10/23/2013

Content
I. Introduction to corporate finance

CHAPTER 5

II. Financial statements III. Financial analysis

CORPORATE FINANCE

23/10/2013

I. INTRODUCTION TO CORPORATE FINANCE

I. INTRODUCTION TO CORPORATE FINANCE

Finance is the study of how to allocate scarce resources over time (Bodie and Robert C. Merton, Finance) Mobilizing Acquiring
monetary funds

Using Investing

$$

Allocating
23/10/2013 3

3 key financial management decisions: What long-term investment should the firm take on? Capital budgeting Where will the firm get long-term financing to pay for the investments? Capital structure How will the firm manage its everyday financial activities? => Working capital management
23/10/2013 4

Working capital management

Managing the firms short-term assets and short-term liabilities Net working capital = current assets current liabilities

I. INTRODUCTION TO CORPORATE FINANCE

3 types of activities Operating activities: involve business activities Investing activities: involve financial investments purchasing and selling fixed assets Financing activities: involve acquiring funds activities

23/10/2013

23/10/2013

10/23/2013

I. INTRODUCTION TO CORPORATE FINANCE

Firms operations Assets Investors Financial assets

Financial manager

Goal of financial management: Maximize the wealth of current shareholders (maximize the current value per share) Other goals: Maximize profit Minimize cost Maintain steady growth Avoid bankruptcy

(1) Cash raised by selling financial assets to investors (2) Cash invested in the firms operations (3) Cash generated by the firms operations (4a) Cash reinvested (4b) Cash returned to investors

23/10/2013

23/10/2013

II. FINANCIAL STATEMENTS

1. Balance sheet assets and liabilities management 2. Income statement 3. Cash flows statement 4. Notes to financial statements

Functions of financial statements

Provide information to stakeholders of the firm about the companys current status and past financial performance. Provide a convenient way for owners and creditors to set performance targets and to impose restrictions on the managers of the firm. Provide convenient templates for financial planning

23/10/2013

23/10/2013

10

1. Balance sheet
Balance sheet is the financial statement that shows the firms assets (the uses of the funds raise/ what it owns) and liabilities (the sources of funds/ what it owes) at a particular time (at a point of time). The assets the liabilities = net worth/ owners equity (for a corporation, - stockholders equity)

1. Balance sheet
ASSETS LIABILITIES & OWNERS EQUITY

CURRENT LIABILITIES CURRENT ASSETS

LONG-TERM LIABILITIES LONG-TERM ASSETS (NON-CURRENT ASSETS)

OWNERS EQUITY
12

23/10/2013

11

23/10/2013

10/23/2013

Current
Liabilities

Long-term

23/10/2013

13

23/10/2013

14

Market values and book values

2. Income statement
Income statement is the financial statement that summarizes the profitability of the firm over a period of time (it is usually a year) It shows the revenues, expenses and net income of a firm during the past period. Based on accrual accounting methods

23/10/2013

15

23/10/2013

16

2. Income statement
Sales Less deduction Net sales Costs of good sold Gross profit Operating expenses Operating income (earnings before interest and taxes - EBIT) Interest Other income (- loss) net Earnings before taxes (EBT) Taxes Net income

3. Cash flows statement

Cash flows statement is a financial statement that shows all the cash that flowed into and out of the firm during a period of time. Based on inflows and outflows Cash flows from operations (CFO) Cash flows from investments (CFI) Cash flows from financing activities (CFF)
23/10/2013 18

10/23/2013

23/10/2013

19

23/10/2013

20

4. Notes to financial statements

Providing: An explanation of accounting methods used. Greater detail regarding certain assets or liabilities. Information regarding the equity structure of the firm. Documentation of changes in operations. Off-balance-sheet items.
23/10/2013 21 23/10/2013

III. FINANCIAL ANALYSIS

In analysing a firms performance using its financial

statements, it is useful to apply some financial analysing approaches: Cross- sectional: Comparison against peers Time- series: Comparison against self over time Common- size (vertical) analysis Trend (horizontal) analysis Financial ratios: allow comparison between different size firms on a common basis

22

Financial ratios
To measure the outcome of these analyses, you need to compare: Against self (time- series, vertical, horizontal) and Against peers/industry/market (cross- sectional, ratio) For the best result, these approaches usually be applied simultaneously. Profitability ratios Debt (Financial leverage) ratios Liquidity ratios Asset turnover (Efficiency/Activity) ratios Market value ratios

23/10/2013

23

23/10/2013

24

10/23/2013

Profitability ratios
Return on sales (ROS): measures the return earned on the sales of the firm. Return on Assets (ROA): measures the overall effectiveness of management in generating profits with its available assets.

Financial leverage
Debt ratio: measures the proportion of total assets financed by the firms creditors.

Time interest earned ratio: measures the firms ability to make contractual interest payments.

Return on equity (ROE): measures the return earned on the ordinary shareholders investment in the firm.

23/10/2013

25

23/10/2013

26

Liquidity ratios

Asset turnover ratios

Inventory turnover measures the activity (liquidity) of a firms inventory

The speed with which a company turns over its inventory is measured by the number of days that it takes for the goods to be produced and sold.

23/10/2013

27

23/10/2013

28

Asset turnover ratios

Receivables turnover

Market value ratios

PriceEarnings Ratio (price to earnings, P/E, ratio) measures the price that investors are prepared to pay for each dollar of earnings.

measures the ability to use credit sales in generating

revenue

The average collection period measures how quickly customers pay their bills:

Market-to-book Ratio (M/B)

23/10/2013

29

23/10/2013

30