Chapter 23
Comparative
Financial
Statements
1
College Accounting
10th Edition
McQuaig
McQuaig
Bille
Bille
Nobles
PowerPoint presented by Douglas Cloud
Professor Emeritus of Accounting, Pepperdine University
23–1
© 2011 Cengage Learning
Accounting Language
 Accounting is the process of analyzing,
classifying, recording, summarizing, and
interpreting business transactions.
 Everybody is interested in two aspects of an
enterprise:
1. Its solvency, or its ability to pay its debts.
2. Its profitability, or its ability to earn a
reasonable profit on the owners’
investment.
23–2
Types of Comparisons
A company’s financial statements are
meaningful only if you analyze them on a
comparative basis. Three bases are useful for
making such a comparison:
1. Statements of the same company for the
current year and one or more prior years.
2. Financial data for other companies in the
same industry.
3. Previously established financial standards
or objectives.
23–3
Horizontal Analysis—Income Statement
 Horizontal analysis is a comparison of the
same item in a company’s financial statements
for two or more periods.
 We will analyze the comparative income
statements for Dynamo Bike Shop, Inc.
23–4
Horizontal Analysis—Income Statement
Sales
$120,400
$861,700
= 14.0%
23–5
Horizontal Analysis—Income Statement
$(600)
Sales Returns
= (4.6)%
and Allowances $13,100
23–6
Horizontal Analysis—Income Statement
Total
Operating
Expenses
$20,070
$184,400
= 10.9%
23–7
Horizontal Analysis—Income Statement
Net Income
$6,360
$69,530
= 9.1%
23–8
Horizontal Analysis—Balance Sheet
By using the Total Asset section of the
comparative balance sheet, let’s calculate the
percentage change for Cash and Merchandise
Inventory. Then, we will calculate the change in
Accounts Payable using the Liabilities and
Stockholders’ Equity sections of Dynamo Bike
Shop Inc.’s balance sheet.
23–9
Horizontal Analysis—Balance Sheet
Cash
$(16,900)
= (43.7)%
$38,900
23–10
Horizontal Analysis—Balance Sheet
Merchandise
Inventory
$141,900
$206,500
= 68.7%
23–11
Horizontal Analysis—Balance Sheet
Accounts
Payable
$41,100
$29,000
= 141.7%
23–12
Vertical Analysis—Income Statement
 Using vertical analysis, you can see in a single
statement the relationship of each part to the
whole.
 When you arrange an income statement for
vertical analysis, you express each item as a
percentage of net sales.
23–13
Vertical Analysis—Income Statement
Gross Profit,
2011
$306,700
$969,600
= 31.6%
23–14
Vertical Analysis—Income Statement
Gross Profit,
2010
$279,800
$848,600
= 33.0%
23–15
Vertical Analysis—Income Statement
 In 2011, the vertical analysis provided a 31.6
percent ratio of Gross Profit to Net Sales. This
can be interpreted to mean that for every $100
in net sales, gross profit was $31.60.
 In 2010, the ratio of Gross Profit to Net Sales
was 33.0%. This means that for every $100 in
net sales, gross profit was $33.00.
23–16
Vertical Analysis—Balance Sheet
 When you perform a vertical analysis of a
comparative balance sheet, you express the
figure for each item as a percentage of total
assets.
 Or, you can express the figure for each item as
a percentage of the total of liabilities and
stockholders equity, which is the same figure.
23–17
Vertical Analysis—Balance Sheet
Cash, 2011
$21,800
$708,200
= 3.1%
23–18
Vertical Analysis—Balance Sheet
Cash, 2010
$38,700
$604,500
(continued)
= 6.4%
23–19
Vertical Analysis—Balance Sheet
Accounts
Receivable
(net) 2011
$76,400
$708,200
= 10.8%
23–20
Vertical Analysis—Balance Sheet
Accounts
Receivable
(net) 2011
$78,800
= 13.0%
$604,500 rounded
23–21
Vertical Analysis—Balance Sheet
Merchandise
Inventory,
2011
$348,400
$708,200
= 49.2%
23–22
Vertical Analysis—Balance Sheet
Merchandise
Inventory,
2010
$206,500
$604,500
= 34.2%
23–23
Trend Percentages
Here is the way to calculate trend percentages:
1. Select a representative year as the base
year.
2. Label the base year 100 percent.
3. Express all other years a percentages of the
base year.
23–24
Trend Percentages
For 2008:
$782,380
= 1.095 x 100 = 109.5%
$714,200
100.0%
109.5%
23–25
Trend Percentages
For 2009:
$806,400
= 1.129 x 100 = 112.9%
$714,200
100.0%
109.5%
112.9%
23–26
Trend Percentages
For 2010:
$848,600
= 1.188 x 100 = 118.8%
$714,200
100.0%
109.5%
112.9%
118.8%
23–27
Trend Percentages
For 2011:
$969,600
= 1.358 x 100 = 135.8%
$714,200
100.0%
109.5%
112.9%
118.8%
135.8%
23–28
Trend Percentages
Repeat the procedure for Cost of Goods Sold and Gross Profit to get
the trend percentage chart.
Observe that, over the five-year period, the trend of Net Sales is
upward. However, Cost of Goods Sold is going up at a more rapid rate
than Net Sales. This resulted in smaller increases in Gross Profit.
