taepren e {.

INVENTORYTURNOVER RATIO
= Cost of Goods Sold times
Inventories
COMMON SIZE FINANCIAL STATEMENT
- standardized version of financial statement in which atl * The firm turned over its inventory 5.36 times
entries are presented in percentages.
per year.

FINANCIAL RATIOS
Days'Sales in Inventory
- provide a second method for standardizing the
= 365 + inventory turnover ratio
financial information in the income statement and
balance sheet. *measures how many times the company turns
)
over its inventory during the year. Shorter
LIOUIDITY RATIOS inventory qycles lead to greater liquidity since
Ho* liquid is the firm? A business is financially liquid the items in inventory are convefted to cash
if it is able to pay its bills on time. more quicklY.
Two ComPlementary PersPectives: x The firm, on average, holds it inventory for
1. Overall or General Firm Liquidity about 68.1 daYs.
- comparing the firm's current assets to the
firm's current liabilities'
CAPITAL STRUCTURE RATIOS (Financial Leverage)
How has the firm financed the purchase of its assets?
.i. CURREW RATFS = Current Assets times
Current Liabilities
+ DEET MTIO =Total Liabilities o/o

x The firr* had 51.53 in currer:t asse8 for evetl TotalAssets

51 iE av*ed itr c*rralt ikbiiiry i* 20fi9-
- Percentage of the firmb assets financed
by bcrrolvrng or debt financing'
+ A{J:swsr{$}re} RATZ3 * The fir:r fnanced 53.Bolo of its assets with
= Current Assets - Invent'ory tirnes debt.

2. Liquidity of Specific Asset Categories

* TTMES INTERESTEARNED RATIO

- timeliness with which the firnr's primary
liquid asse6-aaou*ts receivable a*d inventory
are co*verted iat* ash.
+ A{ERAGE CG{L{€|?*N PERIOD
= Ac*unts Seceivable days
AnnualCredit Sales I 355 daYs
= Accaunts Reeivable days
DailY Credit Sales
= Net Operating Income or EBIT times
Interest Expense
- - ffieasiites the ability of the firm to service
its deH 0r paY interest cn debt.
x Thustte finn cafi PaY its total
interest expe*se 5'67 times or interest
consurned L15.6781 or 17.64a/a of its EBIT. Thus,
even if the EBIT shrinks by 82.360lo (100-17'64),
the firm will be able ts pay its interest expense.

* The firm collects its accounts receivable in ASSET },IANAGEMENT EFFICIENCY RATIOS
How effective a firm's management has been in
21,9 days.
utilizing its assets to generate sales.
T. ACCOUNTS RECIEVABLE TURNOVER RA77O
+
= Annual Credit Sales times
TOTALASSETruRNOVER ffArq RATTO

Aicounts Receivable = Sales times

Total Assets
x The firm's accounts receivable were turning - represents the amount of sales generated
per dollar invested in firm's assets.
over at 16.67 times Per Year.
x Thus the firm generated $1.37 in sales per
xmeasures how many times accounts receivable
dollar of assets in 2009.
are "rolled over" during a Year.

* AVEMGE COLLECTION PENOD

* FIXED ASSETruRNOVER
= Sales times
Net Plant and EquiPment
Accou nts Receiva ble Tu rnover
 - measures firm's efficienry in utilizing its ,
fixed assets (such as property, plant and 3. Reasonable Return on Investment?
equipment).
* RETURN ON EQUITY =Net Income o/o

Common EquitY
x The firm generated $2.03 in sales per dollar (common stock + retained earnings)
invested in plant and equiPment.
- A firm's net income consists of earnings that is
PROBABILIW RATIOS available for distribution to the firm's shareholders.
Has the firm earned adequate returns on investment? Retum on Equity ratio measures the accounting return
on the common stockholders' investment.
xThus the shareholders earned 28.97o/a on their
1. Cost Control
investments.
* GROSS PROFIT MARGIN = Gross Profit o/o

Sales
- Gross profrt margin shows how well the firm's DuPont lvlethod..
management controls its expenses to generate -analpzes the firmt ROE by decomposing it into three
profits parts: profitabitily, efficiency and an equity multiplier.

x The firm sFnt $0.75 for cost of goods sold for Retum on Equrty = Profitability x Efficiency x Equity
each dcllar of sales. Thus, $0.25 out of each dollar Multiplier
of sales goes to gr*ss Profits, = Net Profit x Total Asset x Equity
Margin Turnover MuttiPlier
+ OFERATTN€ PftCffT l'fAgGlf,I = Net income x Sales x 1

= Met Ogeratiffi l*csrle or EBI? ?* Sales TotalAssets 1-Debt Ratio

5el€s
G Ehe equity multiplier eptures the effect of the
- :T?€as{Jres hart'rnuch prcfit is geaemtd frcm eac*? firnt use of the debt fi*anci*g on its return on
dollar of sales after accou*ting for both costs of equity.
goods sold and operating expenses. It thus also
indicates how wellthe firm is managing its income o This effect is commonly referred to as financial
statement. leverage, because debt financing can magnify
the rate of return earned on a firm's common
* Thus ti:e fir:n generat* $0.142 in operating profit equtty much like a lever magnifies the power of
for each doilar *f safes. the per*n that uses it to lift an object,

* N5TPRSE{T = f*etl*ccr*e Yc }IIARKET VALUE R*TIOS

S.l.s How are the firm's shares valued in the stock market?

-measu.es hcw much income is generated from + PNCE-EARNINGS MTIO

each dollar of sales after adjusting for all expenses = Market Price per Share times
(including income taxes). Earnings per Share
(Net income / No. of Shares Outstanding)
x The firm generated $0.076 for each dollar of sales - indicates how much investors have been
after all expenses (including income taxes) were wilting to pay for $1 of reported earnings.
accounted for.
+ MARKET-TO-BOOK RA77O
2. Return on Invested Capital = Market Price per Share times
Book Value per Share
* )PERATING RETURN ON ASSETS (OROA) = Market Share
Price pe.-r times
= Net Ooerating Income or EBIT %o Common I Common
Total Assets Shareholders' Shares
= Cost Control X Asset Utilization Equity Outstanding
= (Operating Profit Margin) (TATO)
Two Types of Peformance Benchmark
- is the summary measure of operating profitability, 1. Trend Analysis
which takes into account both the managemenfs - comparing a firm! recent financial
success in controlling expenses, contributing to profit ratios with its past financial ratios
margins, and its efficient use of assets to generate sales.
 ,,,
2' Peer Firm cofiiruffi:ubject
firm,s financial

firrns,
,,:j:
Limitations of Ratio Analysis
1. Picking an industry benchmark can sometimes
be difficult.
2. Published peer group or industry averages are
not always representative of the firm being
analyzed.
3. An industry average is not necessarily a
desirable target ration or norm.
4. Accounting practices differ widely among firms.
5. Many firms experience seasonal changes in their
operations.
6. Understanding the numbers.
7, The res*lts of a ratlo analysis are no better than
the quality of the fi*ancial statements.