holding gains and losses "ro# available$

"or$sale #ar=etable securities

– Changes to stoc=holders: euity resulting "ro#

additional #ini#u# pension liability adust#ents – Enreali5ed gains and losses "ro# derivative

instru#ents

Co#prehensive )nco#e


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• /raditional pro"itability analysis includes ite#s

related to net inco#e – )te#s o" accu#ulated other co#prehensive inco#e

are e!cluded "ro# analysis• Consider supple#ental analysis including other

co#prehensive inco#e ite#s "or – Return on assets

– Return on invest#ent

– Return on total euity

– Return on co##on euity

Co#prehensive )nco#e7Continued


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• )t is a hypothetical or proected a#ount

• Release ti#ed to coincide ith release o" (AA

"inancial results

• 'arbanes$+!ley Act o" 2002 reuires – Reconciling o" pro "or#a data to (AA "inancial

condition and results o" operations

ro$6or#a 6inancial )n"or#ation


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• Enaudited "inancial reports covering "iscal

periods o" less than one year – '&C reuires li#ited "inancial data be provided on

6or# 10$F – Certain uarterly in"or#ation is disclosed in notes to

the annual report

– )nteri# reports are an integral part o" the annual

report• Less reliable than annual reports as contain

#ore esti#ates

)nteri# Reports

5 AGibson 13E Ch08 (Topic 5) Profitability

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