USING FINANCIAL STATEMENTS TO GUIDE A BUSINESS. UNIT 3 • SHOW ME THE MONEY: FINDING, SECURING, AND MANAGING IT. Class Name Instructor Name Date, Semester. Performance Objectives After this lecture, you should be able to complete the following Performance Objectives.
After this lecture, you should be able to complete the following Performance Objectives
1. Understand an income statement.2. Examine a balance sheet to determine a business’s financing strategy.3. Use the balance sheet equation for analysis.4. Perform a financial ratio analysis of an income statement.5. Calculate return on investment.6. Perform same-size (common-sized) analysis of an income statement.7. Use quick, current, and debt ratios to analyze a balance sheet.
Scorecard for the Entrepreneur: What Do Financial Statements Show?
Cash Flow Statement
Part of an Income Statement:
A Basic Income Statement:
The power of the income statement is that it will tell you whether you are fulfilling the formula of buying low, selling high, and meeting customer needs.
The Double Bottom Line:
Ideally, you want to have a positive double bottom line; you are making a profit so you can stay in business and achieve your mission
A Simple Income Statement
Return on Investment (ROI)
Entrepreneurs “invest” time, energy or money into something because they expect a “return” of money or satisfaction.
Return on investment (ROI) measures return as a percentage of the original investment.
Net Profit/Investment X 100 = ROI%
What is made over what is paid, times 100.
The Balance Sheet: A Snapshot of Assets, Liabilities, and Equity at a Point in Time
Net Worth (owner’s equity) – the difference between assets and liabilities.
Fiscal Year – the 12 month financial reporting period for a company
Short-and Long-Term Assets
Current Assets – cash or items that can be quickly converted to cash or will be used within one year.
Long-term Assets – those that will take more than one year to use.
Current and Long-Term Liabilities
Liabilities – are all debts owed by the business, such as bank loans, mortgages, lines of credit, and loans to family or friends.
Current Liabilities- debts that are scheduled for payment within that year.
Long-Term Liabilities – debts that are due in over one year.
The Balance Sheet Equation
Balance Sheet Equation – is the equation for calculating owner’s equity.
If assets are greater that liabilities, net worth is positive.
If liabilities are greater than assets, net worth is negative
Assets – liabilities = Net Worth (or Owner’s Equity or Capital or
Assets = liabilities + Owner’s Equity or
Liabilities = Assets - Owner’s Equity
The Balance Sheet Shows Assets and Liabilities Obtained through Financing
If an item was financed with debt, the loan is a liability.
If an item was purchased with the owner’s own money (including that of shareholders), it was financed with equity.
Total Assets = Total Liabilities + Owner’s Equity (OE)
An entrepreneur that relies too much on equity financing from outside investors (who have thus become owners) can lose control of the company.
An entrepreneur who takes on too much debt and is unable to make loan payments can lose the business, and possibly personal assets as well, to banks or other creditors.
Analyzing a Balance Sheet
Comparing balance sheets from two points in time is an excellent way to see whether or not a business has been financially successful.
Income Statement Ratios: divide sales into each line item and multiply by a hundred.
Return on Investment
ROI = Investment x 100 = ROI
Return on Sales
Return on sales (ROS) – net income divided by sales for a particular time period (percentage).
Profit margin (return on sales) – net income divided by sales (percentage).
Common-Sized Statement Analysis
Return on Sales (ROS) = Sales
Current & Quick Rations
Liquidity – the ability to convert assets into cash.
Current Ratio-liquidity ration consisting of the total sum of cash plus marketable securities divided by current liabilities.
Marketable Securities- investments that can be converted into cash within 24 hours.
Quick Ration-the calculation of cash in relation to covering current debt.
Cash + Marketable Securities
Quick Ratio = Current Liabilities
Current Liabilities – ( Inventory + Prepayments)
Quick Ratio = Current Liabilities
Debt-to-Equity Ratio – the comparison of total debt to total equity.
Debt Ratio – the comparison of total debt to total assets.
Debt-to-Equity Ratio = Equity
Debt Ratio = Total Assets
Average Accounts Receivable (Balance Sheet) = # of days
Average Daily Sales (Income Statement)
Total Sales (Income Statement) = # of times
Average Accounts Receivable (Balance Sheet)
Cost of Goods Sold (Income Statement) = # of times
Average Inventory (Balance Sheet)