Measuring & Analyzing
Financial Performance
ANALYZING FINANCIAL
POSITION AND PERFORMANCE
Analyze Financial Statement
information
Learn two basic types of analysis
Use five key financial criteria
Learn how to calculate key financial
measures
TWO TYPES OF ANALYSIS
1. Comparative statement analysis
2. Financial ratio analysis
The purpose of both types of analysis is to:
FIND, LOCATE AND ISOLATE
Comparative Balance Sheet
Ahmed and Zainab Farmer
Years ending December 31, 2003 and 2004
1,000 Iraqi Dinars
2004
Increase
Dinars
2003
Current Assets
Cash
Livestock:
Goats
Grain inventory:
Wheat
Barley
Supplies
Other
Total current assets
Non-current Assets
Machinery
Breeding livestock:
Purchased
Raised
Land and buildings:
Other
Total non-current assets
Total assets
Current Liabilities
Accounts payable
Operating loan
Portions of term debt
due in 12 months:
Machinery loan
Real estate loan
Accrued interest:
Accounts payable
Operating loan
Machinery loan
Real estate loan
Accrued taxes:
Real estate
Income & Soc. Sec.
Other
Total Current Liabilities
Non-current Liabilities
Machinery loan
(amt. due beyond 12 mos)
Real estate loan
(amt. due beyond 12 mos)
Other
Total non-current liab.
Total liabilities
Owner equity
Total liabilities and
owner equity
ID 8880
29,600
88,800
29,600
7,400
0
ID 164,280
ID 14,297
ID 32,560
88,800
22,200
4,943
0
ID 162,800
ID 150,960
ID 139,120
2,960
11,840
187,960
0
353,720
ID 518,000
2,960
10,360
202,760
0
355,200
ID 518,000
ID 17,760
103,600
ID 23,680
103,600
8,880
4,400
8,880
4,400
1,924
6,216
2,664
0
2,457
6,216
2,131
0
740
1776
0
ID 148,000
35,520
79,920
0
115,440
263,440
254,560
ID 518,000
740
1,776
0
ID 153,920
26,640
75,480
0
102,120
256,040
261,960
ID 518,000
ID 5,417
0
2,960
0
0
(7,400)
(2,457)
0
(ID 1,480)
(ID 11,840)
0
0
(1,480)
14,800
0
1,480
ID 0
ID 5,920
0
0
0
0
0
0
533
0
(533)
0
0
0
0
0
ID 5,920
ID 0
(8,880)
0
(4,440)
0
(13,320)
(7,400)
7,400
ID 0
Percent
Change
61.0%
10.0%
0.0%
-25.0%
-33.2%
-0.9%
-7.8%
0.0%
-12.5%
7.9%
0.4%
0.0%
33.3%
0.0%
0.0%
0.0%
27.7%
0.0%
-20.0%
0.0%
0.0%
4.0%
-25.0%
-5.6%
-11.5%
-2.8%
2.9%
0.0%
Income Statement
Ahmed and Zainab Farmer
2003
Dinars
Revenue
Cash farm revenue
Wheat
Barley
Goats
Breeding livestock
Other
Gross cash farm revenue
Years ending December 31, 2003 and 2004
1,000 Iraqi Dinars
2004
Increase or
Percent of
Percent of
(Decrease)
Gross Rev Dinars
Net Farm In
Dinars
ID 112,554
66,008
79,565
4,529
0
262,656
42.9%
25.1%
30.3%
1.7%
0.0%
100.0%
ID 120,250
64,084
96,200
5,920
0
286,454
197.9%
105.5%
158.3%
9.7%
0.0%
471.5%
ID 7,696
(1,924)
16,635
1,391
0
23,798
Inventory adjustments
Wheat
0
Barley
(7,400)
Goats
2,960
Breeding livestock
(1,480)
Other
0
Total Inventory adjustment (5,920)
Gross farm revenue
256,736
0.0%
-2.8%
1.1%
-0.6%
0.0%
-2.3%
97.7%
6,660
(4,440)
7,400
(740)
0
8,880
295,334
11.0%
-7.3%
12.2%
-1.2%
0.0%
14.6%
486.1%
6,660
2,960
4,440
740
0
14,800
38,598
10.1%
59.7%
10.6%
80.5%
25,900
150,960
29,600
206,460
88,874
24,420
42.6%
248.5%
48.7%
339.8%
(740)
(5,831)
1,672
(4,899)
Expenses
Cash farm expenses
Purchased feed
Other cash farm operating
Interest
Total cash farm expenses
Net cash farm income
Depreciation
26,640
156,791
27,928
211,359
45,377
25,160
Non-Cash expense adjustments
Assets
Unused supplies
(2,457)
Other
0
Liabilities
Accounts payable
(5,920)
Accrued interest
0
Accrued taxes
0
Other
0
Total non-cash expense adj (8,377)
Net farm income from opera. 11,840
Gain/loss on sale of farm
1,480
Net farm income
ID 13,320
9.6%
-0.9%
0.0%
-2.3%
0.0%
0.0%
0.0%
-3.2%
4.5%
0.6%
5.1%
740
0
(4,440)
0
0
0
(3,700)
60,754
0
ID 60,754
40.2%
1.2%
0.0%
-7.3%
0.0%
0.0%
0.0%
-6.1%
100.0%
0.0%
100.0%
(740)
3,197
0
1,480
0
0
0
4,677
48,914
(1,480)
ID 47,434
RATIOS
Monitoring Tools
Used in conjunction with other information
Rules of thumb are only guidelines
Unlimited number of
- physical ratios
- financial ratios
Take time to develop
- a “feel”
- understand
- internalize
