Huy Viet Hoang (Ph.D.)
School of Accounting, College of Business
University of Economics Ho Chi Minh City
Email: huyhv@ueh.edu.vn
© Huy Viet Hoang
University of Economics Ho Chi Minh City
FINANCIAL STATEMENT
ANALYSIS
OVERVIEW OF
FINANCIAL STATEMENT ANALYSIS
© Huy Viet Hoang
University of Economics Ho Chi Minh City
Chapter I
Chapter 1
• Analysis of business operations (BOA)
• The role of FSA
• FSA techniques
Business analysis
Financial
statement analysis
Analysis methods
Purpose of financial
reports in the capital
market
Objectives of
financial report
analysis
Absolute comparison
General introduction
to business
operations analysis
Standards and
sources of
information used in
the financial analysis
process
Business operations
analysis procedures
• Understanding BOA applications
• Comprehend BOA procedure
• Understanding the connection and role
of BOA steps
Relative comparison
Average comparison
Balanced comparison
Ceteris paribus
method
Horizontal analysis
Common size
analysis
Financial ratio
analysis
© Huy Viet Hoang
University of Economics Ho Chi Minh City
OVERVIEW OF FINANCIAL STATEMENT ANALYSIS (FSA)
Some problems in investment
opportunity selections
Information
asymmetry
Investors value both good
and bad ideas at an average
level à entrepreneurs with
good ideas withdraw from
the market
LEMONS
Conflict of
interests à
Businesses
exaggerate the
value of ideas
Saving holders’
knowledge on
finance and
investment
© Huy Viet Hoang
University of Economics Ho Chi Minh City
THE PURPOSE OF FINANCIAL STATEMENT
ANALYSIS IN THE CAPITAL MARKET (1)
Financial
intermediaries:
Banks, insurance
firms, mutual funds,
…
Information
intermediaries:
Independent
auditors, auditing
firms, …
Intermediaries
FRQ supervision
Financial statement analysis
Regulators: Securities
and Exchange
Commission (SEC) and
the Financial
Accounting Standards
Board (FASB), …
Information analysts:
Independent or
Organizational
analysts, Credit rating
agencies, ...
The purpose of preparing
financial statements
• Summarize the financial performance
and financial position of the reported
company;
• Prepared due to legal requirements
to ensure a certain level of financial
reporting quality (FRQ);
• Providing information to assist
financial intermediaries in assessing
investment opportunities;
• Ensuring financial reporting quality
for individuals and organizations
participating in the capital market.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
THE PURPOSE OF FINANCIAL STATEMENT
ANALYSIS IN THE CAPITAL MARKET (2)
Credit analysis
Firm’s ability to fulfill
financial obligations
Focus on analyzing firm’s
risk
Liquidity
•
Ability to mobilize cash in the
short term.
Solvency
•
Ability to meet long-term
debts’ requirements à capital
structure and profitability
Stock analysis
Understanding stock price
volatility
Technical analysis
Other applications
Strategy planning
Relying on past data to predict future
stock value movements
Corporate restructuring
Fundamental analysis
Financial decision
evaluations
Determining firm value via:
• The macroeconomy
• The firm’s industry
• Internal environment
Intrinsic value vs. Market value
Board of directors’
supervision
© Huy Viet Hoang
University of Economics Ho Chi Minh City
BUSINESS ANALYSIS - OVERVIEW
Business strategy analysis
•
Macroeconomic analysis
• Industry analysis
• Internal analysis
Financial statement
analysis
Financial analysis
•
Accounting analysis
Liquidity, solvency and Asset
Management Efficiency
• Profitability analysis
• Cash flow analysis
• (Bankruptcy) risk analysis
Estimated
cost of
capital
Prospective Analysis
• Forecast
• Valuation
Intrinsic
value
© Huy Viet Hoang
University of Economics Ho Chi Minh City
THE PROCEDURE OF BUSINESS ANALYSIS
Macroenvironment analysis
• Understanding the current macroeconomic conditions
• Common device: PESTLE
Industry analysis
• Grasping the characteristics and forces in the industry
• Common device: Potter’s five forces of competition
Internal and strategic analysis
• Understanding current strengths and weaknesses of the firm via exploring the firm’s resources
and value chain
© Huy Viet Hoang
University of Economics Ho Chi Minh City
BUSINESS STRATEGY ANALYSIS
Evaluate whether a firm’s accounting system accurately reflects the current economic status of
the firm
Transactions
+
Events
Accounting policies
1. Accidental or intentional errors in managers’ estimates
2. Flexibility in accounting choices can help managers manipulate
Accounting
errors
financial statements through earnings management behaviours
3. Arising from the fact that accounting standards do not help
businesses accurately reflect the current economic situation through
financial statements
Accounting
adjustments
Accounting quality
analysis
Evaluate and reduce
financial reporting risk
à
Accounting
adjustments
© Huy Viet Hoang
University of Economics Ho Chi Minh City
ACCOUNTING ANALYSIS
Profitability
Cash flows
Identify
and
evaluate the impact
of profit-generating
factors.
