八 Investment Tools: Financial Statement Analysis: Financial Ratios and Earnings per Share
1: Analysis of Financial Statements
a: Calculate, interpret, and discuss the uses of measures of a company's internal liquidity, operating performance, risk profile, growth potential, and external liquidity.
Measures of a company’s internal liquidity
These ratios are the:
1. Current ratio = current assets / current liabilities.
2. Quick ratio = [cash + marketable securities + receivable] / current liabilities.
3. Cash ratio = [cash + marketable securities] / current liabilities.
The current, quick, and cash ratios differ only in the liquidity of the current assets that the analyst projects will be used to pay off the current liabilities. Other ratios ask:
1. Does the company collect its receivables on a timely basis?
a. Receivables turnover = sales / average receivables
b. Average receivables collection period = 365 / receivables turnover
2. How fast does the company move its inventory through the system?
a. Inventory turnover = cost of goods sold / average inventory
b. Average inventory processing period = 365 / inventory turnover
3. Does the companypay its current bills?
a. Payables turnover = cost of goods sold / average accounts payable
b. Average payment period = 365 / payables turnover
The cash cycleis the time period that exists from when the firm pays out money for the purchase of raw materials to when it gets the money back from the purchasers of the firm’s finished goods.
Cash conversion cycle = collection period + inventory period - payment period.
Example: Receivables turnover = 9, days receivables out (collection period) = 41 days, inventory turnover = 6, days inventory in stock (inventory period) = 61 days, payables turnover = 11, and days payables out (payment period) = 33 days. Cash conversion cycle = 41 days + 61 days - 33 days