RATIO ANALYSIS
Trends over time
Compare to industry standards
Comparison to similar firms
Comparison to performance
objectives
FINANCIAL RATIO ANALYSIS
Types of ratios to look at:
Liquidity:
Measures ability to meet obligations when due
without disrupting normal operations
Solvency:
Measures borrowed capital in relation to
owner’s equity capital invested in the
business
FINANCIAL RATIO ANALYSIS
(cont’d)
Profitability:
Measures amount of profit from use of labor,
management and capital
Repayment Capacity:
Measures ability to repay debts from both
farm and non-farm income
Financial Efficiency:
Measures degree of efficiency in use of labor,
management and capital
TESTS OF LIQUIDITY
A. Working Capital =
Total current farm assets minus
total current farm liabilities
B. Current ratio
=
Current assets
Current liabilities
C. Acid test ratio
=
Liquid assets
Current liabilities
D.
Cash flow
coverage ratio
=
Cash available1
Cash required2
1Beginning
cash + cash received from operating activities+ cash received from investing activities +
proceeds from term loans + cash received from equity contributions
2Cash
paid for operating activities + cash paid for investing activities + principal paid on term loans and
capital leases + cash equity distributions
TESTS OF SOLVENCY
A. Debt-to-assets
=
total liabilities
total assets
B. Equity-to-assets ratio =
total farm equity
total farm assets
C. Debt-to-equity ratio =
total farm liabilities
total farm equity
TESTS OF PROFITABILITY
A. Return on equity = net income from farm
operations - value of unpaid labor/management
average owners equity
B. Return on assets = net income from farm operations
interest expense
- value of unpaid labor/management
total farm assets
C. Operating profit margin ratio = net farm income from
operations + farm interest
expense - value of unpaid labor/mgmt
gross farm revenues
REPAYMENT OF CAPACITY
RATIOS
Term debt and capital lease coverage ratio =
net farm income from operations + total non-farm
income + depreciation/amortization expenses +
interest on term debt + interest on capital leases total income tax expense- withdrawals for family
living annual scheduled principal and interest on
term debt + annual scheduled principal and interest
on capital leases
Debt-to-income ratio = average total farm liabilities
net farm income from operations
FINANCIAL EFFICIENCY
RATIOS
A. Asset turnover ratio = gross farm revenue
average total assets
B. Operating expense ratio = total expenses (excl. int. & depr. expense)
gross farm revenues
C. Depreciation expense ratio = depreciation expense
gross farm revenue
D. Interest expense = total farm interest expense
gross farm revenue
E. Net farm income
=
from operations ratio
net farm income from operations
gross farm revenues
OTHER EFFICIENCY RATIOS
Labor productivity ratio =
gross farm revenues
labor and salary expense + value of unpaid
labor and management
Machinery and equipment productivity ratio =
gross farm revenues
avg. investment in farm machinery and equip.
OTHER COMPARISONS
Carrying charge on owned land
vs.
Cash rental rate on comparable loan
Family withdrawal as a percent of
- value of farm production
- total expenses
Machinery investment per acre
Nonproductive assets as a percent of total
assets
COMPARING RATIOS
1. Net income, is it
✧ before or after taxes
✧ cash or accrual
✧ farm or farm plus non-farm
✧ before or after family living withdrawls
2. Balance sheet and resulting net worth
✧ cost, market or something in between
✧ have accrued items been included or omitted
✧ are deferred tax liabilities included or omitted
3. Is the information based on the individual, the business or a
combination of the two
4. Is the ratio based an average, beginning of the year or end of
the year figures
COMPARING RATIOS (cont’d)
5. The legal structure of the entity
- corporation vs. proprietorship
- treatment of salaries vs. withdrawals
6.
