Financial Analysis

1. SHV Share price + Dividends 2. How do you in- crease Earnings Per Share (EPS)? Increase net income 3. Revenues -Sales -Goods or services sold 4. Gross profit -Gross income -Gross earnings -Gross margin 5. Operating in- come 6. Income before taxes (IBT) -Operating profit -Earnings before interest and tax (EBIT) -Income before interest and taxes (IBIT) -Earnings before taxes (EBT) -Profit before taxes (PBT) 7. Net income (NI) -Earnings after taxes (EAT) -Profit after taxes (PAT) 8. Income avail- able to common stockholders 9. Analyzing Finan- cial Statements with Ratio Analy- sis Earnings available to common stockholders -Profitability ratio -Asset utilization -Liquidity ratios -Debt utilization ratios -Per share data 10. Ratio Analysis -Compares two numbers from the same year's financial figures -Advantage=Can compare different sized companies -Efficiency Ratios 11. Profitability Ra- tios -Two Ratios: 1) Inventory Turnover 2) A/R Turnover Used to find: -Profit margin -Operating margin -Gross margin -Return on equity 12. Profit margin = Net income ÷ Revenue 13. Operating mar- gin = 14. Gross margin % = 15. Return on equity = 16. Expense to Rev- enue Ratios Operating profit ÷ Revenue Gross margin ÷ Revenue *Remember Gross Margin= Revenue -Cost of General Sales Net income ÷ Equity Used to find: -Research & Development (expenditures to improve ex- isting products or develop new products) -Sales & Management -General and Administrative (expenditures from day-to-day operations) 17. R&D % = R&D Expense ÷ Revenue 18. S&M % = S&M Expense ÷ Revenue 19. G&A % = G&A expense ÷ Revenue 20. Per Share Data Earnings per share - Net income ÷ Number of shares outstanding 21. Efficiency Ratios Measure how efficiently a firm manages its assets 22. Asset Utilization Ratios Used to find: -Receivables turnover -Inventory turnover 23. Receivables turnover = Sales ÷ Receivables 24. Inventory turnover = Sales ÷ Inventory 25. Liquidity The firm's ability to meet short-term obligations; can a company pay its bills? 26. Working Capital Current Assets - Current Liability 27. High liquidity Enhances firm's safety 28. Excessive liquid- ity Reduces firm's return to shareholders *Cash sitting in bank has low return rate, could have the potential to make more if invested 29. Two Types of Ra- tios 1. Current Ratio 2. Quick Ratio 30. Liquidity Ratios Used to find: -Current ratio -Quick Ratio 31. Quick ratio = Cash + Marketable securities + Accounts Receivable ÷ Current liabilities *Uses current ratio but excludes inventory (which is not easily converted to cash--the most liquid) 32. Current ratio = Current assets ÷ Current liabilities 33. Debt Utilization Ratios Used to find: -Debt to total assets 34. Debt to total as- sets = Total debt ÷ Total assets 35. EBITDA -Earnings Before Interest, Taxes, Depreciation and Amor- tization -Eliminates interest and tax from the earnings calculation -Also eliminates "non-cash" expenses (depreciation and amortization) from the earnings -Helps investors understand what a company might "re- ally" be worth based on cash flow -A determining factor of a successful company is how much CASH they have 36. Non-GAAP Fi- nancial State- ments -Sometimes presented in addition to GAAP financial -Excludes some expenses to make the financial state- ments more "understandable" -Definition of non-GAAP is determined by company but must be compatible with GAAP 37. Financial Man- agement -Finance: Effective acquisition and use of money -Money; how to get it -Money; how to use it 38. Financial Plan Objectives -Achieve positive cash flow -Effective investment of excess cash -Positive cash flow: Cash in > cash out 39. Where/how to companies get cash? -Sales (when collecting the A/R--receivable) -Selling assets -Profits (resulting from sales after costs, expenses) -Trade credit (when suppliers give a company 30-45 days to pay) -Commercial loans (borrowing money from bank) -Interest from investments -Bonds (borrow money from Wall St) -Stocks (give up certain control of company to sell shares) 40. 