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 Prufrock Corporation
Balance Sheets: Table 3.1

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 Prufrock Corporation
Income Statement: Table 3.3

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 Ratio Analysis

• Allow for better comparison through

time or between companies
• Used both internally and externally
• For each ratio, ask yourself:
– What the ratio is trying to measure
– Why that information is important

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Categories of Financial Ratios

• Liquidity ratios or Short-term solvency

• Financial leverage ratios or Long-term
solvency ratios
• Asset management or Turnover ratios
• Profitability ratios
• Market value ratios

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 Table 3.5 Return
to Quiz

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 Liquidity Ratios
PRUFROCK PRUFROCK
Balance Sheet - 2019 Income Statement - 2019
Liabilities & Owners Equity Sales $ 2,361
Current Liabilities COGS $ 1,344
$ 98 Accounts Payable $ 344 Depreciation $ 276
$ 188 Notes Payable $ 204 EBIT $ 741
$ 422 Total $ 548 Interest $ 141
$ 708 Long term debt $ 457 Taxable Income $ 600
Owners' Equity Taxes (21%) $ 126
Common Stock and paid in surplus $ 510 Net Income $ 474
Retained Earnings $ 2,115
$ 2,922 Total $ 2,625 Dividends $ 158
$ 3,630 Total Liabilties & Owners' Equity $ 3,630 Addition to RE $ 316

• Current Ratio = CA / CL
– 708 / 548 = 1.29 times
• Quick Ratio = (CA – Inventory) / CL
– “Acid Test”
– (708-422) / 548 = 0.52 times
• Cash Ratio = Cash / CL
– 98/ 548 = .18 times
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Financial Leverage Ratios (1 of 2)
Balance Sheet - 2019 Income Statement - 2019
Liabilities & Owners Equity Sales $ 2,361
Current Liabilities COGS $ 1,344
$ 98 Accounts Payable $ 344 Depreciation $ 276
$ 188 Notes Payable $ 204 EBIT $ 741
$ 422 Total $ 548 Interest $ 141
$ 708 Long term debt $ 457 Taxable Income $ 600
Owners' Equity Taxes (21%) $ 126
Common Stock and paid in surplus $ 510 Net Income $ 474
Retained Earnings $ 2,115
$ 2,922 Total $ 2,625 Dividends $ 158
$ 3,630 Total Liabilties & Owners' Equity $ 3,630 Addition to RE $ 316

• Total Debt Ratio = (TD) / TA

– 1,005 / 3,630 = 0.28 times
• Debt/Equity = TD / TE
– (0.28 / 0.72) = 0.38 times
• Equity Multiplier = TA/TE = 1 + D/E
– ($1 / 0.72) = (1 + 0.38) = 1.38
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Financial Leverage Ratios (2 of 2)
Income Statement - 2019
Sales $ 2,361
COGS $ 1,344
Depreciation $ 276
EBIT $ 741
Interest $ 141
Taxable Income $ 600
Taxes (21%) $ 126
Net Income $ 474

Dividends $ 158
Addition to RE $ 474

• Times Interest Earned = EBIT / Interest

– 741 / 141 = 5.26 times

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 Asset Management:
Inventory Ratios
Current Ratio 1.29 Inventory Turnover 3.18
Quick Ratio 0.52 Days' Sales in Inventory 114.61 days
Cash Ratio 0.18 Receivables Turnover 12.56
Days' Sales in Receivables 29.06 days
Financial Leverage Ratios Total Asset Turnover 0.65
Total Debt Ratio 0.28 Profitability Measures
Debt to Equity 0.38 Profit Margin 20.08%
Equity Multiplier 1.38 ROA 13.06%
ROE 18.06%
Times Interest Earned 5.26 Market Value Measures
Cash Coverage 7.21 Market Price $ 115
Shares Outstanding 33 million
EPS 14.36

• Inventory Turnover = COGS / Inventory

– 1,344 / 422 = 3.18 times
• Days’ Sales in Inventory = 365 / Inventory Turnover
– 365 / 3.2 = 114.61 days

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 Asset Management:
Receivables Ratios
Balance Sheet - 2019 Income Statement - 2019
ASSETS Liabilities & Owners Equity Sales $ 2,361
Current Assets Current Liabilities COGS $ 1,344
Cash $ 98 Accounts Payable $ 344 Depreciation $ 276
Accounts Receivable $ 188 Notes Payable $ 204 EBIT $ 741
Inventory $ 422 Total $ 548 Interest $ 141
Total $ 708 Long term debt $ 457 Taxable Income $ 600
Owners' Equity Taxes (21%) $ 126
Common Stock and paid in surplus $ 510 Net Income $ 474
Fixed Assets Retained Earnings $ 2,115
Net Plant & Equipment $ 2,922 Total $ 2,625 Dividends $ 158
Total Asets $ 3,630 Total Liabilties & Owners' Equity $ 3,630 Addition to RE $ 316

