Chapter 13 – Analyzing Financial Statements
13-1
CHAPTER 13
ANALYZING FINANCIAL STATEMENTS
Learning Objectives and Related Assignment Materials
Learning Objectives
Mini-
Exercises
Exercises
Problems
Alternate
Problems
Cases and
Projects
1. Explain how a company’s business
strategy affects financial analysis.
1, 2, 3, 4
4
3
4, 5
2. Discuss how analysts use financial
statements.
1, 2, 3, 4
4
3
3. Compute and interpret component
percentages.
1, 2
1, 2, 3, 4,
6, 10
4, 5, 6, 7,
8, 10
3, 4, 5, 6
7
4. Compute and interpret profitability
ratios.
3, 4, 7
5, 10
4, 5, 7, 8,
9, 10
1, 2, 3, 4,
5, 6
1, 2, 3, 7
5. Compute and interpret liquidity ratios.
5, 6, 7
1,2, 3, 4,
5, 7, 8, 9,
10, 11,
12, 13
1, 2, 4, 5,
8, 9, 10
1, 2, 3, 4,
5, 6
1, 2, 3, 6,
7
6. Compute and interpret solvency ratios.
1, 2, 3, 4,
5
1, 2, 4, 5,
7, 8, 9,
10
1, 2, 3, 4,
5
1, 2, 3, 7
7. Compute and interpret market test
ratios.
8, 9, 10
5
1, 2, 3, 4,
5, 8, 10
1, 2, 3, 4,
5
1, 2, 3, 7
Synopsis of Chapter Revisions
Focus Company: The Home Depot
▪ Financial statement analysis coverage moved to Chapter 13.
▪ Focus and contrast company data updated.
▪ New GUIDED HELP feature provides free access to step-by-step video instruction on the computation of
the current ratio, inventory turnover ratio, and price/earnings ratio.
▪ New CONTINUING CASE added to the end-of-chapter problems. Students are asked to compute ratios
for Pool Corporation, a public company.
Chapter 13 – Analyzing Financial Statements
PowerPoint Slides
Learning Objectives
PowerPoint® Slides
1. Explain how a company’s business strategy affects financial analysis.
14-1 through 14-4
2. Discuss how analysts use financial statements.
14-5
3. Compute and interpret component percentages.
14-6 through 14-9
4. Compute and interpret profitability ratios.
14-10 through 14-19
5. Compute and interpret liquidity ratios.
14-20 through 14-27
6. Compute and interpret solvency ratios.
14-28 through 14-30
7. Compute and interpret market test ratios.
14-31 through 14-34
Summary of Related Video Program
Chapter 13 – Analyzing Financial Statements
13-3
Chapter Take-Aways
1. Explain how a company’s business strategy affects financial analysis.
In simple terms, a business strategy establishes the objectives a business is trying to achieve.
Performance is best evaluated by comparing the financial statements to the objectives that the
business was working to achieve. In other words, an understanding of a company’s strategy provides
the context for conducting financial statement analysis.
2. Discuss how analysts use financial statements.
Analysts use financial statements to understand present conditions and past performance as well as to
predict future performance. Financial statements provide important information to help users
understand and evaluate corporate strategy. The data reported on statements can be used for either
time-series analysis (evaluating a single company over time) or in comparison with similar companies
at a single point in time. Most analysts compute component percentages and ratios when using
statements.
3. Compute and interpret component percentages.
To compute component percentages for the income statement, the base amount is net sales revenue.
Each expense is expressed as a percentage of net sales revenue. On the balance sheet, the base amount
is total assets; each balance sheet account is divided by total assets. Component percentages are
evaluated by comparing them over time for a single company or by comparing them with percentages
for similar companies.
4. Compute and interpret profitability ratios.
Several tests of profitability focus on measuring the adequacy of income by comparing it to other
items reported on the financial statements. Exhibit 13.3 lists these ratios and shows how to compute
them. Profitability ratios are evaluated by comparing them over time for a single company or by
comparing them with ratios for similar companies.
5. Compute and interpret liquidity ratios.
Tests of liquidity focus on measuring a company’s ability to meet its current maturing debt. Exhibit
13.3 lists these ratios and shows how to compute them. Liquidity ratios are evaluated by comparing
them over time for a single company or by comparing them with ratios for similar companies.
