Ryan Barton
Acct 1120
Financial Statement Analysis
There are many people who have told me that investing in the stock market is not any different
than gambling in Vegas. In this paper I will refute this argument by analyzing an assortment of ratios
calculated using IBM’s financial statements. While this paper is focused on IBM, the ratios work for
every company, whether it is a large corporation making billions of dollars, or a small company making
thousands of dollars.
Risk
Risk is inevitable when investing. No matter how long you analyze a company and its outlook
there will always be a possibility of unforeseen events that come into play. In this section we will
analyze ratios that deal with risk. One of the first ratios you should look at would be the company’s acid
test ratio, which calculates the company’s ability to pay off their liabilities due in the short run. In 2014
IBM had an acid test ratio result less than one which means they would have a difficult time paying off
their short term debts without selling inventory. When compared to the industry average, IBM is a
much riskier investment. When comparing other ratios such as the current ratio which is the
company’s ability to pay off short term debt and the debt ratio (comparison of debt vs. assets) you see
that IBM is more of a risk this year than it was last year, and a higher risk than the industry average. In
both the short term and long term risk. At this point I am not interested in investing in IBM. If IBM
proved to be a company with low risk, I would dig deeper into the IBMs risk. I could analyze more ratios
such as day’s sales uncollected. This ratio calculates the amount of money purchased on an average
daily basis. This would help identify how much cash actually comes in and how much of that amount is
accounts receivable. I could also look at the debt to Equity ratio if I wanted to see how much of the
company’s assets were paid for by money invested by stockholders. This would go along with the price
Earnings ratio which is the amount of money an investor is willing to pay compared to the company’s
current earning per year. Even looking at all of these ratios we find that IBM has consistently become
more risky compared to 2013. When compared to the industry average, it seems strange that anyone
would take the risk of investing with IBM.
Ratio Name
Current Ratio
Debt Ratio
Acid Test Ratio
Price Earnings Ratio
Debt to Equity Ratio
Times Interest Earned
2014
1.25
90%
0.94
0.46
2.93
50.37
2013
1.28
82%
1.02
0.5
1.93
61.65
Industry Average
59.30%
1.57
19.3
1.46
2.9
Risk Ratios
Profitability
After looking at initial risk of an investment it is important to look at the company’s profitability.
Profitability is basically the company’s bottom line of how much money they made. The ratios analyzed
for this section include the profit margin which is important to see the percentage of net income that
comes from the company’s sales. In 2014 IBM was less profitable than it was in 2013. This may seem
like a scary thought, but in actuality IBM was more profitable than the industry average. If you look at
the Revenue per share it has the same outcome. That’s because revenue per share and profit margin
are similar, but revenue per share, breaks up the revenues and categorizes them as profit made per
share. While weighing profitability it is important to analyze where the profits came from. You can do
this by looking at the company’s return on equity which is how much money the company made off of
shareholders investments. As well as the cash return on assets ratio which is the amount of money a
company receives from their assets, compared to the amount of income the company receives from
their operating activities. In the case of IBM 2014 was not as profitable as it was in 2013, but it was
more profitable than the industry average.
Ratio Name
Revenue Per Share
Profit Margin
Return on Equity
Cash Return on Assets
Cash Flow on Assets
2014
2013
11.9%
46,407,000,000
0.23
38,206
0.14
14.94%
48,684,000,000
0.32
43,209
0.1
Industry Average
3.94%
1%
1.60%
Profitability Ratios
Efficiency
Efficiency is one of the most important factors when making an investment decision. When you
see a company improving in their efficiency, you know that the company has great leadership that is
doing everything they can to ensure that your investment is not wasted. I was impressed with IBM’s
Days sales in inventory ratio. The ratio calculates how long the inventory was in stock before it was sold.
While IBM is less efficient in 2014 than 2013, it is much more efficient than the industry average.
There are many ratios to calculate a company’s efficiency, these ratios will calculate a specific
measure for everything from inventory to how efficient a company is at giving and receiving credit which
it has given out (receivables turnover). I would say one of the most important efficiency ratios would be
the gross margin ratio which is the difference between your revenues and your actual profits. For IBM
they were more efficient in 2013 than 2014 for every efficiency rating. Some were ratios had a large
change such as the Inventory turnover or the amount of times their inventory was sold and replaced.
Other ratios were just a fraction different including total asset turnover, which is the company’s ability
to generate sales from its assets. IBM was less efficient when it came to the return on their assets. They
made less money compared to last year when looking at how much money they made divided by their
total assets. As in the prior two sections I would not suggest someone to invest in IBM if I was basing my
decision on efficiency.
Ratio Name
2014
2013
Gross Margin Ratio
Total Asset Turnover
Inventory Turnover
Days Sales in Inventory
Receivables Turnover
Return on Assets
days Sales Uncollected
46,407,000,000
0.79
17.88
8.44
3.1
10%
331.36
48,684,000,000
0.78
80.39
7.98
3.4
13%
300.52
Industry Average
80.10%
17.56
20.79
5.89
1.6
62
Efficiency ratios
Stock Holder/ Investor Relations
Depending on what you are looking for in an investment, this may be the most important
section for you. As an investor you may be extremely interested in how much you’ll be paid in
dividends. That can be found using the Dividend payout ratio which would be a percentage, and the
dividends per share which is a dollar amount. The dividend Yield is different in that it is the difference
between the stock price and the amount of dividends paid per share. Each of these ratios had a positive
gain. In that IBM paid more dividends in 2014 than in 2013. This is beneficial for anyone looking for a
larger dividend payout on their investments.
While dividends are important, you shouldn’t base your decision just on that one aspect alone.
You should also look to see if the stock price is overvalued. You can figure that out looking at the book
value per share which calculates stockholders equity and the number of common stocks outstanding.
And also price to free cash flow which divides the market cap by the amount of profit made by operating
activities. When analyzing these ratios we find that IBM is actually a better buy this year than last, and
that it is a better buy when compared to the industry average. This is a great sign for investors who
have been tracking IBM and are waiting for the right moment to invest. Lastly I would like to look at the
basic earnings per share. This will tell me how much profit the company generated if their profit was
divvied up to individual investors. In 2014 the company was less profitable meaning that the earnings
per share are also less.
Ratio Name
Book Value Per Share
Cash Flow Per Share
Dividends per Share
Dividend Yield
Price to Free Cash Flow
Dividend Payout
Basic Earnings Per
Share
2014
2013
Industry Average
11.98
7.61
4.25
2.70%
21.08
0.35
21.62
5.6
3.7
2.16%
33.04
0.25
30.2
42.10%
11.97
15.07
2.66
Shareholder Ratios
Sometimes beginner investors look for big companies to invest in, thinking that if the company
makes a lot of money that would mean they would make a lot of money as well. This is not always the
case. After analyzing IBM, I would not suggest anyone to invest in their company at this point. They are
on a downward trend and have been for the past few years. I don’t believe that IBM will be going out of
business anytime soon, but I would hold on to my precious investment dollars, and wait for them to
start an upward trend.
After looking at all these ratios you get an idea of how a company is doing and even some ideas
of how they will do in the future. Investing is like gambling only when the investor carelessly throws
their money into the market without doing their research. With research you can find indicators of
which companies would be a good investment and which would not.