• Receivables Turnover = Sales / AR

– 2,361 / 188 = 12.56 times
• Days’ Sales in Receivables = 365 / Receivables Turnover
– 365 / 12.56 = 29.06 days

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 Asset Management:
Asset Turnover Ratios
Balance Sheet - 2019 Income Statement - 2019
ASSETS Liabilities & Owners Equity Sales $ 2,361
Current Assets Current Liabilities COGS $ 1,344
Cash $ 98 Accounts Payable $ 344 Depreciation $ 276
Accounts Receivable $ 188 Notes Payable $ 204 EBIT $ 741
Inventory $ 422 Total $ 548 Interest $ 141
Total $ 708 Long term debt $ 457 Taxable Income $ 600
Owners' Equity Taxes (21%) $ 126
Common Stock and paid in surplus $ 510 Net Income $ 474
Fixed Assets Retained Earnings $ 2,115
Net Plant & Equipment $ 2,922 Total $ 2,625 Dividends $ 158
Total Asets $ 3,630 Total Liabilties & Owners' Equity $ 3,630 Addition to RE $ 316

• Total Asset Turnover = Sales / Total Assets

– 2,361 / 3,630 = 0.66 times

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 Profitability Ratios
PRUFROCK PRUFROCK
Balance Sheet - 2019 Income Statement - 2019
ASSETS Liabilities & Owners Equity Sales $ 2,361
Current Assets Current Liabilities COGS $ 1,344
Cash $ 98 Accounts Payable $ 344 Depreciation $ 276
Accounts Receivable $ 188 Notes Payable $ 204 EBIT $ 741
Inventory $ 422 Total $ 548 Interest $ 141
Total $ 708 Long term debt $ 457 Taxable Income $ 600
Owners' Equity Taxes (21%) $ 126
Common Stock and paid in surplus $ 510 Net Income $ 474
Fixed Assets Retained Earnings $ 2,115
Net Plant & Equipment $ 2,922 Total $ 2,625 Dividends $ 158
Total Asets $ 3,630 Total Liabilties & Owners' Equity $ 3,630 Addition to RE $ 316

• Profit Margin = NI / Sales

– 474 / 2,361 = 20.08%
• Return on Assets (ROA) = NI / TA
– 474 / 3,630 = 13.06%
• Return on Equity (ROE) = NI / TE
– 474 / 2,625 = 18.06%
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 Market Value Ratios
• Market Price = $115 per share = PPS
• Shares outstanding = 33 million
• Earnings per Share = EPS = NI/ Shares outstanding
474 / 33 = $14.36

• PE ratio = PPS / EPS

– $115 / $14.36 = 8.01 times

• Market-to-book ratio = PPS / Book value per share

– Book value per share = Total Equity/shares outstanding
= $2,625 / 33 = $79.55
– Market-to-Book = $115 / 79.55 = 1.45 times

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 Prufrock Ratios

Liquidity Ratios Asset Management Ratios

Current Ratio 1.29 Inventory Turnover 3.18
Quick Ratio 0.52 Days' Sales in Inventory 114.61 days
Cash Ratio 0.18 Receivables Turnover 12.56
Days' Sales in Receivables 29.06 days
Financial Leverage Ratios Total Asset Turnover 0.65
Total Debt Ratio 0.28 Profitability Measures
Debt to Equity 0.38 Profit Margin 20.08%
Equity Multiplier 1.38 ROA 13.06%
ROE 18.06%
Times Interest Earned 5.26 Market Value Measures
Cash Coverage 7.21 Market Price $ 115
Shares Outstanding 33 million
EPS $14.36
PE Ratio 8.01

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 Why Evaluate Financial
Statements?
• Internal uses
– Performance evaluation – compensation and
comparison between divisions
– Planning for the future – guide in estimating future
cash flows
• External uses
– Creditors
– Suppliers
– Customers
– Stockholders

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 Benchmarking
• Ratios need to be compared to something
• Time-Trend Analysis
– How the firm’s performance is changing
through time
– Internal and external uses
• Peer Group Analysis
– Compare to similar companies or within
industries

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Problems with Financial Analysis

• Conglomerates
– No readily available comparables
• Global competitors
• Different accounting procedures
• Different fiscal year ends
• Differences in capital structure
• Seasonal variations and one-time events
Return
to Quiz
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 Chapter 3
END
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