6. Compute and interpret solvency ratios.
Solvency ratios measure a company’s ability to meet its long-term obligations. Exhibit 13.3 lists these
ratios and shows how to compute them. Solvency ratios are evaluated by comparing them over time
for a single company or by comparing them with ratios for similar companies.
7. Compute and interpret market test ratios.
Market test ratios relate the current price of a stock to the return that accrues to investors. Exhibit 13.3
lists these ratios and shows how to compute them. Market test ratios are evaluated by comparing them
over time for a single company or by comparing them with ratios for similar companies.
Chapter 13 – Analyzing Financial Statements
13-4
Finding Financial Information
Balance Sheet
Ratios are not reported on the balance sheet, but
analysts use balance sheet information to
compute many ratios. Most analysts use an
average of the beginning and ending amounts
for balance sheet accounts when comparing the
account to an income statement account.
Income Statement
Earnings per share is the only ratio that is
required to be reported on the financial
statements. It is usually reported at the
bottom of the income statement.
Statement of Cash Flows
Ratios are not reported on this statement, but
some analysts use amounts from this statement
to compute some ratios.
Statement of Stockholders’ Equity
Ratios are not reported on this statement, but
analysts use amounts from this statement to
compute some ratios.
Notes
Under Summary of Significant Accounting
Policies
This note has no information pertaining directly
to ratios, but it is important to understand
accounting differences if you are comparing
two companies.
Under a Separate Note
Most companies include a 10-year financial
summary as a separate note. These summaries
include data for significant accounts, some
accounting ratios, and nonaccounting
information.
Statement of Stockholders’ Equity
Details on securities held as trading and
available-for-sale securities and
investments in affiliates
Chapter 13 – Analyzing Financial Statements
13-5
Chapter Outline
Teaching Notes
LO 1 – Explain how a company’s business strategy affects financial analysis.
I. The Investment Decision
A. Investors
1. Investors are the largest single group of users of financial
statements
2. Individual investors use analysts’ reports and
recommendations, which may vary widely
B. Evaluation of Income and Growth Potential
1. Investors should evaluate the company’s future income
and growth potential on the basis of three factors:
a. Economy-wide factors
b. Industry factors
c. Individual company factors
2. Besides considering these factors, investors should
understand a company’s business strategy when
evaluating its financial statements
Use Supplemental
Enrichment Activity #1
II. Understanding a Company’s Strategy
A. DuPont Model
1. ROE = Net Profit Margin x Asset Turnover x Financial
Leverage
2. (Net Income ÷ Average Stockholders’ Equity) =
(Net Income ÷ Net Sales) x
(Net Sales ÷ Average Total Assets) x
(Average Total Assets ÷ Average Stockholders’ Equity)
3. Key insight provided by the DuPont model is companies
can be profitable by achieving high profit margins or a
rapid turnover of assets (or a combination of both)
4. Businesses can earn a high rate of return by two
fundamental strategies:
a. Product differentiation – under this strategy,
companies offer products with unique benefits, such as
high quality or unusual style or features
b. Cost differentiation – under this strategy, companies
attempt to operate more efficiently than their
competitors, which permits them to offer lower prices
to attract customers
B. Understanding a Business Strategy
1. To evaluate how well a company is doing, analysts must
know what managers are trying to do
2. A great deal can be learned about a company’s business
strategy by reading its annual report (especially the letter
from the president)
Chapter 13 – Analyzing Financial Statements
13-6
LO 2 – Discuss how analysts use financial statements.