2 Ways to Fi- nance a Busi- ness 1. Debt 2. Equity *CFO's job is to find the right balance between debt and equity to finance a company 41. Debt -Has to be paid back with interest Sometimes have to agree to other terms and conditions (covenants) -Ex) A company can't borrow money from anyone else -Ex) Cash flow of company must be above certain number -Violation of covenant: Pay debt immediately or in short period of time 42. Short Term Debt (Payable in 1 year) -Trade credit (very common, free loan) -Short term commercial loans (bank loan) 1. Secure vs. unsecured 2. Line of credit 3. Covenants 43. Line of credit Deal where bank lends a specified amount of money to an organization upon request 44. Secure loan If I don't pay the loan back, you can take an asset of mine (usually liquid current assets like inventory, accounts re- ceivable); collateral 45. Unsecured loan No collateral based upon good reputation and credit rat- ing, bank can take business to court if not paid 46. Long Term Debt (Payable in over 1 year) -Long term commercial loans; must pay back with interest -Lease: Paying someone for a long term contract for a product -Bonds (for larger companies) 47. Bonds -Corporate debt/Corporate IOU -Promise to pay a certain amount at a certain date with interest payments -All bonds have a denomination; sold in fixed chunks -Principal -Interest Rate/Coupon Rate -Maturity 48. Coupon Rate Known as the annual interest rate percentage of face value a company pays their issuer yearly 49. Principal The value that a bond is issued for at the time that a company or government first sells them; the face value is always a given amount, while the price of a bond will fluctuate over time 50. Maturity The date at which the bond's principal comes due and must be repaid to lenders in full 51. Types of Bonds 1. Unsecured Bonds 2. Secured Bonds 3. Mortgage 4. Floating-Rate Bonds 5. Junk Bonds 6. Bond Ratings 52. Unsecured Bonds Debentures, or bonds that are not backed by specific collateral 53. Secured Bonds Backed by specific assets 54. Mortgage Secured by property 55. Floating-Rate Bonds Bonds with interest rates that change with current interest rates otherwise available in the economy 56. Junk Bonds A special type of high-interest rate bond that carries high- er inherent risks 57. Bond ratings Companies that look at other companies and financials, future and income statement, come to a conclusion of their credit worthiness that helps a perspective buyer choose whether to buy the bond Ex) Bond Rating Agencies: Standard & Price, Moody's 58. Equity -Giving up ownership (share of profits) 59. Reason for inter- est rate on bonds 60. Time Value of Money 61. Future Value For- mula 62. Present Value Formula -When a company sells more shares, pre-existing share holders lose some control (dilution) -May impact value of shares Ex) Originally paid $1000 for shares but with more share- holders, it is now only worth $600 -Incentive to pay back debt faster -Banks rent money with an interest rate from depositors, then rent to consumers with an interest rate; *used to make a profit -Opportunity cost: Have to consider the next best alterna- tive for something, competitive interest rates -A dollar today is worth more than a dollar tomorrow -Present Value: How much you have now -Future Value: How much of what you have NOW grows to, when compounded at a give rate. Or how much you project you will have at some future date. 63. Discounting -The process of translating a future value or a set of future cash flows into a present value -It tells us what a promise of a payment of cash in the future is worth today 64. Interest Rates -Discount rate (Federal Reserve): Charged to commercial banks and other depository institutions on loans they receive from the Federal Reserve Bank's lending facility -Prime Rate: Lowest rate banks charge their best busi- ness customers -Consumer rates 1. Home mortgage 2. Auto loan 3. Credit card 65. Before a busi- ness decides to raise money via debt or equity it should first.... 66. Cash from "man- aging" the bal- ance sheet "Manage" its balance sheet -Collect A/R faster -Pay A/R slower -Reduce inventory (Retail sales) -Sell other assets 67. A/R Accounts receivable is the outstanding invoices a compa- ny has or the money the company is owed from its clients by delivering a product or service -Receivables represent a line of credit extended by a company and due within a relatively short time period -On a company's balance sheet, A/R is recorded as an asset, because there is a legal obligation for the customer to remit cash for the debt. -If a company has receivables, this means it has made a sale but has yet to collect the money from the purchaser. Essentially, the company has accepted an IOU from its client. 68. Government Se- curities -T-Bill: US Federal bond -T-Notes -T-Bonds -Savings bonds (zero coupon) -"Muni" Bonds: Governmental bond not issued by govern- ment, interest is exempt from US -Federal income tax, favorable with those in the high income tax bracket 69. T-Bills, T-Notes and T-Bonds Marketable securities that the U.S. government sells in order to pay off maturing debt and to raise the cash needed to run the federal government. When you buy one of these securities, you are lending your money to the government of the United States. 