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Dbfi302 - Financial Statement Analysis and Business Valuation
Dbfi302 - Financial Statement Analysis and Business Valuation
Dbfi302 - Financial Statement Analysis and Business Valuation
SEMESTER III
Historical Analysis:
Historical analysis will examine past financial performance to identify trends and patterns.
This approach assumes that historical events will continue in the future. Analysts examine the
income statement, balance sheet, and statement of cash flows to identify and forecast key
drivers of financial performance. However, this approach may not include changes in the
business environment.
Ratio Analysis:
Ratio analysis involves analyzing various financial ratios such as profitability (e.g. return on
equity), net profit (e.g. current ratio) and ratio (e.g. debt/equity). Analysts use these ratios to
evaluate a company's financial health and predict its future performance. Although ratio
analysis provides useful information, it can oversimplify a complex task.
Time series analysis involves examining historical data over time to identify patterns and
trends. Use techniques such as moving averages and exponential smoothing to smooth out
fluctuations and highlight underlying patterns. Time series analysis is useful for capturing
seasonality and cyclicality in financial data.
Regression Analysis:
Regression analysis involves analyzing the relationship between dependent and independent
variables. Analysts use historical data to create regression models that can predict future
outcomes based on variables. This approach is unique in understanding the impact of various
aspects of financial performance.
DCF analysis is a statistical method that estimates the present value of future cash flows.
Analysts estimate free cash flow, use discount rates to reflect the time value of money and
drive positive business results. DCF is widely used in business valuation but requires accurate
financial forecasting and cost estimation.
Scenario Analysis:
Scenario analysis involves analyzing how the company's financial statements will be affected
by different scenarios. Analysts create a variety of scenarios based on different perspectives
to help stakeholders understand possible outcomes. This process is especially useful when
dealing with uncertainty and risk.
Earnings ratios are financial metrics that provide insights into a company's profitability and
its ability to generate earnings relative to various factors. These ratios are crucial for
investors, analysts, and stakeholders seeking to evaluate the financial health and performance
of a business.
EPS is one of the most widely used earnings ratios. It measures the proportion of a company's
income allocated to each share of stock. The formula is simple: Earnings per share = Net
profit / average shares outstanding. Higher EPS means higher earnings per share, which is an
important metric for investors to evaluate a company's profitability.
The P/E Ratio is a measurement that compares a company's current price to its earnings per
share. It is calculated as market value per share/earnings per share. A high P/E ratio may
indicate that investors have high expectations for future earnings growth, while a low P/E
ratio may indicate that the stock is not declining or that expectations are low.
Similar to the P/E ratio, the forward P/E considers estimated future earnings. It divides the
current stock price by the estimated future earnings per share. This ratio provides a forward-
looking perspective on valuation and is particularly useful for investors focused on future
earnings potential.
Price/Sales (P/S) Ratio: The P/S ratio relates a company's market capitalization to its total
revenue, providing an alternative to P/E ratios. It is calculated as Market Price per Share /
Revenue per Share. The P/S ratio helps assess a company's value relative to its revenue
generation, especially when earnings are not a reliable indicator.
Return on Equity (ROE):
ROE measures a company's profitability by assessing its ability to generate a return for
shareholders. It is calculated as Net Income / Average Shareholders' Equity. A high ROE
indicates efficient use of equity capital to generate profits, making it a valuable metric for
evaluating management's performance.
ROA evaluates a company's profitability in relation to its total assets. The formula is Net
Income / Average Total Assets. ROA provides insights into how well a company utilizes its
assets to generate earnings, making it a key indicator for efficiency.
Gross Margin:
Gross margin is a percentage that represents the profitability of a company's core business
activities. It is calculated as (Revenue - Cost of Goods Sold) / Revenue. A higher gross
margin indicates a more profitable core business, while a declining margin may raise
concerns about cost management.
These earnings ratios offer diverse perspectives on a company's financial performance and
valuation.
Companies may use different accounting methods and policies, which leads to differences in
financial statements. Analyzing financial statements reveals financial information and makes
it easier to compare the performance and financial position of different companies in the
same industry.
Revision helps make annual or quarterly data useful. Quarterly comparison for a company.
Adjusting for changes in accounting standards, special items, or other non-events provides a
better view of a company's performance over time.
Identification of Core Business Performance:
Some financial statements may include parts of the company's core businesses that are not
included, such as lost profits or losses on sales. Reengineering helps eliminate these
inefficiencies, uncover key business performance, and provide a more accurate basis for
decision-making.
By adjusting financial information, analysts can better assess the health and stability of the
company. For example, subtracting the impact of financing from reported revenue can help
understand the company's true profitability.
Revised financial statements provide a more reliable basis for financial forecasting and
valuation. Analysts can make more accurate forecasts by focusing on key business activities
and identifying factors that may not appear in published financial statements.
Risk Assessment:
Evaluating the accuracy of financial information is important in evaluating the financial risks
associated with the company. It helps identify potential red flags, anomalies, or unsustainable
financial practices that may not be apparent in the financial statements
Investor Communication:
Investors and stakeholders need openness and transparency in financial reporting. Financial
statements provide greater transparency into the company's financial performance, allowing
for better communication between management and investors.
Regulatory Compliance:
From time to time, regulatory bodies or accounting standards may require changes to
financial statements to ensure compliance and compliance as the model indicates.
Adjustments made to ensure the accuracy of financial information relate to financial
performance.
In short, financial reporting is an important process to increase the reliability and value of
financial information. It helps make informed investment decisions, supports accurate
financial models, and provides greater transparency and comparability in financial reporting.