III. Financial Statement Analysis
Show Video Program #17
A. Basis of Comparison
1. Analyzing financial data without a basis for comparison
is impossible
2. The task of finding appropriate benchmarks requires
judgment and is not always easy
B. Methods for making financial comparisons
1. Time series analysis – In this type of analysis,
information on a single company is compared over time
2. Comparison with similar companies – by comparing a
company with another one in the same line of business,
an analyst can gain better insight into its performance
a. Finding comparable companies is often very difficult
b. Federal government has developed the North
American Industry Classification System (NAICS) for
use in reporting economic data
c. Financial information services provide averages for
many common accounting ratios for various industries
defined by the industrial classification codes
3. These data should be used with great care because of the
diversity of companies included in each industry
classification
4. Some analysts prefer to compare two companies that are
very similar instead of using industry-wide comparisons
IV. Ratio and Percentage Analysis
A. Background
1. Ratio (percentage) analysis – an analytical tool that
measures the proportional relationship between two
financial statement amounts
Background information for
Home Depot provided in
Exhibit 13.1
a. A ratio or percentage expresses the proportionate
relationship between two different amounts, allowing
for easy comparisons
b. Assessing a company’s profitability is difficult if you
know only that it earned a net income of $500,000;
comparing income to other numbers, such as
stockholders’ equity, provides additional insights
2. Ratios may be computed using amounts in one statement,
such as the income statement, or in two different
statements, such as the income statement and the balance
sheet
3. In addition, amounts on a single statement may be
expressed as a percentage of a base amount
Chapter 13 – Analyzing Financial Statements
13-7
LO 3 – Compute and interpret component percentages.
B. Component Percentages
1. Component percentages – express each item on a
particular financial statement as a percentage of a single
base amount
Illustrated in Exhibit 13.2
a. Income statement – base amount is net sales revenue
b. Balance sheet – base amount is total assets
2. Many analysts use graphics software in their study of
financial results
3. In addition to component percentages, analysts use ratios
to compare related items from the financial statements
a. Of the many ratios that can be computed from a single
set of financial statements, analysts use only those that
can be helpful in a given situation
b. When you compute ratios, remember that balance
sheet amounts relate to a moment in time while
income statement amounts relate to an entire period
i. In comparing an income statement amount to a
balance sheet amount, express the balance sheet as
an average of the beginning and ending balances
Text always uses average
amounts
ii. In practice, many analysts simply use the ending
balance sheet amount, an approach that is
appropriate only if no significant changes have
occurred in the balance sheet amounts
LO 4 – Compute and interpret profitability ratios.
C. Tests of Profitability – ratios that compare income with one
or more primary activities
Summarized in Exhibit 13.3
Use Supplemental
Enrichment Activity #1
Use Supplemental
Enrichment Activity #2
1. Return on Equity (ROE)
a. ROE = Net Income ÷ Average Stockholders’ Equity
b. Relates income earned to the investment made by the
owners
2. Return on Assets (ROA)
a. ROA = Net Income + Interest Expense (net of tax ) ÷
Average Total Assets
b. Considered to be a better measure (compared to ROE)
of management’s ability to utilize assets effectively
because it is not affected by the way in which the
assets have been financed
c. Interest expense has been added to net income in the
numerator of the ratio
i. The denominator of the ratio includes resources
provided by both owners and creditors, so the
numerator must include the return that was
available to each group
Chapter 13 – Analyzing Financial Statements
13-8
ii. The interest expense is measured net of income tax
because it represents the net cost to the corporation
for the funds provided by creditors
3. Financial Leverage Percentage
a. Financial Leverage Percentage = Return on Equity −
Return on Assets
b. Describes the relationship between the return on
equity and the return on assets
c. Positive leverage occurs when the rate of return on a
company’s assets exceeds the average after-tax
interest rate on its borrowed funds
d. Can be enhanced either by investing effectively (i.e.,
earning a high return on investment) or by borrowing
effectively (i.e., paying a low rate of interest)
4. Earnings per Share (EPS)
a. EPS = Net Income ÷ Average Number of Shares of
Common Stock Outstanding
b. A measure of return on investment that is based on the
number of shares outstanding instead of the dollar
amounts reported on the balance sheet
c. EPS is probably the single most widely watched ratio
5. Quality of Income
a. Quality of Income = Cash Flows from Operating
Activities ÷ Net Income
b. Analysts are concerned about the quality of a
company’s earnings because some accounting
procedures can be used to report higher income
i. A ratio higher than 1 is considered to indicate high-
quality earnings, because each dollar of income is
supported by one dollar or more of cash flow
ii. A ratio below 1 represents lower-quality earnings
6. Profit Margin
a. Profit Margin = Net Income ÷ Net Sales Revenue
b. Measures the percentage of each sales dollar, on
average, that represents profit
c. A good measure of operating efficiency but care must
be used in analyzing because it does not consider the
resources (i.e., total investment) needed to earn
income
d. Very difficult to compare profit margins for
companies in different industries
7. Fixed Asset Turnover
a. Fixed Asset Turnover = Net Sales Revenue ÷ Average
Net Fixed Assets
b. Term fixed assets is synonymous with property, plant,
and equipment
c. Compares sales volume with a company’s investment
in fixed assets
d. Used widely to analyze capital-intensive companies
Chapter 13 – Analyzing Financial Statements
13-9
e. Asset Turnover Ratio
i. Asset Turnover Ratio = Net Sales Revenue ÷
Average Total Assets
ii. For companies that hold large amounts of
inventory and accounts receivable, analysts often
prefer to use the asset turnover ratio (rather than
the fixed asset turnover ratio)
iii. This comparison is important because operating
efficiency has a significant impact on profitability
Refer students to Pause for
Feedback – Self-Study Quiz
LO 5 – Compute and interpret liquidity ratios.