70. Who is the biggest issuer of bonds US gov (rated as triple A; low risk, high interest rate 71. What factors might impact -How big the company is what interest rate -Credit rating a company might have to pay when it borrows mon- ey? -History of borrowing money and paying back -Financial statements, steady cash flow -Type of industry -Risk of inflation *Long term has higher interest rate=riskier 72. Managing Fixed Assets -Capital budgeting -Assessing risk Ex. of long-term fixed assets: Plants, offices, equipment, heavy machinery, automobiles 73. Capital budget- ing Analyzing businesses' needs and selecting the assets that will maximize its value 74. Capital invest- ment criteria -NPV>0 -Compare the present values (PV) of the expected cash flows in from the investment vs. the present value of the cash flows out to make the investment -ROI (Return on Investment) = Average annual return/av- erage funds invested -Payback period: How long does it take for profits from an investment to cover the amount of the initial investment 75. Payback period Amount invested ÷ Average return per year 76. Investment Banking -Primary market -Secondary market Ex) Goldman Sachs, Credit Suisse, Morgan Stanley, UBS 77. Primary market The market where firms raise financial capital (first time publicly selling) 78. Secondary Mar- ket Stock exchanges and over-the-counter markets where investors can trade their securities with others (stock mar- ket and bond market where anyone can buy or sell) 79. Securities Mar- ket The stock markets and bond markets -Mechanism for buying and selling securities -Providers of liquidity 80. Stock Markets -Biggest markets are the NYSE and the NASDAQ -Both publicly traded, no longer not-for-profit -Electronic trading is faster and less expensive than floor trading and now accounts for most of the stock trading done worldwide -NASDAQ was traditionally an electronic market and NYSE was traditionally a floor-traded market 81. Basic Stock Quote Contains -Stock -Symbol -Volume -Yield -Yield Stock -Yield Bond -Close -Net Change 82. Stock The name of the issuing company; when followed by the letters "pf" the stock is a preferred stock 83. Symbol The ticker tape symbol for the stock Ex) Nike=NKE, SW Airlines=LUV 84. Volume Number of shares traded that day 85. Yield Annual income received from a security ÷ Market price of security (that day) 86. Yield Stock Annual dividend ÷ Stock price 87. Close The last price the stock was sold for 88. Net Change What was the change from the previous day's close 89. Yield Bond The amount of return an investor gets on a bond 90. Capital Gain The difference between the price you buy a security and what you sell it for Ex) Buy a book for $30 and sell for $35 = $5 capital gain Ex) Buy a book for $30 and sell for $25 = $5 capital loss 91. Market Capital- ization Market Cap = Price ÷ Share x Total number of shares outstanding Tells you how much it would cost to buy 100% of the shares in a company 92. How does share- holder equity dif- fer from market -Stocks show future promise in profit -Apple owns things that aren't on the balance sheet; the cap? value of Apple's brand/Mac operating system as an asset isn't counted -Land value can't be changed unless sold 93. Price Earned (PE) Ratio = Price of a share that day ÷ Last 12 months EPS -Describes "how expensive" a stock is relative to its earn- ings -An indication of how high expectations are for the future of the company 94. Dividend Yield = The dividend per share ÷ Stock price 95. The investor's key question in How well are my investments performing relative to the market as a whole? measuring mar- ket performance is... 96. Measuring Mar- ket Performance -Investors and financial managers need to know how a companies' securities are performing compared with competitors' -Averages and indexes are very important to many people because they measure performance -Index -Average -Bull Market -Bear Market 97. Index Comapres current stock prices with those in a specified base period 98. Average The average of certain stock prices and some are weight- ed averages 99. Bull Market Period where stock prices are steadily going up; people are optimistic about the future, willing to buy stock be- cause they think stock will be worth more than they are today 100. Bear Market Investors are pessimistic, stocks are going down and future is bleak 101. Key Market In- dices 1. Dow Jones Industrial Average -Blue chip stocks: 30 nationally reputable, most common- ly seen on DJIA 2. S&P 500: Tracks stock prices of largest 500 companies based on weighted average of market cap (rates compa- ny as a whole, market value of a company's outstanding shares) 102. Companies get money from debt and equity but where does the money come fries? 