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Releasing Financial Information McGraw-Hill/Irwin Preliminary Press Releases Quarterly and Annual Reports Securities and Exchange Commission (SEC) Filings Investor Information Websites Slide 1 Horizontal (Trend) Analysis Horizontal analysis compares a company’s financial condition and performance over time. A year-over-year percentage change expresses the current year’s dollar change as a percentage of the prior year’s total using this formula. Percent Change McGraw-Hill/Irwin = Current Year’s Total ̶ Prior Year’s Total × 100% Prior Year’s Total Slide 2 Horizontal Analysis of Lowe’s Summarized Balance Sheets LOWE'S Comparative Balance Sheets (in millions) Dollar Percent 2006 2005 Change Change* Assets Current assets: Cash $ 364 $ 423 $ (59) (13.9) Short-term investments 432 453 (21) (4.6) Accounts receivable Inventories 7,144 6,635 509 7.7 Other current assets 374 277 97 35.0 Total current assets 8,314 7,788 526 6.8 Property and equipment, net 18,971 16,354 2,617 16.0 Long-term investments 482 497 (15) (3.0) Total assets $ 27,767 $ 24,639 $ 3,128 12.7 * Percent rounded to first decimal point. McGraw-Hill/Irwin Slide 3 Horizontal Analysis of Lowe’s Summarized Balance Sheets LOWE'S Comparative Balance Sheets (in millions) 2006 2005 Dollar Change Liabilities and Stockholders' Equity Current liabilities $ 6,539 $ 5,832 $ Long-term liabilities 5,503 4,511 Total liabilities 12,042 10,343 Stockholders' equity 15,725 14,296 Total liabilities and stockholders' equity $ 27,767 $ 24,639 $ * Percent rounded to first decimal point. McGraw-Hill/Irwin 707 992 1,699 1,429 3,128 Percent Change* 12.1 22.0 16.4 10.0 12.7 Slide 4 Horizontal Analysis of Lowe’s Summarized Income Statements LOWE'S Comparative Income Statements (in millions) Net sales revenue Cost of revenues Gross profit Operating and other expenses Interest expense Income tax expense Net income 2006 2005 $ 46,927 $ 43,243 30,729 28,453 16,198 14,790 11,046 10,136 154 158 1,893 1,731 $ 3,105 $ 2,765 Earnings per share $ * Percent rounded to first decimal point. McGraw-Hill/Irwin 2.02 $ 1.78 Dollar Percent Change Change* $ 3,684 8.5 2,276 8.0 1,408 9.5 910 9.0 (4) (2.5) 162 9.4 $ 340 12.3 0.24 13.5 Slide 5 Changes Revealed in Trend Analysis Lowe’s grew significantly in 2006. Total assets rose by 12.7 percent Net sales revenues rose by 8.5 percent. Gross profit rose by 9.5 percent Net income rose by 12.3 percent. The growth in net sales revenues more than offset the growth in expenses resulting in net income growth in 2006 that was greater than the net sales revenues growth. McGraw-Hill/Irwin Slide 6 Vertical (Common Size) Analysis Vertical analysis focuses on important relationships within financial statements by expressing each financial statement amount as a percentage of another amount on that statement. Common-size percentages for financial statements are calculated using this formula. Common-size Percent = Analysis Amount Base Amount × 100% The base amount is total assets for the balance sheet and sales revenue for the income statement. McGraw-Hill/Irwin Slide 7 Vertical Analysis of Lowe’s Summarized Balance Sheets LOWE'S Comparative Balance Sheets (in millions) 2006 Amount Percent* Assets Current assets: Cash Short-term investments Inventories Other current assets Property and equipment, net Long-term investments Total assets $ $ Liabilities and Stockholders' Equity Current liabilities $ Long-term liailities Stockholders' equity Total liabilities and stockholders' equity $ * Percent rounded to first decimal point. McGraw-Hill/Irwin 2005 2005 Percent* 364 432 7,144 374 18,971 482 27,767 1.3% $ 1.6% 25.7% 1.3% 68.3% 1.7% 100.0% $ 423 453 6,635 277 16,354 497 24,639 1.7% 1.8% 26.9% 1.1% 66.4% 2.0% 