D. Tests of Liquidity – ratios that measure a company’s ability
to meet its currently maturing obligations
Summarized in Exhibit 13.3
Use Supplemental
Enrichment Activity #1
Use Supplemental
Enrichment Activity #2
8. Cash Ratio
a. Cash Ratio = (Cash + Cash Equivalents) ÷ Current
Liabilities
b. Measures the adequacy of available cash
c. Analysts believe the cash ratio should not be too high
because holding excess cash is usually uneconomical
d. Some analysts do not use the cash ratio because they
see it as too stringent a test of liquidity and it is very
sensitive to small events
9. Current Ratio
a. Current Ratio = Current Assets ÷ Current Liabilities
b. Measures the cushion of working capital that
companies maintain to allow for the inevitable
unevenness in the flow of funds through the working
capital accounts
c. Analysts consider a current ratio of 2 to be financially
conservative
i. Most companies have current ratios below 2
ii. Optimal level of the current ratio depends on the
business environment in which a company operates
iii. If cash flows are predictable and stable (as they are
for a utility company), the current ratio can be low,
even less than 1
10. Quick Ratio (Acid Test)
a. Quick Ratio = Quick Assets ÷ Current Liabilities
i. Quick assets include cash, short-term investments,
and accounts receivable (net of the allowance for
doubtful accounts)
ii. Inventory is omitted because of the uncertainty of
the timing of cash flows from its sale
iii. Prepaid expenses are also excluded from quick
assets
b. A more stringent test of short-term liquidity than the
current ratio
c. A measure of the safety margin that is available to
meet a company’s current liabilities
Chapter 13 – Analyzing Financial Statements
13–10
11. Receivable Turnover
a. Receivable Turnover = Net Credit Sales ÷ Average
Net Receivables (when the amount of credit sales is
not known, total sales may be used as a rough
approximation)
b. High ratio suggests that a company is effective in its
credit-granting and collection activities
i. Granting credit to poor credit risks and ineffective
collection efforts will produce a low receivable
turnover ratio
ii. A very high ratio also can be troublesome because
it suggests an overly stringent credit policy that
could cause lost sales and profits
c. Average Age of Receivables
i. Average Age of Receivables = Days in a Year ÷
Receivable Turnover Ratio
ii. The effectiveness of credit and collection activities
is sometimes judged by the rule of thumb that the
average days to collect should not exceed 1.5 times
the credit terms
12. Inventory Turnover
a. Inventory Turnover = Cost of Goods Sold ÷ Average
Inventory
b. A measure of both liquidity and operating efficiency
c. Because a company normally realizes profit each time
inventory is sold, an increase in this ratio is usually
favorable
d. If the ratio is too high, however, it may be an
indication that sales were lost because desired items
were not in stock
e. Turnover ratios vary significantly from one industry to
the next
f. Average Days’ Supply in Inventory
i. Average Days’ Supply in Inventory = Days in a
Year ÷ Inventory Turnover Ratio
ii. Converts the inventory turnover ratio to a time
basis
g. Helpful when evaluating a company’s operating cycle
(as are the accounts payable and accounts receivable
turnover ratios); the component parts of the operating
cycle help us understand the cash needs of the
company
i. Accounts Payable Turnover Ratio = Cost of Goods
Sold ÷ Average Accounts Payable
ii. Average Age of Payables = Days in a Year ÷
Payable Turnover Ratio
Refer students to Pause for
Feedback – Self-Study Quiz
Chapter 13 – Analyzing Financial Statements
13–11
LO 6 – Compute and interpret solvency ratios.