23–29
Industry Comparisons
 Vertical analysis, using percentage figures, is
useful when you wish to compare the figures for
one company with the average figures for the
given industry.
 The format of the financial statement defines it
as a common-size statement.
 Common-size statements can be used to
compare one company with another as well as
with the industry averages.
 Trade and marketing associations often gather
information and publish common-size
statements.
23–30
Analysis by Creditors
and Management
 Bankers and other short-term creditors
are primarily interested in the current
position of a given firm, which can be
assessed using comparative financial
statements.
23–31
Working Capital
Working capital is the excess of current assets
over current liabilities.
Working Capital = Current Assets – Current Liabilities
23–32
Current Ratio
The relationship of a company’s current assets
to its current liabilities is its current ratio.
Current Assets
Current Ratio =
Current Liabilities
A firm’s current ratio reveals its current debtpaying ability.
23–33
Quick Ratio
 The relationship of a company’s current
assets that can be quickly converted into cash
to its current liabilities is known as is its quick
ratio or acid-test ratio.
 Quick assets are Cash, Notes receivable,
net Accounts Receivable, Interest
Receivable, and Marketable Securities.
 Quick assets do not include inventories and
prepaid expenses.
Quick Assets
Quick Ratio =
Current Liabilities
23–34
Quick Ratio
 A quick ratio of 1 is considered satisfactory.
 Although working capital and a current ratio are
two indicators of a firm’s ability to meet its
current obligations, they don’t reveal the
composition of its current assets—a very
important factor.
23–35
Relationship of Each Current
Asset to Total Current Assets
$21,800
= 0.0486 = 4.9%
$448,600
23–36
Accounts Receivable
Turnover
 Accounts receivable turnover is the number of times
charge accounts are turned over (or paid off) per year.
 A turnover implies a sale on account followed by
payment of the debt in cash.
Accounts
Receivable =
Turnover
Average
Accounts =
Receivable
Net Sales on Account
Average Accounts Receivable (Net)
Beginning Accounts
Receivable (Net) +
Ending Accounts
Receivable (Net)
2
23–37
Merchandise Inventory
Turnover
Merchandise inventory turnover is the number
of times a company’s average inventory is sold
during a given year.
Merchandise
Cost of Goods Sold
Inventory =
Average Merchandise Inventory
Turnover
Beginning
Ending
Merchandise
Merchandise
Average
Inventory +
Inventory
Merchandise =
2
Inventory
23–38
Ratio of Stockholders’
Equity to Liabilities
The ratio of stockholders’ equity to liabilities is
the ratio of the stockholders’ investment to the
creditors’ claims.
Ratio of Stockholders’ = Stockholders’ Equity
Liabilities
Equity to Liabilities
Creditors like to see a high proportion of
stockholders’ equity because stockholders’
equity acts as a buffer in case the company
has to absorb losses.
23–39
Ratio of Property and Equipment
to Long-Term Liabilities
 Another factor that provides a margin of safety
to mortgage holders and bondholders is the
ratio of the value of a firm’s total property and
equipment to its long-term liabilities.
 This ratio also indicates the potential ability of
the enterprise to borrow more money on a
long-term basis.
Ratio of Property and
Property and Equipment
Equipment to Long- =
Long-Term Liabilities
Term Liabilities
23–40
Analysis by Owners and
Management
 Owners and managers are vitally interested
in the value of and return on investment in
the company.
 In many cases, the owners are the
managers.
 In other situations, managers are employed
by the owners.
23–41
Equity per Share
 When you examine the annual report of a
corporation, you encounter the term book
value per share, also referred to as
equity per share.
 If a corporation has only one class of
common stock outstanding, the formula
for equity per share is straight-forward.
Total Stockholders’ Equity
Equity
Available to a Class of Stock
per =
Number of Shares Issued and
Share
Outstanding
23–42
Equity per Share
 The term equity per share does not mean the cash
value or market value of a share.
 It means the amount that would be distributed per
share of stock on a book basis if the corporation were
to liquidate without incurring any expenses, gains, or
losses in selling assets and paying its liabilities.
 When there are preferred stock outstanding, you must
deduct the liquidation value of the preferred
stockholders’ equity, including any dividends in
arrears on cumulative preferred stock, to arrive at the
stockholders’ equity available to holders of common
stock.
23–43
Rate of Return on Common
Stockholders’ Equity
 A corporation exists first and foremost to earn a
net income for its stockholders.
 The rate of return on the common stockholders’
equity is important as a means of measuring
how good or bad the investment is.
 The formula:
Net Income Available to
Rate of Return on Common
Common Stockholders
=
Stockholders’ Equity
Average Common
Stockholders’ Equity
23–44
Rate of Return on Common
Stockholders’ Equity
 First, you must calculate the average common
stockholders’ equity.
Beginning Common
Ending Common
Stockholders’ Equity + Stockholders’ Equity
2
23–45
Earnings per Share of
Common Stock
Net Income Available to
Earnings per
Common Stockholders
Share of =
Average Number of Shares of
Common Stock
Common Stock Outstanding
23–46
Price-Earnings Ratio
The price-earnings ratio is a measure
commonly used to determine whether the market
price of a corporation’s stock is reasonable.
Market Price per Share
Price-Earnings Ratio =
Earnings per Share
23–47
Summary of Analytical Tools
23–48
Summary of Analytical Tools
23–49