How
businesses
mobilize
and
finance
their
activities.
Liquidity/Solvenc
y & Asset use
efficiency
Liquidity analysis
Solvency analysis
Bankruptcy risk
The ability to fulfill
the
business's
obligations
to
related parties.
Asset use efficiency
Potential causes of
changes in profits
and sustainability of
profits.
Often related to
credit
analysis,
bankruptcy
risk
analysis and cost of
capital.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
FINANCIAL ANALYSIS
Accounting analysis
Financial analysis
PROSPECT ANALYSIS
Forecast
For managers: To make business plans and propose
operational targets.
For analysts: A means of conveying the analyst's
views on the future prospects of the firm to capital
market participants.
Valuation
The process of converting forecasts of future
economic benefits into estimates of firm value.
To perform a valuation, it is necessary to select a
valuation model and estimate the business's cost of
capital.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
Business strategy analysis
Past and present information is
only meaningful if it can be used
for future decisions
Evaluate past performance and current
financial status
Risk - Expected Return
Past indicators can be analyzed and used as benchmarks
for future results.
Example: Assets, liabilities, cash, accounts payable,
inventory, debt structure, equity capital, etc.
Investors in small enterprises
demand higher expected
returns.
Evaluate future potential and related risks
Creditors of small firms
require higher interest rates
and more rigorous solvency
and collateral conditions.
• The more predictable the potential, the less risk
involved.
• Forecasting the potential of large enterprises is more
stable compared to small enterprises.
Risk premium
© Huy Viet Hoang
University of Economics Ho Chi Minh City
FINANCIAL STATEMENT ANALYSIS GOALS
Practical measures
Performance benchmarks of a firm are based
on real-world experience, not theory.
There is no evidence that practical
measures are the best for every
company.
Company’s past performance
Evaluating whether the current financial
performance has improved or deteriorated
compared to the past
Indicate future trends.
Industry standards
Comparing a company's financial results with
other companies’ in the same industry or the
industry average.
Future financial performance is not
entirely a repeat of past financial
performance.
• Not all companies within the same
industry can be compared.
• Most large companies operate in
multiple industries.
• Different accounting methods.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
COMPARATIVE STANDARDS IN FINANCIAL
STATEMENT ANALYSIS
Issued corporate reports
• Example: (1) Annual performance analysis of managers, (2) Financial statements, (3) Notes to
the financial statements, (4) Audit reports, and (5) Summaries of business activities over 5 or
10 years, etc.
Reports to the State Securities Commission
• Annual reports, quarterly reports (current financial status), and abnormal reports (indicators of
significant changes) for publicly listed companies on the stock exchange.
Business magazines and credit/investment advisory services
• Capturing information about the financial market, the industry, as well as relevant data.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
SOURCED OF INFORMATION USED
1. Selection of comparative standards
2. Conditions for comparison
3. Comparison techniques
Absolute
comparison
Comparison of
absolute
numbers across
different time
periods and
locations.
Relative values
to plan
completion
ratio
Relative
comparison
Relative values
to adjusted plan
completion
ratio
Structural
relative values
Average
comparison
Dynamic
relative values
© Huy Viet Hoang
University of Economics Ho Chi Minh City
METHOD OF ANALYSIS - COMPARISON
Analysis number
Plan completion ratio =
×100%
Original number
Analysis number − Original number
Difference ratio =
×100%
Original number
Relative value to
plan completion
Example: If the planned revenue is 120 million, and the actual revenue is 150
million?
Relative value
to adjusted plan
completion
Adjusted plan completion ratio =
Analysis number
×100%
Original number×Adjustment factor
Relative Aluctuation level = Analysis number − (Original number×Adjustment factor)
Variable
(in billions)
Actual
Plan
Salary/Wage
55
Revenue
600
Difference
Amount
%
50
+5
+10
500
+100
+20
© Huy Viet Hoang
University of Economics Ho Chi Minh City
RELATIVE COMPARISON (1)
Structural
relative
values
Structure reflects the proportion of each component within a
population or the relationship between components within a
population.
à showing the difference in the proportion of each component within
the population between the analysis period and the base period of the
analyzing item.
Actual
Indicator
Planned
Quantity
Proportion
Quantity
Proportion
Total employee
1.200
100%
1.000
100%
Worker
1.020
85%
900
90%
Supervisor
180
15%
100
10%
© Huy Viet Hoang
University of Economics Ho Chi Minh City
RELATIVE COMPARISON (3)
Comparison of analysis period items with base period items
Dynamic relative
values
Fixed base period relative numbers: Indicates the growth of economic
indicators over a long period.
Rolling base period relative numbers: Indicates the growth of economic
indicators over two consecutive periods.