E. Tests of Solvency – ratios that measure a company’s ability
to meet its long-term obligations
Summarized in Exhibit 13.3
Use Supplemental
Enrichment Activity #1
Use Supplemental
Enrichment Activity #2
13. Times Interest Earned
a. Times Interest Earned = (Net Income + Interest
Expense + Income Tax Expense) ÷ Interest Expense
b. Compares the income a company generated in a period
to its interest obligation for the same period;
represents a margin of protection for creditors
c. Some analysts prefer to calculate the times interest
earned ratio based on all contractually required
payments, including principal and rent payments..
d. Others believe ratio is flawed because interest expense
and other obligations are paid in cash rather than with
net income; they prefer to use the cash coverage ratio
14. Cash Coverage Ratio
a. Cash Coverage Ratio = (Cash Flows from Operating
Activities before Interest and Taxes Paid) ÷ Interest
Paid (from statement of cash flows)
b. Compares the cash generated by a company to its cash
obligations for the period
c. The numerator and the denominator of the cash
coverage ratio use interest paid from the statement of
cash flows instead of interest expense from the income
statement; accrued interest and interest payments are
normally similar in amount but not always the same
15. Debt-to-Equity Ratio
a. Debt-to-Equity Ratio = Total Liabilities ÷
Stockholders’ Equity
b. Expresses a company’s debt as a proportion of its
stockholders’ equity
c. Equity capital is usually considered much less risky
than debt
i. Debt is risky for a company because specific
interest payments must be made even if company
has not earned sufficient income to pay them
ii. In contrast, dividends are always at the company’s
discretion and are not legally enforceable until they
are declared by the board of directors
Refer students to Pause for
Feedback – Self-Study Quiz
Chapter 13 – Analyzing Financial Statements
13–12
LO 7 – Compute and interpret market test ratios.
F. Market Tests – ratios that tend to measure the market worth
of a share of stock
Summarized in Exhibit 13.3
Use Supplemental
Enrichment Activity #1
Use Supplemental
Enrichment Activity #2
16. Price/Earnings (P/E) Ratio
a. Price/Earnings (P/E) Ratio = Current Market Price per
Share ÷ Earnings per Share
b. Measures the relationship between the current market
price of a stock and its earnings per share
c. Reflects the stock market’s assessment of a company’s
future performance
d. A high ratio indicates that earnings are expected to
grow rapidly
e. The value of a stock is related to the present value of
the company’s future earnings; a company that
expects to increase its earnings in the future is worth
more than one that cannot grow its earnings (assuming
other factors are the same)
i. However, while a high P/E ratio and good growth
prospects are considered favorable, there are risks.
ii. When a company with a high P/E ratio does not
meet the level of earnings expected by the market,
the negative impact on its stock can be dramatic
17. Dividend Yield
a. Dividend Yield = Dividends per Share ÷ Market Price
per Share
b. Measures the relationship between the dividends per
share paid to stockholders and the current market price
of the stock
c. Not high for most stocks compared to alternative
investments; investors are willing to accept low
dividend yields if they expect that the price of a stock
will increase while they own it
Refer students to Pause for
Feedback – Self-Study Quiz
V. Interpreting Ratios and Other Analytical Considerations
A. Background
1. Computation of financial ratios has not been standardized
a. Users of financial statements should compute the
various ratios in accordance with their decision
objectives
b. Before using ratios computed by others, users should
determine the computational approach that was used
2. Ratios can be interpreted only by comparing them to
other ratios or to some optimal value
3. Because ratios are based on the aggregation of
information, they may obscure underlying factors that are
of interest to the analyst
4. Despite limitations, ratio analysis is a useful analytical
tool
Chapter 13 – Analyzing Financial Statements
13–13
B. Other Financial Information
1. Factors that could affect analysis:
a. Rapid growth – growth in total sales volume does not
always indicate that a company is successful
b. Uneconomical expansion – some growth-oriented
companies will open stores in less desirable locations
if good locations cannot be found
See A Question of Ethics
feature “Insider
Information”
c. Subjective factors
2. No single approach can be used to analyze all companies
C. Information in an Efficient Market
1. Efficient markets – securities markets in which prices
fully reflect available information
2. In an efficient market, the price of a security fully reflects
all available information
a. A company cannot manipulate the price of its stock by
manipulating its accounting policy
b. The market should be able to differentiate between a
company whose earnings are increasing due to
improved productivity and one whose earnings have
increased simply because of changes in accounting
policies
Chapter 13 – Analyzing Financial Statements
13–14
Supplemental Enrichment Activities
Note: These activities would be suitable for individual or group activities.