100.0% 6,539 5,503 15,725 27,767 23.5% $ 19.8% 56.6% 100.0% $ 5,832 4,511 14,296 24,639 23.7% 18.3% 58.0% 100.0% Slide 8 Vertical Analysis of Lowe’s Summarized Income Statements LOWE'S Comparative Income Statements (in millions) 2006 2005 Amount Percent Amount Percent Net sales revenue $ 46,927 100.0% $ 43,243 100.0% Cost of revenues 30,729 65.5% 28,453 65.8% Gross profit 16,198 34.5% 14,790 34.2% Operating and other expenses 11,046 23.5% 10,136 23.4% Interest expense 154 0.3% 158 0.4% Income tax expense 1,893 4.0% 1,731 4.0% Net income $ 3,105 6.6% $ 2,765 6.4% * Percent rounded to first decimal point. McGraw-Hill/Irwin Slide 9 Interpreting Common Size Statements Lowe’s total assets grew in 2006 by more than $3,000,000,000. Most of the growth was in property and equipment which increased from 66.4 percent of total assets in 2005 to 68.3 of total assets in 2006. The growth in total assets was accompanied by increases in all major categories of liabilities and equities. However, only long-term liabilities increased as a percent of total assets, from 18.3 percent of total assets in 2005 to 19.8 percent of total assets in 2006. McGraw-Hill/Irwin Slide 10 Interpreting Common Size Statements Lowe’s was able to increase its net income as a percent of sales from 6.4 percent to 6.6 percent by reducing cost of goods sold as a percent of sales by 0.3 percent. The percentage decrease in cost of goods sold was partially offset by small increase in operating and other expenses. McGraw-Hill/Irwin Slide 11 Financial Ratios Financial ratio analysis compares amounts for one or more financial statement items to amounts for other financial statement items in the same year. McGraw-Hill/Irwin Slide 12 Profitability Ratios Profitability ratios provide us with measures of a company’s ability to generate income in the current period. Net profit margin Gross profit percentage Asset turnover Return on equity (ROE) McGraw-Hill/Irwin Fixed asset turnover Earnings per share (EPS) Price/earnings (P/E) Return on assets (ROA) Slide 13 Profitability Ratios ̶ Net Profit Margin Net profit margin = Net income Net sales revenue × 100% Lowe’s 2006: ($3,105 ÷ $46,927) × 100% = 6.6% Lowe’s 2005: ($2,765 ÷ $43,243) × 100% = 6.4% Net profit margin represents the percentage of sales revenue that remains in net income after expenses have been deducted. McGraw-Hill/Irwin Slide 14 Profitability Ratios ̶ Gross Profit Percentage Gross profit = percentage Net sales ‒ Cost of goods sold Net sales × 100% Lowe’s 2006: (($46,927 ‒ $30,729) ÷ $46,927) × 100% = 34.5% Lowe’s 2005: (($43,243 ‒ $28,453) ÷ $43,243) × 100% = 34.2% Gross profit percentage indicates how much profit was made, on average, on each dollar of sales, after deduction of cost of goods sold. McGraw-Hill/Irwin Slide 15 Profitability Ratios ̶ Asset Turnover Asset turnover = Net sales revenue Average total assets Lowe’s 2006: $46,927 ÷ (($27,767 + $24,639) ÷ 2) = 1.79 Lowe’s 2005: (Given) = 1.89 The asset turnover ratio indicates the amount of sales revenue generated for each dollar invested in assets. McGraw-Hill/Irwin Slide 16 Profitability Ratios ̶ Fixed Asset Turnover Fixed asset turnover = Net sales revenue Average net fixed assets Lowe’s 2006: $46,927 ÷ (($18,971 + $16,354) ÷ 2) = 2.66 Lowe’s 2005: (Given) = 2.86 The fixed asset turnover ratio indicates the amount of sales revenue generated for each dollar invested in fixed assets such as store buildings and land used in the business. McGraw-Hill/Irwin Slide 17 Profitability Ratios ̶ Return on Assets (ROA) Net income ROA = Average total assets × 100% Lowe’s 2006: $3,105 ÷ ($27,767 + $24,639) ÷ 2) × 100% = 11.8% Lowe’s 2005: (Given) = 12.1% The return on assets ratio measures how much a company earns for each dollar of investment in