financial analysis W3L2

Question 1

What purpose do financial ratios serve in interpreting financial data?

Answer 1

• Financial ratios are the primary tool used to interpret financial data.
• They offer a systematic and consistent framework for assessing company performance and positioning.

Question 2

How do analysts use financial ratios in assessing businesses?

Answer 2

• Analysts use ratios to determine which businesses are performing the best, possess attractive characteristics, or are considered the safest.

Question 3

What is the significance of the structure of financial ratios?

Answer 3

Financial ratios are structured in a way that allows companies of different types and sizes to be analysed using a common set of calculations.

Question 4

how do ratio calculations work and what do they measure?

Answer 4

• Ratios combine information from Income Statement, Balance Sheet, Cash Flow, stock market, other sources
• They measure relationship between related but mutually-independent items of financial and numerical data

Question 5

what units of measurements are used in financial ratios:

Answer 5

• percentage
• multiples

Question 6

what are the 3 types of comparisons in ratios and list their benefits and comparators used:

Answer 6

• between companies
• over time
• across ratios

Question 7

What general principle guides the interpretation of ratios?

Answer 7

a higher ratio is considered better

Question 8

How are figures typically interpreted when calculating ratios?

Answer 8

“Adjusted” figures from the income statement are commonly used for ratio calculations

Question 9

difference between growth and profitability

Answer 9

growth:
- year on year
- compound
- measure success in expanding a firm over different timeframes
Profitability:
- operating margin
-return on equity
- measure success in generating profit vs productive potential

Question 10

why does growth matter?

Answer 10

drives key outcomes for stakeholders inc:
- share price and growing dividends for shareholder
- ability to repay borrowings for the banks
- good for management

Question 11

where is growth measured in top and bottom half:

Answer 11

top half:
- revenue
- cost of goods
- operating/pre-tax profit

bottom half:
- tax
- earnings per share
- dividends per share

Question 12

what is the formula for the year on year growth

Answer 12

(most recent number -previous)/previous x100

Question 13

what is the importance of long term growth

Answer 13

• only covers 12 months
• analyst also want to measure longer term trends

Question 14

What problem arises with path-dependent arithmetic averages in growth measurement?

Answer 14

They are easily influenced by short-term fluctuations, providing a distorted view of long-term patterns.

Question 15

What solution is preferred by analysts to accurately capture long-term performance trends?

Answer 15

Analysts prefer using the geometric average, which represents the steady annual percentage change from start to end values.

Question 16

What specific metric encapsulates a steady annual growth needed for accurate long-term growth representation?

Answer 16

Compound Annual Growth Rate (CAGR) embodies the consistent annual growth required to reach the final value from the initial value.

Question 17

what is the term profitability interchangeable with?

Answer 17

margins and return

Question 18

why do both profit and compound growth matter?

Answer 18

we need profit as the more profit we have means more reinvestment and higher growth rate this allows the compound growth to generate the given profit and are reinvested to drive further growth

Question 19

formula for operating margin:

Answer 19

operating profit /revenue

Question 20

What are the alternate names for Operating Margin?

Answer 20

Pre-Interest Margin, Trading Margin, Return on Sales (ROS).

Question 21

unit of measurement for Operating Margin?

Answer 21

percentage (%).

Question 22

How should one interpret Operating Margin?

Answer 22

The higher the Operating Margin, the better, as it indicates greater profitability.

Question 23

What are some analytical considerations regarding Operating Margin?

Answer 23

• Good at capturing short-term trends but only measures profitability within the income statement.
• Does not indicate how effectively balance sheet resources are being utilized.

Question 24

define and formulate Return On Equity

Answer 24

• Measures how effectively a company is generating returns
  in relation to the balance sheet resources provided by shareholders

pre tax profit/ equity shareholders funds

Question 25

formula for ROCE and define

Answer 25

operating profit/ total equity + non current liabilities x100

-measures return for shareholders

Question 26

what does ROCE measure

Answer 26

returns generated on a company’s total capital base