By understanding the importance of adjustments, stakeholders can better understand financial
statements and gain better insight into the health, finances and operations of the company.
Assignment Set – 2
Answer : -
In mergers and acquisitions (M&A), valuation methods are important in determining the fair
value of the target company. The choice of measurement depends on the nature of the
business, economics and availability of information.
CCA involves comparing the target company with other companies with similar demographic
characteristics. Analysts analyze key financial metrics such as price-to-earnings (P/E),
business value-to-EBITDA (EV/EBITDA) ratios, and other metrics affected. The idea is to
provide various metrics based on the market value of comparable companies and use them for
the company's financial evaluation plan. This method is useful for cost analysis and
evaluation.
Similar to CCA, CTA involves comparing the target company to other companies that are
deemed to have recently merged or acquired. By analyzing similar transactions, analysts can
determine the balance sheet and use this to plan the financial health of the company. This
approach can provide insight into price differences in the M&A market and help evaluate the
fairness of business demands.
DCF is a method used to evaluate the present value of an asset. The financial future of the
company. Analysts estimate future cash flows, use a discount rate (usually a weighted
average of capital), and then discount the cash flows to their present value. DCF is considered
a valuable valuation method because it focuses on the importance of the company's
objectives. However, since it requires consideration of future cash flows and discount rates, it
becomes susceptible to different strategies.
Asset-Based Valuation:
This model values the company based on its assets. It determines the fair market value of a
company's assets and subtracts its debt to determine its value. Asset valuation is especially
important for companies with large assets such as real estate or equipment. However, it will
not affect the full value of assets such as property or assets.
In a merger and acquisition, the acquirer may be willing to pay a premium above the current
market price to gain control of the business. target company. The price paid may be based on
the current market price, the average price of the product over a period of time, or other
measurements. Management cost refers to the additional cost associated with management
and strategic decision-making within the company.
These measures are often used together to triangulate and cross-validate cost estimates of the
company's plans.
Answer : -
A cash statement is a financial statement that shows a company's income and expenses over a
specific period. It is divided into three main sections, each focusing on a different aspect of
the company's revenue. These sections are:
Operating Activities:
The operating activities of the cash statement show the cash flows or usage of the company's
main business activities. It includes cash transactions related to the production and delivery of
goods and services. Key terms in this section generally include the following:
Employee Salaries: Cash payments for wages and other employee-related expenses.
Operating Expenses: Cash payments for other operating expenses, such as utilities and rent.
Determine the cash flow from operating activities by adding the positive and negative cash
flows in this section. It provides insight into the company's ability to generate cash from its
core business activities.
Investing Activities:
The Investing Activities section shows cash flows related to the acquisition and disposal of
long-term assets. These assets include property, plant and equipment, factories, equipment,
investments and other fixed assets.Key transactions in the investing activities section include:
Capital Expenditures (CapEx): Cash payments for the purchase of property, plant, and
equipment.
Proceeds from Asset Sales: Cash received from the sale of long-term assets.
Investment in Securities: Cash payments for the purchase of investments, such as stocks or
bonds.
Cash from Divestitures: Cash received from the sale of investments or other business
segments.
The net cash flow from investing activities provides insights into how a company is
deploying or divesting its capital in long-term assets.
Financing Activities:
The financing activities section focuses on cash transactions with a company's owners and
creditors. It includes activities related to the company's capital structure and changes in its
financing sources. Key components of the financing activities section include:
Issuing or Repurchasing Stock: Cash received or paid for issuing or repurchasing the
company's own stock.
Cash flow from financial performance can provide insight into how the company raises or
repays capital and returns value to shareholders.
The three parts of the cash flow statement are interrelated to provide a comprehensive view
of the company's income. Analysts and investors use financial statements to evaluate a
company's earnings, financial flexibility, and ability to generate cash from operations.
Answer 6: -
To perform an Asset Based Valuation (ABV) of Company A as of March 31, 2022, we will
calculate the net asset value by subtracting the fair market value of liabilities from the fair
market value of assets. Let's use the provided information:
Assets:
Inventories: $23,500
Debtors: $13,000
Creditors: $16,000
This involves subtracting the fair market value of liabilities from the fair market value
of assets.
{ABV} = $0
Fixed Assets (Tangible): These include property, plant, and equipment with a book value of
$41,000. To determine their fair market value, a professional appraisal may be necessary,
considering factors like depreciation, market conditions, and recent transactions for similar
assets.
Inventories (Tangible): The inventory, valued at $23,500, comprises goods ready for sale.
The fair market value can be assessed by considering the current market conditions and
demand for the inventory items.
Cash and Bank Balance (Liquid): Cash and bank balances are valued at $11,500. Their fair
market value is generally close to the book value, assuming that these balances represent
readily accessible funds.
Professional appraisers may be engaged to assess the fair market value of fixed assets and
inventories. This process involves considering the condition of assets, comparable sales, and
market conditions.
3. Identification and Classification of Liabilities:
Equity Share Capital and Preference Share Capital (Equity): These represent the ownership
interest of shareholders, with a total value of $25,000 (Equity) + $11,000 (Preference). These
are not liabilities but are included for the sake of completeness.
Reserves and Surplus (Equity): This represents retained earnings and has a value of $8,000.
Long-term Debt (Liability): The long-term debt is $18,000, representing obligations due
beyond one year.
The calculated Asset Based Value is $0. This implies that, based on the Asset Based
Valuation method using the fair market values of assets and liabilities, the net asset value of
Company A is considered to be zero. This could happen when the fair market value of assets
is equal to the fair market value of liabilities.