1. Unless you used it in connection with chapter 1, consider showing the first segment of following
video in class; most students will be able to identify with the “fraudster.” Lively discussion of the
manner in which the fraud was perpetrated will follow.
The National Association of Certified Fraud Examiners produced a video in 1991 called “Cooking the
Books: What Every Accountant Should Know about Fraud”. If you do not have the tape, the toll free
number to order it is 1-800-245-3321 or visit the web site at www.cfenet.com. At this writing, the
cost to a college or university is $139.00 for nonmembers. Three frauds are overviewed: ZZZZ Best
Carpet, Regina Vacuum Cleaner Company, and ESM Group, Inc. (ESM Government Securities).
ZZZZ Best Carpet might be the best one to use. Barry Minkow, the CEO and major stockholder, is
interviewed in prison. The video segment discusses revenue overstatements, deferred costs, asset
valuations, inadequate disclosures, and horizontal and vertical analysis. It is very well done.
2. Handout 13-1
Use Handout 14-1 for an in-class activity designed to review the classification of financial ratios. The
solution follows the handout master.
3. Handout 13-2
Use Handout 14-2 for an in-class activity designed to review the formulas of financial ratios. The
solution follows the handout master.
Chapter 13 – Analyzing Financial Statements
13–15
HANDOUT 13 – 1
CLASSIFICIATON OF FINANCIAL RATIOS
Indicate whether each of the following financial ratios would be classified as a test of profitability,
liquidity, or solvency or a market test when performing ratio analysis.
Financial Ratios
Tests of
Profitability
Tests of
Liquidity
Tests of
Solvency
Market
Tests
Asset Turnover Ratio
Cash Coverage Ratio
Cash Ratio
Current Ratio
Average Age of Receivables
Average Days’ Supply in Inventory
Debt-to-Equity Ratio
Earnings per Share (EPS)
Financial Leverage Percentage
Fixed Asset Turnover Ratio
Inventory Turnover Ratio
Price/ Earnings (P/E) Ratio
Profit Margin
Quality of Income
Quick Ratio
Receivable Turnover Ratio
Return on Equity (ROE)
Return on Assets (ROA)
Times Interest Earned Ratio
Chapter 13 – Analyzing Financial Statements
13–16
HANDOUT 13 – 1 SOLUTION
CLASSIFICIATON OF FINANCIAL RATIOS
Indicate whether each of the following financial ratios would be classified as a profitability, liquidity,
solvency, or market test ratio when performing ratio analysis.
