Chapter 28

FINANCIAL ANALYSIS

Brealey, Myers, and Allen

Principles of Corporate Finance
11th Edition
McGraw-Hill/Irwin Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved.
FIGURE 28.1 ORGANIZATION CHART FOR FINANCIAL
RATIOS

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TABLE 28.1A HOME DEPOT BALANCE
SHEET, 2010 AND 2011 ($ MILLIONS)
  2011 2010
Assets
Current assets:
Cash and marketable securities 1,987 545
Accounts receivable 1,245 1,085
Inventories 10,325 10,625
Other current assets 963 1,224
Total current assets 14,520 13,479
     
Fixed assets:
Property plant and equipment 38,975 38,385
Less accumulated depreciation 14,527 13,325
Net tangible fixed assets 24,448 25,060
     
Long‐term investments 135 139
Intangible asset (goodwill) 1,120 1,187
Other long‐term assets 295 260
Total assets 40,518 40,125

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TABLE 28.1B HOME DEPOT BALANCE
SHEET, 2010 AND 2011 ($ MILLIONS)

  2011 2010
Liabilities and Shareholders' Equity
Current liabilities:
Debt due for repayment 30 1,042
Accounts payable 8,199 7,903
Other current liabilities 1,147 1,177
Total current liabilities 9,376 10,122
     
Long‐term debt 10,758 8,707
Other long‐term liabilities 2,486 2,407
Total liabilities 22,620 21,236
     
Common stock 87 86
Retained earnings and capital surplus 24,505 21,996
Treasury stock ‐6,694 ‐3,193
Total shareholders' equity 17,898 18,889
Total liabilities and shareholders' equity 40,518 40,125

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28-3 HOME DEPOT’S FINANCIAL STATEMENTS
• Other Data (end of 2011)
• Net working capital = current assets – current
liabilities
= 14,520 – 9,376 = $5,144 million
• EBIT = total revenues – costs – depreciation
= 70,395 – 62,148 – 1,573 = $6,674 million
• 1,537 million shares outstanding
• Stock price = $44.60 per share

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TABLE 28.2 HOME DEPOT INCOME
STATEMENT, 2011 ($ MILLIONS)

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28-4 MEASURING HOME DEPOT’S PERFORMANCE

• Market-to-Book Ratio
• Market value of equity/book value of equity
= $68,550/$17,898 = 3.8
• Market Capitalization
• Number of shares outstanding × share price
= 1,537 × $44.60 = $68,550 million
• Market Value Added
• Market capitalization – book value of equity
= $68,550 – $17,898 = $50,652 million
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TABLE 28.3 STOCK MARKET MEASURES OF
PERFORMANCE, 2011 ($ MILLIONS)

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28-4 MEASURING HOME DEPOT’S PERFORMANCE

• Economic Value Added (EVA)

• Net income minus charge for cost of capital
employed, also called residual income
• Residual Income
• Net dollar return after deducting cost of capital
EVA  residual income
  after - tax interest  net income   cost of capital  capital

 after - tax interest  net income 

EVA    cost of capital   total capital
 total capital 

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28-4 MEASURING HOME DEPOT’S PERFORMANCE

• EVA of Home Depot

 after - tax interest  net income 
EVA    cost of capital   total capital
 total capital 

 (1  .35)  606  3,883 

EVA    .092   27,596
 27,596 
 $1,738 million

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TABLE 28.4 ACCOUNTING MEASURES OF COMPANY
PERFORMANCE, 2011 ($ MILLIONS)

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28-4 MEASURING HOME DEPOT’S PERFORMANCE
• Home Depot Profitability Measurements
after - tax interest  net income
Return on capital =
total capital

=
1  .35  606  3,883  .155
27,596
net income 3,883
Return on equity =   .206
equity 18,889
after - tax interest  net income
Return on assets =
total assets
=
 1 - .35  606  3,883
 .107
40,125
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28-5 MEASURING EFFICIENCY
• Asset Turnover Ratio
sales sales
Asset turnover ratio = or
total assets at start of year average total assets

