Professional Documents
Culture Documents
Financial statements are like fine perfume; to be sniffed but not swallowed Abraham Brilloff
Learn to read and interpret financial statements Learn about cash operating cycle Calculate financial ratios Understand what budgets are and how the budgeting process works Prepare different types of budgets Decide on the companys financing options Analyse the risk of an investment Evaluating a business
Course Structure
Finance
Investment
Cash
Production
Cash sales
Fixed assets
Accounts receivable
Depreciation
Inventory
Credit sales
A balance sheet is based upon the basic accounting equation of: Assets = Liabilities + Shareholders equity
Liability
The money put into a business by its owners is capital. Capital is money owned to the shareholders by the business
LIABILITIES
Accounts Payable Loans 100
+ EQUITY
Owners equity 150
LIABILITIES
Accounts Payable Loans 100
+ EQUITY
Owners equity 400
Other expenses
Depreciation Interest payment Ending Balance 31/12/10
(10)
(15) (10) 30 800 110 45
200
(210)
(15) (10)
570
100
315
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16
Current Liabilities - Debts or obligation that will become due over the next 12 months. Examples:
Accounts Payable or creditors (e.g. suppliers, employees) Current tax Overdraft (short term credit from banks) Accrued expenses Current portion of long term debt ( the portion of loan or other debts that become due within one year) Provisions
Long Term Liabilities - Debt or obligations that become due in more than one year from the BS date. Examples: Bank loan (long term portion) Finance Lease (long term portion) Provisions
Comprises: Revenues (Sales) Cost of sales Gross Profit Operating expenses Operating income Other expenses Other non operating Income Income before tax Tax Net Income (Profit)
Selling and distribution expenses = Costs directly attributable to the selling and delivering goods to customers.
General and administration expenses = Expenses of providing management and administration for the business.
Salaries of office staff (corporate function such as HR, Finance) Rent, utilities Printing, stationery
Depreciation:
Total cost of an long term assetmust be spread over the assets expected useful life Charging the full cost of a long-term asset to one yera distors reported income. Example: suppose in 2002 a company buys a facility expected to be in use for 12 years, for 10 mil EUR. If the entire cost is assign to 2002,income in 2002 will apear depressed, while income in the following years will look too high.
Net income (profit) Net profit earned by a company during accounting period Two choices: paid out as dividend or retained into the business in the form of retained earning for investments. Net profit less dividend paid is transferred to Balance Sheet, as
Retained earning
TOTAL
Other raw material / Prod. cost Total Production Contribution Editorial Advertisement Departement Distribution Departement Marketing Departement
- Personal Costs - Other Costs - Promotion extern - Promotion barter
Publishing Departement
- Other Costs - Depreciation
4.731.069
1.855.069 2.876.000
Total direct Costs Oparational Profit Administration (Finance, HR, IT) Total indirect Costs Profit / Loss
Expands and rearranges the sources into 3 categories: Cash Flow from operating activities result of the principal activity of a company Cash Flow from investing activities - Acquisition or disposal of assets or investment in other companies Cash Flow from financing activities - Receipt/repayment to external providers of finance (loan, leases)
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25
Adjustments (Add/subtract):
+ Depreciation (non cash item) + Loss on disposal (non cash item) - Increase in inventory (cash spent on buying inventory) - Increase in receivable (debtors have not paid) - Decrease in payables ( cash paid)
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Return on Equity (ROE) = Shareholders Equity It measures the efficiency with wich a company employs owners capital Indicates the annual % return on each $ of owner's equity invested in the company
Rewrite:
Net income
ROE= Sales
1
Sales
x Assets
2
Assets
x Shareholders Equity
3
Debriefing: management has only 3 levers for controlling ROE 1. Earnings squeezed out of each dollar of sale = proffit margin 2. Sales generated from assets employed = asset turnover 3. Amount of equity used to finance the assets = financial leverage
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Capital employed
Capital employed = Long term liabilities + Shareholder's equity. Annual return on each $ invested in the company by shareholders and debtors How well a company is using the capital to generate revenues.
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Net Profit margin (%) = Sales The proportion of each $ of sale the firm retains as profit after all expenses including taxes
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Current Assets Current ratio = Current Liabilities A company with a low current ratio lacks liquidity and canot reduce its current assets for cash to meet its obligation. It must rely instead on operating income and outside financing.
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Long collection period may indicate problems with credit quality or credit granting procedures.
Inventory x 365 Cost of sales
Inventory days =
Shows how long the company hold inventory in stock before selling Trade payables = Purchases x 365
Generally, the higher the better, but an increase may be a sign of lack of long term finance or poor management of current assets
35
Companies requiring large investments in long term assets are said to be capital intensive. Fixed assets turnover is a measurement of capital intensity Indicates the number of $ of sales generated per $ of fixed assets High ratio is usually preferred to a low ratio, but may indicate obsolete fixed assets Ratio should be compared with the industry average
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Interest paid
Indicates whether a company is earning enough profits to pay its interest More specific, Interest cover shows how many times over the company earned its interest obligations
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BUDGETING
What is a budget?
