FIMA311

Last meeting…

Financial Ratios
• Liquidity Ratio
• Asset Management Ratios
• Debt Management Ratios
• Profitability Ratios
• Market Ratios
 Compute and interpret ratios that
managers use for debt management
purposes
 BEBU TRADING CORPORATION
Statement of Financial Position
As of December 31, 2020

2020 2019
ASSETS
CURRENT ASSETS
Cash 4,800 4,200
Marketable Securities 2,700 1,800
Accounts Receivable, net 72,000 66,000
Inventory 120,000 102,000
Prepaid Insurance 1,500 1,800
Total Current Assets 201,000 175,800
Long Term Investment 3,000 3,300
Property, Plant and Equipment
Land 36,000 36,000
Building, net 330,000 312,000
Equipment, net 150,000 138,000
Total PPE, net 516,000 486,000
TOTAL ASSETS 720,000 665,100
 2020 2019
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts Payable 45,000 42,300
Accrued Expenses 13,200 12,600
Notes Payable 21,800 17,400
Total Current Liabilities 80,000 72,300
Long Term Liabilities 220,000 216,000
Total Liabilities 300,000 288,300
Shareholders' Equity
Preferred Stock, P200 par value at
8% 36,000 36,000
Common Stock, P10 par value 150,000 144,000
Additional Paid In Capital 24,000 22,800
Retained Earnings 210,000 174,000
Total Stockholder's Equity 420,000 376,800
TOTAL LIABILITIES AND STOCKHOLDERS'
EQUITY 720,000 665,100
 BEBU TRADING CORPORATION
Income and Retained Earnings Statement
For the Year Ended December 31, 2020

2020 2019
Net Sales 522,000 492,000
Less: Cost of Sales 365,580 338,100
Gross Profit 156,420 153,900
Less Operating Expenses 42,000 40,200
Net Operating Income 114,420 113,700
Less: Interest Expenses 24,180 23,340
Net Income before Tax 90,240 90,360
Less: Tax Expense 22,560 22,590
Net Income 67,680 67,770
Add: Retained Earnings, beg. 174,000 136,710
Total 241,680 204,480
Less: Dividends 31,680 30,480
Retained Earnings, end 210,000 174,000

Net Income 67,680 67,770

Less: Preferred Stock Dividends 2,880 2,880
Net Income Available to Common Stockholders 64,800 64,890
Less: Dividends 28,800 27,600
Addition to Retained Earnings 36,000 37,290
Additional Information:

1. In both 2020 and 2019, cost of sales were 80%

variable while the operating expenses were
60% fixed.

2. Common Stocks are traded in the market at

P20 per share.
Debt Management Ratios

1. Accounts Payable Turnover (APTO)

2. Debt to Asset Ratio (DTA)
3. Debt to Equity Ratio (DTE)
4. Equity Multiplier (EM)
5. Times-Interest Earned Ratio (TIER)
6. Fixed Charged Coverage Ratio (FCCR)
Debt Management Ratios

Accounts Payable Turnover = Purchases on Account

Average Accounts Payable

Equity Multiplier = Average Total Assets

Average Stockholder’s Equity
Fixed Charged Coverage Ratio (FCCR) = EBIT + Fixed Charge
Interest + Fixed Charge
Debt Management Ratios
Accounts Payable Turnover (APTO)
APTO = Purchases on Account
Average Accounts Payable
APTO = 383,580*
(45,000 + 42,300)/2

= 8.7876

*Purchases = COGS + Inventory, end - Inventory, beg

Purchases = 365,580 + 120,000 – 102,000

This ratio measures how many times a company settles its accounts payable each
year.
Debt Management Ratios
Average Payment Period (APP)

APP = 365 Days

Accounts Payable Turnover

APP = 365
8.7876
= 41.54 or 42 days

This ratio measures, on average, how many days it takes to pay an accounts
payable.
Debt Management Ratios
Cash Conversion Cycle (CCC)

Average Average Average Cash

Selling + Collection - Payment = Conversion
Period Period Period Cycle

111 + 49 - 42 = 118 days

This ratio measures the elapsed time from when cash is paid to suppliers to when
cash is received from customers.
Debt Management Ratios
Debt to Asset Ratio (DTA)

Debt Ratio, 2020 = 300,000 Debt Ratio, 2019 = 288,300

720,000 665,100
= 0.4167 = 0.4335
For 2020, 41.67% of assets are financed by debt. For 2019, 43.35% of assets are financed by
debt. In both years, debt is lesser than equity since debt ratios are both lower than 50%