• Home Depot Asset Turnover

sales 70,395
Asset turnover ratio =   1.75
total assets at start of year 40,125
OR

sales 70,395
Asset turnover ratio =   1.75
average total assets (40,125  40,518) / 2

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28-5 MEASURING EFFICIENCY
cost of goods sold
Inventory turnover ratio =
inventory at start of year

OR
inventory at start of year
Average days in inventory =
cost of goods sold/365

sales
Receivables turnover =
receivables at start of year

OR
receivables at start of year
Average collection period =
average daily sales

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28-6 ANALYZING RETURN ON ASSETS: DUPONT
SYSTEM
• Breakdown of Return on Equity (ROE) and
Return on Assets (ROA) into Component Ratios

net income
Profit margin =
sales

after - tax interest  net income

Operating profit margin =
sales

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28-6 ANALYZING RETURN ON ASSETS: DUPONT
SYSTEM

net income  interest

ROA =
assets

sales net income  interest

ROA = 
assets sales

asset operating profit

turnover margin

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TABLE 28.5 MERGING WITH SUPPLIERS OR
CUSTOMERS

• Merging with suppliers or customers

increases profit margin, reduces asset
turnover

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28-7 MEASURING LEVERAGE

long - term debt

Long - term debt ratio =
long - term debt + equity

long - term debt

Debt equity ratio =
equity

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28-7 MEASURING LEVERAGE

total liabilitie s
Total debt ratio =
total assets

EBIT
Times interest earned =
interest payments

EBIT + depreciation
Cash coverage ratio =
interest payments

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 28-7 MEASURING LEVERAGE

assets sales net income  interest net income

ROE =   
equity assets sales net income  interest

leverage asset operating debt

ratio turnover profit burden
margin

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28-8 MEASURING LIQUIDITY

Net working capital net working capital

=
to total assets ratio total assets

current assets
Current ratio =
current liabilities

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28-8 MEASURING LIQUIDITY

cash + marketable securities + receivables

Quick ratio =
current liabilitie s

cash + marketable securities

Cash ratio =
current liabilitie s

cash + marketable securities + receivables

Interval measure =
average daily expenditur es from operations

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 TABLE 28.7 COMMON-SIZE BALANCE SHEET, U.S.
COMPANIES IN S&P INDEX, 2011
Indus- Chemi- Machin- Pharma- Compu- Soft- Semi- Food
trials Paper Oil cals Metals ery ceuticals ters ware conductors Telecoms Utilities Food retailing
Cash & securities 13 7 7 6 5 16 21 28 30 38 29 2 11 8
Receivables 12 13 14 12 12 17 10 12 13 8 18 5 11 3
Inventories 9 10 7 9 16 15 8 3 0 7 9 2 14 28
Other current
assets 2 4 2 1 3 4 4 5 7 4 4 3 4 3
Total current assets 36 35 30 29 37 52 43 47 51 56 59 12 39 41
Fixed assets 55 72 95 105 68 31 28 14 19 44 25 97 59 71
Depreciation 25 41 36 62 38 16 14 8 11 25 16 31 33 20
Net fixed assets 30 31 58 43 31 15 14 6 8 19 9 66 27 50
Other long-term
assets 34 34 11 27 32 33 43 47 41 24 32 22 34 9
Total assets 100 100 100 100 100 100 100 100 100 100 100 100 100 100
Short-term debt 3 2 2 4 2 4 3 3 3 3 2 4 4 4
Payables 8 9 17 7 8 7 4 9 4 5 7 3 11 17
Other current
liabilities 11 9 7 8 8 13 11 15 21 10 16 5 14 11
Total current
liabilities 21 21 26 19 19 24 18 27 28 18 25 13 28 32
Long-term debt 23 28 12 27 21 17 22 11 10 14 22 32 34 21
Other long-term
liabilities 15 16 18 22 21 11 11 9 12 9 9 27 14 12
Total liabilities 60 66 56 68 61 52 51 47 49 41 57 72 76 65
Stockholders' equity
40 34 44 32 39 48 49 53 51 59 43 28 24 35
Total liabilities and
equity 100 100 100 100 100 100 100 100 100 100 100 100 100 100