assets. McGraw-Hill/Irwin Slide 18 Profitability Ratios ̶ Return on Equity (ROE) ROE = Net income Average stockholders’ equity × 100% Lowe’s 2006: $3,105 ÷ (($15,725 + $14,296) ÷ 2) × 100% = 20.7% Lowe’s 2005: (Given) = 21.4% The return on equity ratio measures the amount earned as a percentage of each dollar invested by stockholders. McGraw-Hill/Irwin Slide 19 Profitability Ratios ̶ Earnings per Share (EPS) EPS = Net income Average number of common shares EPS is reported in the income statement. Lowe’s 2006: EPS = $2.02 Lowe’s 2005: EPS = $1.78 Earnings per share indicates the amount of earnings for each share of outstanding common stock. McGraw-Hill/Irwin Slide 20 Profitability Ratios ̶ Price/Earnings (P/E) Ratio P/E Ratio = Stock price EPS The stock price was $31 per share at the time 2006 earnings were announced. Lowe’s 2006: $31 ÷ $2.02 = 15.3 Lowe’s 2005: (Given) = 16.3 The P/E ratio measures the relationship between the current market price of the stock and its earnings per share. McGraw-Hill/Irwin Slide 21 Liquidity Ratios Liquidity ratios focus on a company’s ability to convert its assets into cash in order to pay current liabilities as they come due. Receivables turnover Inventory turnover Current ratio Quick ratio McGraw-Hill/Irwin Slide 22 Liquidity Ratios ̶ Receivables Turnover Receivables turnover = Net sales revenue Average net receivables Lowe’s receivables balance from customers is insignificant because most sales are cash or credit card sales. The receivables turnover ratio is a measure of how fast a company collects its receivables. McGraw-Hill/Irwin Slide 23 Liquidity Ratios ̶ Inventory Turnover Inventory turnover = Cost of sales Average inventory Lowe’s 2006: $30,729 ÷ (($7,144 + $6,635) ÷ 2) = 4.5 Lowe’s 2005: (Given) = 4.5 The inventory turnover ratio indicates how many times inventory is bought and sold during the period. McGraw-Hill/Irwin Slide 24 Liquidity Ratios ̶ Days to Sell Days to sell = 365 Inventory turnover ratio Lowe’s 2006: 365 ÷ 4.5 = 81.1 days Lowe’s 2005: 365 ÷ 4.5 = 81.1 days The days to sell ratio converts inventory turnover into the number of days need to sell inventory. McGraw-Hill/Irwin Slide 25 Liquidity Ratios ̶ Current Ratio Current ratio = Current assets Current liabilities Lowe’s 2006: $8,314 ÷ $6,539 = 1.27 Lowe’s 2005: $7,788 ÷ $5,832 = 1.34 The current ratio measures the ability of a company to pay its current debts as they become due. McGraw-Hill/Irwin Slide 26 Liquidity Ratios ̶ Quick Ratio Quick ratio = Quick assets Current liabilities Cash Short-term Investments Accounts receivable Quick Assets 2006 2005 $ 364 $ 423 432 453 $ 796 $ 876 Lowe’s 2006: $796 ÷ $6,539 = 0.12 Lowe’s 2005: $876 ÷ $5,832 = 0.15 The quick ratio is similar to the current ratio, but measures the company’s immediate ability to pay it current debts. McGraw-Hill/Irwin Slide 27 Solvency Ratios Solvency ratios focus on a company’s ability to repay debt, pay interest, and finance replacement and/or expansion of long-term assets. Times interest earned Debt-toassets McGraw-Hill/Irwin Free cash flow Slide 28 Solvency Ratios ̶ Debt-to-assets Ratio Debt-to assets = Total liabilities Total assets Lowe’s 2006: $12,042 ÷ $27,767 = 0.43 Lowe’s 2005: $10,343 ÷ $24,639 = 0.42 The debt-to-assets ratio indicates the proportion of total assets that is financed by creditors. McGraw-Hill/Irwin Slide 29 Solvency Ratios ̶ Times Interest Earned Ratio Times interest earned = Net Interest Income tax + + income expense expense Interest expense Lowe’s 2006: ($3,105 + $154 + $1,893) ÷ $154 = 33.5 Lowe’s 2005: ($2,765 + $158 + $1,731) ÷ $158 = 29.5 The times interest earned ratio indicates the number of times a company’s interest expense was covered by its operating results. McGraw-Hill/Irwin Slide 30