Indicator
Năm t
Năm t+1
Năm t+2
Năm t+3
Revenue (billion VND)
1.000
1.350
1.620
1.782
Fixed base
100%
135%
162%
178%
135%
120%
110%
Rolling base
Simple average
AVERAGE COMPARISON
Weighted average
© Huy Viet Hoang
University of Economics Ho Chi Minh City
RELATIVE COMPARISON (4)
The balancing method is frequently used in business planning/analysis and financial
reporting analysis to study the balanced quantitative relationships between various factors
in the production and business process.
Example: Financial Report as of 31/12/20xx (Unit: billion VND)
Asset
Current assets
End of Year
Beginning of
Difference
Year
430
400
30
Cash and cash equivalents
60
50
10
Account receivable
120
100
20
Inventory
250
250
0
670
600
70
PP&E
600
500
100
Marketable securities
70
100
-30
1.100
1.000
100
Long-term assets
Total assets
Liabilities and Equity
Liabilities
End of
Year
Beginning of
Difference
Year
330
300
30
Short-term debt
80
100
-20
Long-term debt
250
200
50
0
Equity
770
700
70
Owners’ equity
600
550
50
Retained earnings
170
150
20
1.100
1.000
100
Total Liabilities and Equity
© Huy Viet Hoang
University of Economics Ho Chi Minh City
BALANCED COMPARISON METHOD
This method is used to determine the impact of component factors on the fluctuation of the
analysis item. This is a basic method widely used in analysis. To implement this method, the
following principles should be followed:
• Establish the mathematical relationship of the factors with the analysis item in a specific order,
from quantitative factors to qualitative factors.
• Determine the impact of any factor by: Substituting the component factor in the analysis period
into the base period while keeping other factors constant à Recalculating the analysis item à
Comparing the result with the result from the previous step; this difference represents the impact
of the substituted factor. The substitutions are done sequentially for all factors.
• The sum of the impacts of the component factors must equal the difference in the parent item
between the analysis period and the base period.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
CETERIS PARIBUS METHOD (1)
Change in Value of X:
ΔX= X1 – X0 = a1 × b1 × c1 × d1 – a0 × b0 × c0 × d0
The change in value of X determined by the change in
The change in value of X determined by the change
value of a:
in value of c:
ΔXa = a1 × b0 × c0 × d0 – a0 × b0 × c0 × d0
ΔXc = a1 × b1 × c1 × d0 – a1 × b1 × c0 × d0
The change in value of X determined by the change in
The change in value of X determined by the change
value of b:
in value of d:
ΔXb = a1 × b1 × c0 × d0 – a1 × b0 × c0 × d0
ΔXd = a1 × b1 × c1 × d1 – a1 × b1 × c1 × d0
ΔX = ΔXa + ΔXb + ΔXc + ΔXd
© Huy Viet Hoang
University of Economics Ho Chi Minh City
CETERIS PARIBUS METHOD (2)
Financial information of a company as follows (unit: billion VND)
Indicator
Year t+1
Year t
Net sales
10,000
8,000
Net income
2,400
1,600
Average total assets
40,000
20,000
Equity
16,000
16,000
Requirement:
Analyze the impact of factors on the increase (decrease) of Return on Equity (ROE) over the two
years t and t+1.
Guidance:
Determine the economic equation and the factors affecting the Return on Equity (ROE).
ROE = Return on Sales × Asset Turnover × Adjusted Financial Leverage
ROE =
Net income
Net sales
Average total assets
×
×
Net sales
Average total assets
Average equity
© Huy Viet Hoang
University of Economics Ho Chi Minh City
CETERIS PARIBUS METHOD – EXAMPLE (1)
Usually performed by analyzing year-over-year changes for
each item on the financial statements.
Absolute 𝑐hange = Amount This Year − Amount Last Year
Percentage change =
!"#$%& ()*+ ,-./ 0 !"#$%& 1.+& ,-./
!"#$%& 1.+& ,-./
Note: Exercise caution in analysis when encountering the following cases:
•
The value of an item is negative in the base year but positive in the following year.
•
The value of an item in the base year is zero or very close to zero.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
HORIZONTAL ANALYSIS
×100%
Compare the proportions and structure of items on financial statements (i) across years or (ii)
with competitors and industry averages.
Selecting an item representing the threshold
100% in financial reports
VD: For the income statement, net revenue usually
= 100%. For the balance sheet, total assets = 100%.
The remaining items in the financial reports
are expressed as percentages of the
predetermined 100%.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
COMMON SIZE ANALYSIS (1)
© Huy Viet Hoang
University of Economics Ho Chi Minh City
COMMON SIZE ANALYSIS (2)
Important relationships in
financial statements
Financial statement analysis
Accounting quality
Internal Factors of the Business
Economic Events
Industry Factors
Management and Accounting Policies
Notes
• Changes in one factor within a ratio can lead to changes in other factors within the same ratio
(interrelation).
• Ratios should be compared with previous periods’ ratios, predetermined ratios, competitors' ratios, or
industry averages.
© Huy Viet Hoang
University of Economics Ho Chi Minh City
FINANCIAL RATIO ANALYSIS