Same fiscal year or point in time
7.
What are you comparing to
- industry, state average, or loan portfolio average...
- a specific farm category, size
8.
Type of business
- dairy vs. grain vs. cattle
9.
Are the firms from the same geographic area:
- production methods (seasonality, irrigated vs. dry land,
confinement vs. pasture, double vs. single crop)
CASE STUDY
Ahmed and Zainab own and farm 130 dunum.
On 100 tilled dunum, they grow 65 dunum of
wheat and 35 dunum of barley. They also cash
rent 500 dunum (320 dunum of wheat and 165
dunum of barley) and rent 400 dunum (200
dunum of wheat and 200 dunum of barley) on a
50-50 share lease. So, in year 2004 they farmed
585 dunum of wheat and 400 dunum of barley.
They also sold 550 goats. Ahmed and Zainab
work full time on the farm and have one hired
man who works for them full time.
Beginning Balance Sheet
Name: Ahmed and Zainab Farmer
1,000 Iraqi Dinars
ASSETS
LIABILITIES AND OWNER EQUITY
Cost
Market value
Cost
Current assets
Cash
Livestock:
Goats
Grain inventory:
Wheat
Barley
Supplies
Other
Total current
assets
Total non-current
assets
Total assets
Market Value
Current liabilities
ID 8,880
ID 8,880
29,600
29,600
88,800
29,600
7,400
88,800
29,600
7,400
0
0
ID 164,280
ID 164,280
Non-current assets
Machinery:
Cost ID 187,960
Acc. Dep. 44,400
Breeding livestock:
Purchased
Raised
Land and buildings
Cost
183,520
Acc. Dep. 17,760
Other
Date: December 31, 2003
Accounts payable
Operating loan
Portions of term debt
due in 12 months:
Machinery loan
Real estate loan
Accrued interest:
Accounts payable
Operating loan
Machinery loan
Real estate loan
Accrued taxes:
Real estate
Income & S.S.
Other
ID 17,760
103,600
ID 17,760
103,600
8,880
4,440
8,880
4,440
1,924
6,216
2,664
0
1,924
6,216
2,664
0
740
1,776
0
740
1,776
0
ID 148,000
ID 148,000
ID 35,520
ID 35,520
79,920
0
79,920
0
Total non-current
liabilities
ID 115,440
ID 115,440
Total liabilities
ID 236,440
ID 236,440
Owner equity
ID 224,960
ID 224,960
Total liabilities and
owner equity
ID 488,400
ID 518,000
Total current
liabilities
Non-current liabilities
ID
143,560
ID 150,960
2,960
11,840
2,960
11,840
$187,960
165,760
0
0
ID 324,120
ID 353,720
ID 488,400
ID 518,000
Machinery loan
(Amt. due beyond 12
months)
Real estate loan
(Amt. due beyond 12
months)
Ending Balance Sheet
Name: Ahmed & Zainab Farmer
1,000 Iraqi Dinars
Date: December 31, 2004
ASSETS
LIABILITIES AND OWNER EQUITY
Cost
Market Value
Cost
Current assets
Cash
Livestock:
Goats
Grain inventory:
Wheat
Barley
Supplies
Other
Total current assets
Current liabilities
ID 14,297
ID 14,297
32,560
32,560
88,800
22,200
4,943
88,800
22,200
4,943
0
0
ID 162,800
ID 162,800
Non-current assets
Machinery:
Cost
Acc. Dep.
Breeding livestock:
Purchased
Raised
Land & Buildings
Cost
Acc. Dep.
Other
Total non-current assets
Total assets
Market Value
Accounts payable
Operating loan
Portions of term debt due in 12 mo:
Machinery loan
Real estate loan
Accrued interest:
Accounts payable
Operating loan
Machinery loan
Real estate loan
Accrued taxes:
Real estate
Income & SS
Other
ID 23,680
103,600
DI 23,680
103,600
8,880
4,440
8,880
4,440
2,457
6,216
2,131
0
2,457
6,216
2,131
0
740
1,776
0
740
1,776
0
Total current liabilities
ID 153,920
ID 153,920
Total non-current liabilities
ID 102,120
ID 102,120
Total liabilities
ID 256,040
ID 256,040
Owner equity
ID 202,760
ID 202,760
Total liabilities and owner equity
ID 458,800
ID 518,000
Non-current liabilities
ID 177,600
57,720
ID 139,120
119,880
2,960
10,360
2,960
10,360
183,520
20,720
0
202,760
ID 296,000
ID 355,200
ID 458,800
ID 518,000
Income statement: gross revenue approach
1,000 Iraqi Dinars
Name: Ahmed and Zainab Farmer
12 month period ending 12/31/2003
Revenue
Cash
Accrual
Cash farm revenue
Wheat
Barley
Goats
Breeding livestock
Other
ID 112,554
66,008
79,565
4,529
0
Gross cash farm revenues
Inventory
Adjustments
Wheat
Barley
Goats
Breeding livestock
Other
Beg.