Financial Ratios
Tests of
Profitability
Tests of
Liquidity
Tests of
Solvency
Market
Tests
Asset Turnover Ratio
X
Cash Coverage Ratio
X
Cash Ratio
X
Current Ratio
X
Average Age of Receivables
X
Average Days’ Supply in Inventory
X
Debt-to-Equity Ratio
X
Earnings per Share (EPS)
X
Financial Leverage Percentage
X
Fixed Asset Turnover Ratio
X
Inventory Turnover Ratio
X
Price/ Earnings (P/E) Ratio
X
Profit Margin
X
Quality of Income
X
Quick Ratio
X
Receivable Turnover Ratio
X
Return on Equity (ROE)
X
Return on Assets (ROA)
Times Interest Earned Ratio
X
Chapter 13 – Analyzing Financial Statements
13–17
HANDOUT 13 – 2
FINANCIAL RATIO FORMULAS
Match each of the following financial ratios with its formula:
Accounts Payable Turnover Ratio
Fixed Asset Turnover Ratio
Asset Turnover Ratio
Inventory Turnover Ratio
Cash Coverage Ratio
Price/ Earnings (P/E) Ratio
Cash Ratio
Profit Margin
Current Ratio
Quality of Income
Average Age of Receivables
Quick Ratio
Average Days’ Supply in Inventory
Receivable Turnover Ratio
Debt-to-Equity Ratio
Return on Equity (ROE)
Earnings per Share (EPS)
Return on Assets (ROA)
Financial Leverage Percentage
Times Interest Earned Ratio
A. Cost of Goods Sold ÷ Average Inventory
B. (Cash and Cash Equivalents) ÷ Current Liabilities
C. Cash Flows from Operating Activities (before interest and taxes paid) ÷ Net Income
D. Cash Flows from Operating Activities ÷ Net Income
E. (Cash + Short-Term Investments + Accounts Receivable, Net) ÷ Current Liabilities
F. Total Liabilities ÷ Stockholders’ Equity
G. (Net Income + Interest Expense (net of tax)) ÷ Average Total Assets
H. Current Market Price per Share ÷ Earnings per Share
I. (Net Income + Interest Expense + Income Tax Expense) ÷ Interest Expense
J. Return on Equity – Return on Assets
K. Net Income ÷ Average Number of Shares of Common Stock Outstanding
L. Net Credit Sales ÷ Average Net Receivables
M. Net Sales Revenue ÷ Average Total Assets
N. Net Income ÷ Net Sales Revenue
O. Days in a Year ÷ Inventory Turnover Ratio
P. Days in a Year ÷ Receivables Turnover Ratio
Q. Current Assets ÷ Current Liabilities
R. Net Income ÷ Average Stockholders’ Equity
S. Net Sales Revenue ÷ Average Net Fixed Assets
T. Cost of Goods Sold ÷ Average Accounts Payable
Chapter 13 – Analyzing Financial Statements
13–18
HANDOUT 13 – 2 SOLUTION
FINANCIAL RATIO FORMULAS
Match each of the following financial ratios with its formula:
T
Accounts Payable Turnover Ratio
S
Fixed Asset Turnover Ratio
M
Asset Turnover Ratio
A
Inventory Turnover Ratio
C
Cash Coverage Ratio
H
Price/ Earnings (P/E) Ratio
B
Cash Ratio
N
Profit Margin
Q
Current Ratio
D
Quality of Income
P
Average Age of Receivables
E
Quick Ratio
O
Average Days’ Supply in Inventory
L
Receivable Turnover Ratio
F
Debt-to-Equity Ratio
R
Return on Equity (ROE)
K
Earnings per Share (EPS)
G
Return on Assets (ROA)
J
Financial Leverage Percentage
I
Times Interest Earned Ratio
A. Cost of Goods Sold ÷ Average Inventory
B. (Cash and Cash Equivalents) ÷ Current Liabilities
C. Cash Flows from Operating Activities (before interest and taxes paid) ÷ Net Income
D. Cash Flows from Operating Activities ÷ Net Income
E. (Cash + Short-Term Investments + Accounts Receivable, Net) ÷ Current Liabilities
F. Total Liabilities ÷ Stockholders’ Equity
G. (Net Income + Interest Expense (net of tax)) ÷ Average Total Assets
H. Current Market Price per Share ÷ Earnings per Share
I. (Net Income + Interest Expense + Income Tax Expense) ÷ Interest Expense
J. Return on Equity – Return on Assets
K. Net Income ÷ Average Number of Shares of Common Stock Outstanding
L. Net Credit Sales ÷ Average Net Receivables
M. Net Sales Revenue ÷ Average Total Assets
N. Net Income ÷ Net Sales Revenue
O. Days in a Year ÷ Inventory Turnover Ratio
P. Days in a Year ÷ Receivables Turnover Ratio
Q. Current Assets ÷ Current Liabilities
R. Net Income ÷ Average Stockholders’ Equity
S. Net Sales Revenue ÷ Average Net Fixed Assets
T. Cost of Goods Sold ÷ Average Accounts Payable