Chapter 4 Essentials Flashcards
(32 cards)
Chapter 4 focuses on
Measuring Performance
Financial Ratios
Allow for both an internal and external assessment of a firm
Return on Equity or ROE
Net income available for common shareholders / common shareholders’ equity
ROE Decomposition or DuPont Method
ROE = Profit Margin x Asset Turnover x Financial Leverage
Profit Margin
Measures how effective management is at creating earnings for every dollar of sale generated
Net income / revenue
Asset Turnover
Measure management’s ability to harvest or “sweat” the assets in order to generate sales
Revenues / assets
Financial Leverage
Indicates the degree to which effective use of borrowing contributed to the firm’s ROE
Assets / Equity
Return on Assets or ROA
Profit Margin x Asset Turnover
Profitability Measures
Focus on elements of a firm’s income statement and examine how the firm is able to generate profits from a particular level of revenue generation
Gross Margin Percentage
Gross Profit / Revenues
EBIT Margin Percentage
EBIT / Revenues
EBITDA Margin Percentage
EBITDA / Revenues
Expense Ratio
Expenses / Revenues
Break Even Net Sales
Fixed Costs / Gross Margin Percentage
ROIC
EBIT x (1 - tax rate) / net working capital + fixed assets
Or
EBIT x (1 - tax rate) / interest bearing debt + equity
Resource Management Measures
Focus on management’s ability to effectively utilize the resources at their disposal, such as fixed assets and working capital
Fixed Asset Turnover
Revenues / Net Property Plant and Equipment
Age of Inventory (In days)
Inventories / Average Daily Cost of Sales
Inventory Turnover
Annual Cost of Sales / Inventories
Age of AR (in days)
AR / Average Daily Credit Sales or Rev
Age of AP (in days)
AP / Average Daily Purchases
Liquidity
A measure that focuses on a firm’s ability to meet its short term obligations
Current Ratio
Current Assets / Current Liabilities
Quick Ratio or Acid Test
(Cash + AR) / Current Liabilities
