FSA

BY MHM
EMC, BBA 3rd year
Financial Analysis Techniques

The tools and techniques used in financial analysis, including their uses and limitations
are called the Financial Analysis Techniques.
The Financial Analysis Process

■ Articulate the purpose and context of the analysis.

■ Collect input data.
■ Process data
■ Analyze/interpret the processed data.
■ Develop and Communicate conclusions and recommendations (E.g. with an analysis
report)
■ Follow-up
Analytical Tools and Techniques

■ Comperative financial statement

■ Common size financial statement
■ Ratio analysis
■ Cash flow analysis
■ Fund flow analysis
■ Trend percentage
Common Ratios:

■ Activity Ratios measures how efficiently a company performs day to day tasks.
■ Liquidity Ratios measures the company’s ability to meet its short term obligations.
■ Solvency Ratios measures a company’s ability to meet long term obligations.
■ Profitanility Ratios measures the ability to generate profits.
■ Valuation Ratios measures the quantity of an asset or flow.
Equity Analysis

■ One application of financial analysis is to select securities as part of the equity

portfolio management process. Analysts are interested in valuing a security to
assess its merits for inclusion or retention in a portfolio. The process has several
steps, including:
■ Understanding the business and the existing financial profile
■ Forecasting company performance
■ Selecting the appropriate valuation model
■ Converting forecasts to a valuation
■ Making the investment decision
Equity Analysis (cont)

■ Analyst use a variety of methods to value a companies equity, includimg valuation

ratios e.g., P/E ratio, Discounted Cash Flow Approaches, and Residual Income
Approaches (ROE compared with the cost of Capital)
■ P/E: Price to earning per share
■ P/CF: Price to Cash flow per share
■ P/S: Price to Sales per share
■ P/BV: Price to Book Value per share
■ Dividend Payout Ratio
■ Retention Ratio (1- Payout ratio)
Credit Analysis

■ Credit Analysis is the evaluation of credit risk. Credit risk is the risk of loss caused by
a counterparty’s or debtor’s failure to make a promised payment.
■ Two main approaches are
– Credit scoring (A statistical Analysis of the determinants of credit default)
– Credit rating process (used by credit rating agencies to assess and
communicate the probability of default)
Some Credit Ratios

■ EBITDA Interest Coverage ( EBITDA/Interest expense, including non-cash interest on

conventional debt instruments)
Business and Geographic Segments

■ Business segments mean subsidiary companies, operating units, or simply operations in different
geographic areas.
■ For each segment, the following should be disclosed:
– A measure of profit or loss
– Ameasure of total assets and liabilities
– Segment revenue, diatinguishing between revenue to external customers and revenue from
other segments.
– Interest revenue and interest expense
– Depriciation and amortisation expense.
– Other non cash expenses.
– Income tax expense or income
– Share of the net profit or loss of an investment accounted for under the equity method.
Segment Ratios

■ Segment margin= segment profit (loss)/ segment revenue

■ Segment turnover= segment revenue/ segment assets
■ Segment ROA= segment profit (loss)/ segment assets
■ Segment debt ratio= segment liabilities/ segment assets
Model Building and Forecasting

■ Analysts often need to forecast future financial performance.

■ Based upon forecasts of growth and expected relationships among the financial
statement data, the analyst can build a model to forecast future performance.
■ In addition to budgets, pro forma financial statements are widely used in financial
forecasting within companies.
■ Forecasts are not limited to a single point estimate but shouod involve a range of
possibilities.. This can involve several techniques:
– Sensitivity Analysis
– Scenario Analysis
– Simulation