Review Analyzing Financial
Statements

3 methods to analyze financial statements
1. Comparative Analysis
2. Common-Size Analysis
3. Trend Analysis
1. Comparative Analysis

Comparing financial statements for 2
consecutive years (increase/ decrease)
Percentage Change = Difference/ Base Year *100

Refer to Exercise #1 page 266 (t), page 187 (w)
(took up as a class on Friday)
2. Common-Size Analysis

Financial Statements are based on a common
percentage

Income statement: Revenue represents 100%, all
other accounts will be compared to this figure and
analyzed

Balance Sheet: Total Assets represent 100%, the %
of each asset will be compared to Total Assets %.
Total Liabilities & Owner’s Equity will represent
100% and liability and owner’s equity figures will be
compared to Total Liabilities & Owner’s Equity
Common-size Example

Example: Exercise #5 page 268 (t), page 190 (w)
Company A
Company B
Revenue
Sales
$197 000
100 %
$421 000
100 %
$ 40 200
20.4%
$ 80 270
19.1%
3 500
1.8%
27 050
6.4%
Rent Expense
12 000
6.1%
30 000
7.1%
Wages Expense
86 750
44.0%
214 860
51.0%
Other Expenses
1 800
0.91%
10 900
2.6%
Total Expenses
$144 250
73.2%
$363 080
86.2%
$ 52 750
26.8%
$ 57 920
13.8%
Expenses
Automotive Expense
Bank Interest Expense
Net Income
3. Trend Analysis
 Shows financial data (as figures and percentages) over a
number of consecutive periods
 Exercise #2 page 267 (t), page 188 (w)
Year 1
Year 2
Year3
Year 4
Year 5
Sales
$20 700
$22 356
$23 184
$23 805
$24 219
Percent of Year 1
100 %
108 %
112 %
115 %
117 %
Increase in
Percentage
8%
Trend Analysis Example

Example: Exercise #3, page 267 (t), 188
(w)
Year 1
%*
Year 2
%*
Year 3
%*
Year 4
%*
Year 5
%*
Sales
$57 000
100%
$58 254
102.2
$58 767
103.1
$59 223
103.9
$59 451
104.3
Expenses
$35 000
100%
$36 050
103%
$36 575
104.5
$36 785
105.1
$37 520
107.2
Net Income
$22 000
100%
$22 204
100.9
$22 192
100.9
$22 438
102
$21 931
99.7
*% of first year
Key Ratio & Percentage Analysis
November 07, 2011

Now that we have worked with
percentage changes in comparative,
common-size, and trend analysis, let’s
apply these changes as ratios and
percentages that will help to interpret the
financial statements of a business
Define

Solvency:
◦ A company’s ability to pay its debt

Liquidity:
◦ How quickly assets can be converted into
cash
Ratios divided into 2 groups
A.
◦
Liquidity or solvency ratios:
Used to decide how easily a company can
pay its debts
Profitability ratios:
B.
◦
Used to evaluate a company’s ability to ear
profit
Ratio
Formula
Current Ratio or Working
Capital Ratio
Current Assets
Current Liabilities
Ex. 1.5:1
Debt Ratio
40%
Equity Ratio
60%
Total Liabilities
Total Assets * 100
Net Income
Revenue (Sales)* 100
2
to calculate a company’s
ability to pay current debt
for ever $1 of CL, CA
has $1.50 to pay off
 How much of total
assets are financed by
borrowed money?
 How much of total
Total Owner’s Equity
assets are financed by
*100 owner’s investment?
Total Assets
Rate of Return on Sales
Rate of Return on
Owner’s Equity
(Beginning + Ending Capital)
Purpose of Ratio
Net Income
Average O.E * 100
For every $1 sold, how
much profit is made OR
% remaining after
expenses deducted
 Shows how well
company performs using
owner’s investment
(return for owner
investment)
Saturn Sales Company
Ratio
Formula/ Calculations
Comment
Current Ratio
CA = 63 870 = 1.49:1
CL
42 970
Good, for ever $1 of debt,
Saturn has $1.49 to pay =
.49cents of working capital
Debt Ratio
Total L *100 = 108 670 *100
Total A
309 370
= 35 %
Very good, only 35% of
assets are financed by
borrowed money
Equity ratio
Total OE*100 = 200 700 *100
Total A
309 370
= 65 %
65% financed by owner’s
investment
Return on Sales
Net Income*100 = 30 805 *100
Sales
343 342
= 8.97 %
Fair; for every $1 sold,
Saturn earned 9% profit
Return on Owner’s
Equity
Net Income*100
Average OE
= 30 805*100
(100 000 +200700/2)
= 20.49%
Very Good, for ever $1
investment earned 20
cents return on
investment.
Ratio Exercises to be marked
5 page 621-623 (t) on a blank sheet of
paper
 Be sure to include the formula,
numbers used to calculate the ratio,
and a brief explanation of whether the
ratio calculation is poor, fair, good, or very
good
 Part B: Explain which company you would
invest in and why
 Hand-in when completed DUE

When Done complete the
following:
Complete exercises from Friday (back of
Friday’s Handout)
 Exercise 3a&b, 4a,b,c, and 6a&b p. 277-279
(t), p. 194-198 (w)
 Exercise 1,2,3,4 p. 296-299 (t), p. 213-215
(w)
 Review questions #1-5 p. 266 (t), p.186
(w), #8-13 p. 275(t), p.192 (w), #1-14 p.
282 (t), p.198 (w)