This ratio shows the proportion of a company’s assets that are financed by debt.
Debt Management Ratios
Debt to Equity Ratio (DTE)

Debt to Equity Ratio,2020 = 300,000

420,000
= 0.7143

For2020,
For 2020,debt
41.67%
hasof assets
lesser are financed
weight by debt.
than equity sinceFor
the2019, 43.35%
debt ratio of assets
is less are financed by
than 1.
debt. In both years, debt is lesser than equity since debt ratios are both lower than 50%

This ratio indicates the relative proportions of debt to equity on a company’s

balance sheet
Debt Management Ratios
Equity Multiplier (EM)
EM = Average Total Assets
Average Stockholder’s Equity*

EM = (720,000 + 665,100) / 2
(384,000 + 340,800) / 2
= 1.9110

*Stockholder’s Equity = Common Stock + APIC + RE

This ratio indicates the portion of a company’s assets that are funded by equity.
It focuses on average amounts maintained throughout the year rather than
amounts at one point in time.
Debt Management Ratios
Times Interest Earned Ratio (TIER)

TIER = 114,420
24,180
= 4.732 times
4.732 times

This is the most common measure of company’s ability to provide protection for its
long-term creditors. A ratio of less than 1 is inadequate.
Debt Management Ratios
Fixed Charged Coverage Ratio (FCCR)
FCCR = EBIT + Fixed Charge
Interest Expense + Fixed Charge

FCCR = 114,420 + 98,316*

24,180 + 98,316
= 1.7367

*FC = (365,580 * 20%) + (42,000 * 60%)

= 98,316

This ratio measures a firm’s ability to cover its fixed charges, such as debt
payments, interest expense, and equipment lease expense. It shows how well a
company’s earnings can cover its fixed expenses.
Compute and interpret financial ratios
that managers use to assess
profitability.
PROFITABILITY Ratios

1. Gross Profit Margin (GP Margin)

2. Operating Profit Margin (OP Margin)
3. Profit Margin
4. Return on Sales (ROS)
5. Return on Assets (ROA)
6. Return on Equity (ROE)
7. Earnings per Share (EPS)
8. Dividends per Share (DPS)
9. Dividend Pay-Out Ratio

Plus DuPont Formula

 Margins
1. Gross Profit Margin (GP Margin)
2. Operating Profit Margin (OP Margin)
3. Profit Margin (PM)
Profitability Ratios
Gross Profit Margin (GP Margin)

Gross Profit Ratio = 156,420

522,000
= 29.97%

29.97% of sales is the entity’s gross profit margin.

This measure indicates how much of each sales Peso is left after deducting the
cost of goods sold to cover expenses to provide a profit.
Profitability Ratios
Operating Profit Margin (OP Margin)
Operating Profit Margin = Operating Profit
Net Sales

OP Margin = 114,420
522,000
= 21.92%

This measures how much profit a company makes on a peso of sales after paying
for variable costs of production but before paying interest and tax.
Profitability Ratios
Profit Margin ( OM)
Profit Margin = Net Income
Net Sales

Profit Margin = 67,680

522,000
= 12.97%

In addition to Cost of Goods Sold, this ratio also looks at how selling and
administrative expenses, interest expense and income tax expense influence
performance.
 Returns
1. Return on Sales (ROS)
2. Return on Assets (ROA)
3. Return on Equity (ROE)
4. DuPont Formula
Profitability Ratios
Return on Sales (ROS)
Return on Sales = Net Income Available to Common Stockholders
Net Sales
Return on Sales = 64,800*
522,000
= 12.41%

*NI available to common stockholder’s

= Net Income – Preferred Dividends
= 67,680 – 2,880
= 64,800

ROS is a ratio used to evaluate a company’s operational efficiency. This measure

provides insight into how much profit is being produced per peso of sales.
Profitability Ratios
Return on Assets (ROA)
Return on Assets = Net Income Available to Common Stockholders
Average Total Assets
Return on Assets = 64,800*
(720,000 + 665,100) / 2
= 9.36%

*NI available to common stockholder’s

= Net Income – Preferred Dividends
= 67,680 – 2,880
= 64,800

ROA answers the question how much income was “returned” in the usage of
assets to generate profit? The higher the returns, the better.
Profitability Ratios
DuPont Formula
Return on Assets = Nics x Net Sales
Net Sales Average Total Assets

