Week 4 -equity and credit analysis Flashcards
(25 cards)
what is the purpose for advanced dupont analysis - equity and credit analysis
to help to distinguish between operating and finance activities
What is operating assets or liabilities
are assets and liabilities that are due to operating activities arising from a companies operations to provide products and services to customers. e.g providing deferred compensation for pension plans (pension plans are operating liabilities)
what is a conventional balance sheet
A balance sheet that Organises assets and liabilities according to whether they are current or non-current
Giving an indication of the liquidity of assets and maturity of liabilities
Reflecting a company’s ability to meet creditors’ claims on cash
But inconvenient for assessing the value of the company From a valuation perspective, better to organize assets and liabilities according to the operating vs. financial distinction of their economic
nature
what are financial assets or liabilities
Assets or liabilities that are related to debt or equity investment, debt financing, derivatives - they cannot be classified as operating activitoes. e.g. real estate that is held for an investment is a financial activity (asset)
what is the formula for NOA
Net financial Assets= NFO+TE OR NOA+NFA = TE
is cash a finance activity or an operating activity
Working cash (an OA)
Cash necessary for making payments to facilitate operations
Excess cash (a FA)
cash that may be distributed back to the shareholders without
reducing the company value by more than the cash value of the
distribution
What is the formula for return on net operating assets
net operating profit after tax/ net operating assets (NOA)(average 2 years for NOA)
What is the formula for return on net financial assets
RNFA = Net financial income after tax (NFI)/ Net financial OBLIGATIONS (LIABILITIES)(NFO)
or financial income / financial liabilities
what is the formula for net borrowing costs
NBC = Net financial expense after tax(NFE)/net financial obligations (NFO)
from the ratios that we have learnt in this topic what can ROE be also written as
return on net operating assets+ financial leverage
where financial leverage = total assets/ total equity
when the company has more financial assets than debt meaning NFO<0 what does it mean?
It means that the firm is a net lender not a net borrower.
Formula of ROE in this case would look like so:
ROE=RNOA−(NFA/TE)×(RNOA−RNFA)
what is equity analysis
We can use ratio analysis to perform an evaluation of a stocks merits for inclusion or retention in a portfolio. we can use it for screening purposes to set a criteria or benchmark for comparison. There are many different type e.g price to book, P/E ratio, price to operating cash flow etc, market value of common equity etc
what is Price to earnings - P/E ratio?
Market price per share/ Earnings per share (EPS)
Example:
Market Price per Share = £50
EPS = £5
P/E= 50/5 =10
This means investors are paying £10 for every £1 of earnings.
Interpretation:
High P/E: Market expects future growth (but could also mean overvaluation).
Low P/E: Could signal undervaluation or poor growth prospects.
What is the formula for EPS
Net income/ Number of outstanding shares
what is the formula price to operating cash flow ratio
Price/ Operating cash flow
what is market value of common equity?
MV = share price*number of common shares outstanding
What is the formula for book value (BV) of common equity
Total equity- Preferred equity - non controlling interest. Normally BV>1 because assets should be deployed to create value in the future
what is NOPAT
Net operating profit after tax
what is the purpose of reformulated income statement
To distinguish if the firm has a net operating Asset(NOA) via a profit or a net operating liability via a loss - this is used for the return on equity formula to allow us to make better analysis of our figures
what is the formula for financial leverage
Total assets(net financial obligations)/ Total equity
Net financial obligations = financial liabilities-financial assets
why do we use the altman z score and what is it.
We use the Altman Z score as its difficult to compute a large amount of companies against a criterion.
The Altman z score is a a composite score which is used to predict corporate i.e. bankruptcy) up to 5 years.
what is credit analysis
Credit analysis refers to the evaluation of credit risk
ie, the risk of loss caused by a counterparty’s or
debtor’s failure to make a promised payment
eg, a bond issuer not being able to pay interest and
principal as due
can we use the altman z score for screening credit
Yes as While Z-score may be used as a criterion for screening
stocks in equity analysis,
it was originally developed to determine which ratios
are useful in assessing the risk of bankruptcy
therefore is often used for credit analysis
How is net operating assets calculated when you do a reformulated balance sheet
operating assets- operating liabilities