Inventories
End.
ID 88,800
29,600
29,600
14,800
0
ID262,656
ID 262,656
Difference
(End.-Beg.)
ID 88,800
22,200
32,560
13,320
0
ID
0
(7,400)
2,960
(1,480)
0
Total inventory adjustment
Gross farm revenues
± ID (5,920)
=ID 262,656
=ID 256,736
- ID 211,359
- ID 211,359
Expenses - Cash Farm
Purchased feed
Other cash farm operating expenses
Interest
ID 26,640
156,791
27,928
Total cash farm expenses
Net cash farm income
Depreciation
= ID 51,297
- ID 25,160
- ID 25,160
Non-cash expense adjustments
Assets
Beg.
Unused supplies
Other
Inventories
End.
ID 7,400
0
Difference
(End.-Beg.)
ID 4,943
0
Liabilities
Accounts payable
Accrued interest
Accrued taxes
Other
ID (2,457)
0
(Beg.-End)
ID 17,760
10,804
740
0
ID 23,680
10,804
740
0
ID (5,920)
0
0
0
Total non-cash expense adjustments
Net farm income from operations
Gain/loss on sale of farm capital assets
Net farm income
±ID (8,377)
=ID 26,137
= ID 11,840
± ID 1,480
±ID 1,480
= ID 27,528
= ID 13,320
Statement of Cash Flows
Name: Ahmed and Zainab Farmer
1,000 Iraqi Dinars
For the period: 1/1/2003 through 12/31/2004
Cash flows from operation activities
Cash received from operations
Cash received from non-farm income
Cash paid for feeder livestock, purchased feed & other items purchase for resale
Cash paid for operating expenses
Cash paid for interest
Net cash paid for income and Social Security taxes
Net Cash paid for other operating activities
Cash withdrawals for family living
Net cash provided by operating activities
+ID 262,656
+
0
26,640
- 156,791
27,928
1,776
0
33,744
± $ 15,777
Cash flows from investing activities
Cash received from sale of breeding stock (other than normal culling)
Cash received from sale of machinery and equipment
Cash received from sale of farm real estate
Cash received from sale of marketable securities
Cash received from sale of non-farm investments & retirement acct. withdrawals
Cash paid to purchase breeding stock
Cash paid to purchase machinery and equipment
Cash paid to purchase real estate and buildings
Cash paid to purchase marketable securities
Cash paid to purchase non-farm investments & retirement acct. deposits
Net cash provided by investing activities
+ ID
0
+
4,440
+
0
+
0
+
0
1,480
0
0
0
0
± ID 2,960
Cash flows from financing activities
Proceeds from operating loans
Proceeds from term loans
Cash received from capital contributions, gifts and inheritances
Principal payments on operating loans
Principal payment on capital leases
Principal payment on term loans
Cash dividends and capital distributions
Net cash provided by financing activities
+ID 148,000
+
0
+
0
- 148,000
0
13,320
0
±ID (13,320)
Net increase (decrease) in cash and cash equivalents
±ID 5,417
Cash and cash equivalents at beginning of year
±ID 8,880
Cash and cash equivalents at end of year
± ID 9,660
Cash Flow Statement
Name: Ahmed and Zainab Farmer
1,000 Iraqi Dinars
Quarter 1
Jan-Mar
Beginning cash balance
Quarter 2
Apr-Jun
For the period: 1/1/2003 through 12/31/2004
Quarter 3
Jul-Sep
ID 8,880
0
9,953
19,891
ID 28,120
16,502
19,891
ID 112,554
66,008
79,565
2,309
0
0
0
2,220
0
4,529
4,440
ID 114,278
ID 60,206
ID 53,273
ID 74,636
ID 275,976
Operating expenses
Feed purchases
Capital expenditures:
Breeding livestock
Other expenditures:
Family living
Te rm loan payments:
Principal
Interest
ID 36,963
6,660
ID 51,164
6,660
ID 26,573
6,660
ID 42,091
6,660
ID 156,791
26,640
0
740
0
500
1,480
7,696
9,472
7,696
10,656
35,520
0
0
8,880
4,262
0
0
4,440
7,992
13,320
12,254
Total cash required
ID 51,319
ID 81,178
ID 40,929
ID 72,579
ID 246,006
Cash position before
savings and borrowing
ID 62,959
ID (20,972)
ID 12,343
ID 2,057
ID 29970
ID 59,200
0
ID 59,200
0
ID 14,800
0
ID 14,800
0
ID 148,000
0
103,600
8,673
29,600
0
14,800
4,440
0
2,560
100,000
15,673
ID 9,886
ID 8,628
ID 7,903
ID 14,297
ID 14,297
Total cash available
Money borrowed:
Operating
Term
Payments on operating
loans:
Principal
Interest
Ending cash balance
ID 9,886
ID 56,314
24,753
19,891
ID 28,120
0
19,891
0
4,440
ID 8,628
Total
ID 7,903
Operating receipts:
Crops: Wheat
Barley
Market livestock
Capital receipts:
Breeding livestock
Machinery
ID 8,880
Quarter 4
Oct-Dec
ID
Analyzing financial performance for
Ahmed and Zainab Farmer
1. Using information from Ahmed and Zainab’s 2003 and
2004 market-value balance sheets, 2003 income statement,
2003 statement of cash flows, 2003 cash flow statement and
reconciliation of owner equity, calculate the following
measures of financial performance.