ROA = ROS x TATO

ROA = 12.41% * 0.7537

= 9.35%

If there are no preferred stocks,

ROA = Profit Margin x Total Asset Turnover
ROA = PM x TATO
Profitability Ratios
Return on Equity (ROE)
Return on Equity = Net Income Available to Common Stockholders
Average Stockholder’s Equity

Return on Equity = 64,800

(384,000 + 340,800) / 2
= 17.88%

This measure indicates how well the company used the owner’s investments to
earn income.
Profitability Ratios
DuPont Formula
Return on Equity = NIcs = NIcs x net Sales x TA ave
TE Ave Net Sales TA ave TE ave

ROE = ROS x TATO x EM

ROE = 12.41% * 0.7537 * 1.911

= 17.87%

If there are no preferred stocks,

ROE = Profit Margin x Total Asset Turnover x Equity Multiplier
ROE = PM x TATO x EM
Profitability Ratios
Return on Assets (ROA)
Return on Assets = Net Income + (Interest Expense x (1 – Tax Rate)
Average Total Assets
Return on Assets = 67,680 x [24,180 x (1-0.25)]
(720,000 + 665,100) / 2
= 12.39%

Adding interest expense back to net income enables the return on assets to be
compared for companies with different amounts of debt or over time for a single
company that has changed its mix of debt and equity.
 Per Share
1. Earnings per Share (EPS)
2. Dividends per Share (DPS)
3. Dividend Payout Ratio (DPOR
Profitability Ratios
Earnings Per Share (EPS)
Earnings per Share = NIcs
Average Number of
Common Shares Outstanding

EPS = 64,800
(15,000 + 14,400) /2
= P4.41

Earnings form the basis for dividend payments and future increases in the value of
shares of stocks. EPS indicates how much income was earned for each share of
common stock outstanding.
Profitability Ratios
Dividends per Share (DPS)

Dividends per Share = Dividends to Common Stockholders

Average Number of
Common Shares Outstanding

DPS = 28,800
(15,000 + 14,400) /2
= P 1.96

This measure indicates how much income was/will be distributed for each share of
common stock outstanding.
Profitability Ratios
Dividend Payout Ratio (DPOR)
Also called Dividend Retention Ratio

Dividends Payout Ratio = Dividends per Share

Earnings per Share

DPOR = P1.96
P4.41
= 44.44%

This ratio gauges the portion of current earnings being paid out in dividends.
Investors seeking dividends (market price growth) would like this ratio to be large.
Compute and interpret financial ratios
that managers use to assess market
performance.
Market Ratios
Market ratios are used to evaluate the current share price of a publicly-
held company's stock. These ratios are employed by current and
potential investors to determine whether a company's shares are
overpriced or underpriced.

1. Price-Earnings Ratio (PER)

2. Market Book Ratio (MBR)
3. Dividend Yield Ratio
Market Ratios
Price-Earnings Ratio (PER)

Price Earnings Ratio = Market Price per Share

Earnings per Share

PER = P20.00
P4.41
= P4.54

A higher price-earnings per ratio means that investors are willing to pay a premium
for a company’s stock because of optimistic future growth prospects.
Market Ratios
Market Book Ratio (MBR)
Also called Price to Book Ratio

Market Book Ratio = Market Price per Share

Book Value per Share

MBR = P20.00
P25.60
= P0.78125

The price-to-book (P/B) ratio has been favored by value investors for decades and
is widely used by market analysts. Traditionally, any value under 1.0 is considered
a good P/B value, indicating a potentially undervalued stock. However, value
investors often consider stocks with a P/B value under 3.0
Market Ratios
Book Value per Share

Book Value per Share = Common Stock + APIC + RE

No. of Common Shares Outstanding

Book Value per Share = P384,000

15,000
= P25.60

This ratio measures the amount that would be distributed to holders of each
share of common stock if all assets were sold at their balance sheet carrying
amounts after all creditors are paid off.

Notice that the book value per share of P25.60 does not equal the market value of
P20. This is because the market price reflects expectations about future earnings
and dividends, whereas book value per share is based on historical cost.
Market Ratios
Dividend Yield Ratio (DYR)

Dividend Yield Ratio = Dividends per Share

Market Price per Share

Dividend Yield Ratio = P1.96

P20.00
= 9.8%

This ratio identifies the return, the terms of cash dividends, on the current market
price of the stock.
 End of Financial Statement Analysis

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