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 TABLE 28.8 COMMON-SIZE INCOME STATEMENTS,
U.S. COMPANIES IN S&P INDEX, 2011

Indus- Chem- Machi Pharma- Compu- Soft- Semicon Tele- Utili- Food
trials Paper Oil icals Metals -nery ceuticals ters ware -ductors coms ties Food retailing

100.0 100.0 100.0 100.0

Sales 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0
Costs 77.1 84.5 89.0 79.6 87.7 81.7 66.6 77.8 72.5 71.0 90.5 70.1 84.9 92.1
Depreciation 6.4 4.4 3.6 6.0 3.7 3.2 7.1 3.9 5.9 7.7 4.9 10.2 2.5 2.6
EBIT 16.4 11.1 7.3 14.4 8.6 15.0 26.3 18.3 21.6 21.3 4.6 19.7 12.6 5.2
Interest 2.6 2.0 0.5 1.7 1.4 1.2 1.9 0.9 1.7 1.1 1.2 6.4 1.6 0.8
Other items -0.7 -0.8 0.6 0.9 -0.5 -0.8 -3.2 -0.4 0.8 -2.5 -2.3 0.2 -2.7 -0.3
Pretax income 13.1 8.3 7.4 13.6 6.7 13.0 21.1 17.0 20.7 17.6 1.2 13.5 8.3 4.1
Tax 3.8 2.4 3.1 3.5 2.0 3.1 4.5 4.1 5.2 4.0 0.9 4.1 2.7 1.6
Net income 9.0 5.7 4.2 9.9 4.4 10.0 16.0 12.8 15.5 13.6 0.2 9.0 5.6 2.5

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 TABLE 28.9 MEDIAN FINANCIAL RATIOS, U.S. COMPANIES
IN S&P INDEX, 2011

Semi-
Indust Chem- Mach- Pharma- Compu- Soft- conductors Tele- Utili- Food
-rials Paper Oil icals Metals inery ceuticals ters ware coms ties Food retailing
Return on equity, 13.2
% 14.2 11.6 27.8 9.3 18.6 19.2 14.0 15.1 18.2 6.7 9.9 17.8 18.2
Return on capital,
% 11.8 7.8 11.9 16.0 7.9 14.1 14.4 12.3 15.2 16.0 6.5 7.1 16.8 12.0
Sales-to-assets
ratio 0.7 1.0 1.7 0.8 0.9 0.8 0.6 0.6 0.6 0.7 0.9 0.3 1.3 2.1
Operating profit
margin, % 10.8 6.2 4.0 10.0 5.5 10.6 16.6 12.9 15.5 15.5 4.9 12.9 8.5 3.9
Receivables 14.0
turnover 7.3 7.4 6.3 9.5 4.9 5.7 6.7 5.6 8.9 5.0 7.5 13.4 75.3
35.2
Inventory turnover 11.2 8.8 9.2 7.7 6.2 8.7 29.1 59.5 12.5 10.1 14.3 9.5 8.8
Long-term debt 24.4
ratio, % 36.2 47.2 43.9 36.6 25.2 28.8 18.5 4.6 14.4 21.2 52.2 66.7 38.2
Current ratio 1.5 1.5 1.2 1.6 1.6 2.3 2.1 1.6 2.0 2.9 2.3 0.9 1.1 1.1
Quick ratio 1.0 1.0 0.8 0.9 0.8 1.3 1.6 1.3 1.9 2.5 1.8 0.5 0.7 0.3
Cash ratio 0.4 0.3 0.3 0.4 0.3 0.5 1.0 0.9 1.5 2.1 1.2 0.1 0.3 0.1

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TABLE 28.10A SELECTED FINANCIAL RATIOS, HOME
DEPOT AND LOWE’S, 2011

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TABLE 28.10B SELECTED FINANCIAL RATIOS, HOME
DEPOT AND LOWE’S, 2011

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TABLE 28.10C SELECTED FINANCIAL RATIOS, HOME
DEPOT AND LOWE’S, 2011

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