1Beginning
cash + cash received from operating activities + cash received
from investing activities + proceeds from term loans + cash received from
equity contributions
2Cash
paid for operating activities + cash paid for investing activities +
principal paid on term loans and capital leases + cash equity distributions
2003
2004
A. Working capital=
total current farm assets ID 16,280,000
less
____________
total current farm
_
liabilities
B. Current ratio=
current assets
current liabilities
1.11
C. Cash flow
coverage ratio=
cash available¹
cash required²
N/A
D. Debt-to-asset
ratio=
total liabilities
total assets
0.51
____________
_
____________
_
____________
_
E. Equity-to-asset
ratio (percent
ownership) =
total farm equity
total farm assets
0.49
____________
_
F. Debt-to-equity ratio
(leverage)=
total farm liabilities
total farm equity
G. Rate of return on
assets=
net income from farm
operations + int. expense
-value of unpaid
labor/management
total farm assets
H. Rate of return on
equity=
I. Operating profit
margin ratio=
net income from farm
operations -value of unpaid
labor/management
average owners equity
net farm income from
operations+farm interest
expense
-value of unpaid labor/mgmt
gross farm revenues
1.03
______________
NA
______________
NA
______________
NA
______________
J. Term debt and
capital lease
coverage
ratio=
K. Debt-to-income
ratio=
net farm income from
operations+farm interest
expense
-value of unpaid labor/mgmt
gross farm revenues
net farm income from
operations+ total non-farm
income
+depreciation/amortization
expenses+interest on term
debt+interest on capital
leases-total income tax
expense
- withdrawals for family
living
annual scheduled principal
and interest on term debt
+annual scheduled principal
and interest on capital leases
NA
NA
______________
______________
L. Asset turnover
ratio=
total farm equity
total farm assets
0.49
______________
M. Operating expense
ratio=
total farm liabilities
total farm equity
1.03
______________
N. Depreciation
expense ratio=
net income from farm
operations + int. expense
-value of unpaid
labor/management
total farm assets
NA
______________
O. Interest expense
ratio=
P. Net farm income
from
operations
ratio=
net income from farm
operations
-value of unpaid
labor/management
average owners equity
NA
______________
Exercise (cont’d)
2.
Compare Ahmed and Zainab’s working capital and
current ratio on December 31, 2003, with those
measures on December 31, 2004. Are Ahmed and
Zainab Farmer more or less liquid in 2004 than in
2003?
3.
Compare Ahmed & Zainab’s 1.2% rate of return on
assets to your calculated rate of return on equity.
What does the relationship imply about the Farmers’
use of borrowed capital?
Exercise (cont’d)
4.
What are the Farmers’ debt-to-asset ratios on
December 31, 2003, and December 31, 2004, using the
cost method of valuing assets? Are the ratios higher or
lower than the ratios calculated for 2003 and 2004 using
the market-value method?
5.
The total of Ahmed and Zainab’s operating,
depreciation and interest expenses as a percentage of
gross farm revenues in 2004 equals _____%. If that
amount is added to net farm income from
operations/gross farm revenues, the total equals
_____%.
Summary
TESTS OF LIQUIDITY
TESTS OF SOLVENCY
TESTS OF PROFITABILITY
TESTS OF REPAYMENT CAPACITY
TESTS OF EFFICIENCY
OTHER MEASURES PECULIAR TO
THE TYPE OF OPERATION