A budget is the financial action plan for an organization. It translates strategic plans into measurable expenditures and anticipated returns over a certain period of time. Budgeting includes: Forecasting future business results, such as sales volume, revenues, capital investments, and expenses Reconciling those forecasts to organizational goals and financial constraints Obtaining organizational support for the proposed budget Managing subsequent business activities to achieve budgeted results
BUDGETING PROCESS
STEP 1: Setting goals. Some organizations mandate company wide goals such as "increase net profits by 10% during the next year." Individual departments then translate these directives into financial goals that are relevant for their particular activities. STRP 2: Evaluating and choosing options. A variety of tactics may be used to meet a specific goal. To boost sales, for example, a company might change its pricing, increase advertising, add sales people, or utilize new distribution channels. STEP 3: Identifying budget impacts. Decisions about strategic goals and tactics are used to develop assumptions about future costs and revenues (See example bellow)
Goal Become the most reliable newspaper on the market Increase revenues by 10% Options Hire the best journalists on the market Conduct social snd media campaigns Raise prices Expand marketing Budget Impacts Higher labor and training costs Increased spending in marketing Lower sales volume, higher gross margin Increased sales, higher marketing costs, increased production costs
BUDGETING PROCESS
STEP 4: Coordinating departmental budgets. Individual unit and division budgets are combined into a single master budget that expresses the organizations overall financial objectives and strategic goals. To achieve this end, communication is essential. Senior managers need to communicate the companys strategic objectives to all levels of the organization, and the different groups within the company need to communicate with each other. For example, consider an organization that has a strategic goal of increasing revenues by 10% over the next fiscal year. One of the ways in which the company plans to achieve this goal is to enter new markets. Entering new markets will impact many unitsspecifically marketing, sales, product development, research and development, and so forth.
TYPES OF BUDGETS
1. Operating budgets reflect day-to-day expenses and depreciation. They typically cover a one-year period.
2. Capital budgets outline planned outlays for investments in plant, equipment, and product development. Capital budgets may cover periods of three, five, or ten years.
3. Cash budgets plot the expected cash balances the organization will experience during the forecast period, based on information provided in operating and capital budgets. Cash budgets are prepared by the finance department and are critical to ensuring that the company has sufficient liquidity (cash and credit) available to meet expected cash disbursements.
What longer-term initiatives need to be considered in order to position the company for the future?
Obs: Typically, it will be necessary to rework the first draft of an operating budget in order to bring the budgeted results into line with goals and constraints. Practical, a budget is an extension of a P&L, with a forecast on 3-5 years
3.
PV =
(1+r)t
Exercice: you are recommended to invest in a magazine 85.000 EUR. You are certain thet the next year the magazine will worth 91.000 EUR. Given the discount rate of 10%, should you undertake this investment?
t=1
Ct
Ct
(1+rt)t
EXERCICE What is the NPV of following cash flow stream if the discount rate is 6% and the cash outlay is 5600 EUR?
Y1: Y2: Y3: 2000 EUR 4000 EUR 6000 EUR
Portfolio:
Stand and umbrela shop
Sun
Rain
0.5
0.5
15%
15%
7.5%
7.5% 15%
Investing in the ice cream stand isrisky, since the investor stands to make 60% return if it is sunny, but lose 20% if it rains Investing in the umbrella shop is also risky, investor loosing 30% if tomorrow is sunny but make 50% if it rains Despite that these 2 investments are risky viewed isolated, they are not risky as part of a portfolio. Regardless of the weather tomorrow, the outcome is a certain 15%
2.
3.
Out of the 5 variables tested, the NPV is most sensitive to changes in the projected profit margin and sales growth rate. This suggests that management would be smart to pay special attention to their estimates of these 2 variables, and once the investment is undertaken, to manage these quantities closely.
Valuating a Business
First setp in valuating a business is to decide what is to be valuated: 1. Do we want to valuate the companys assets or its equity?
2.
3.
Most acquisition involving companies of any size are structured as an equity purchase. However, never lose sight of the fact that the true cost is the cost of equity + value of liabilities
Liquidation value is the cash generated by terminating the business and selling its assets individually
Going-Concern value is the present worth of expected future cash flows generated by a business
2.
When a company is publicly listed, it is a simple matter to calculate its market value
Fair market value FMV of firm = PV{expected cash flows to owners and creditors} Maximum price one should pay for a business = present value of expected future cash flows to capital suppliers discounted at an risk adjusted discount rate; discounted rate should be target companys weighted average cost per capital
Therefore, in order to value a companys equity, we need to estimate firm value and subtract debt.
Market value and book value of debt are usually the same an can be taken from the balance sheet
10 x multiple of EBITDA
Today, multiple of EBITDA decreased. The highest multiple is at internet companies. Please check on Yahoo finance for Yahoo, Google.