103. Where do banks/wall st get money? 104. How do house- holds decide how/what to in- vest in? 105. Investment Port- folio 3. NASDAQ Composite: All the stocks traded on the stock exchange based on weighted average 1. Banks 2. Wall St (Stocks, bonds) Household deposits in the form of pension/savings -Income: Living off savings for retirement; should invest in corporate bonds that pay regular interest every 6 months; stocks that pay dividends -Growth: Mid career couple should invest in riskier stocks with the potential to grow to gamble for money in the future) -Safety: The older you get and the less money you have, the more concerned with safety you should be -Liquidity: Mid career household with kid starting college would want to invest in something that can be converted to cash quickly -Tax consequences -Risk profile: How comfortable are you with taking risks with investing Assortment of investments that a household has -Diversification 106. Diversification Advising people to invest in many things rather than just one 107. How do you start diversification? Ex) Different companies, industries, geographies, term (long, short), kinds (equities, debt, real estate, other -Reduces risk-don't put all your eggs in one basket -Reduces upside 1st Level of Diversification = Asset Allocation -Strategy to determine the appropriate mix of asset class in an investment portfolio -The right allocation depends on the investor's criteria, age (attitude towards risk), analysis of market conditions, future expectations 108. Asset Class Stocks, bonds, cash, real estate 109. Schwab recom- mendations for asset allocation 110. Conservative In- vestor 111. Aggressive In- vestor -Conservative Investor -Aggressive Investor (Very safe, liquid and low growth rate) -A relatively short time horizon (under 3-5 years), a want for current income and stability, not concerned about increasing the value of your investments (Very risky, experienced with investing) -A long time horizon (15 years+), concerned about invest- ments growing in value and not about current income 112. Mutual fund -Normal person gives sum of money to investment com- panies to invest in different stocks or bonds for the -Many "styles": by sector, market cap, risk level, growth or value, geography 113. 3 Concepts Ac- counting is Dri- ven By 114. Types of Finan- cial Statements 1. Accounting Equation Assets - Liability = Equity 2. Double-Entry Bookkeeping: Debits and credits, two entires because of algebra usage 3. Matching Principle/Accrual Accounting: Transaction must represent economic substance 1. Balance Sheet 2. Income Statement 115. Balance Sheet Accounting equation of a company in a specific moment in time -Can have negative net worth 116. Current Asset Something you own that is already cash or can be con- verted into cash in one year with intent 1. Cash 2. Marketable securities (stocks/bonds) 3. Accounts Receivable: $ owed to us by customers-given a 30-45 day span 4. Inventories: Stuff a company has purchased or already made that will eventually be a sold product 5. Miscellaneous prepaids 117. Fixed/Long-Term ANsostevtesry liquid, but intended to convert to cash within next year Ex) Machinery, houses 118. Goodwill The additional amount that a company acquires in acqui- sitions 119. Importance of current asset or- der -What comes up first in current assets is most like cash -Can turn into cash within one year -Declining order of liquidity 120. Liabilities (Must be paid within one year) -Accounts Payable: Money we owe to someone (suppli- ers) or things we've purchased -Accrued Expense, Accrued Liabilities: Things we owe but haven't received bill for Ex) Financial statement due on Oct 16 but gas bill comes out Oct 30, must estimate how much you owe; money that employers owe employees for salary -Current Portion of Long-Term Debt: Money we borrowed that must be paid back within the year 121. Deferred Rev- enue (Liability) 122. Income State- ment 123. Accounting Fraud 124. Revenue Re- quirements Money is collected, product/service has not been deliv- ered yet Ex) Apple Care warranty (Statement of Operations) -Over a period of time -Compare periods of time with the same period the pre- vious year because businesses are seasonal (customer spending habits) Rev - Cost = Total - Expenses + Tax + Profit Inflate revenue 1. Price needs to be fixed (buyer and seller agree on price) 2. Seller needs reasonable assurance they will be able to collect money 3. All of the seller's work associated with the product need to be complete (when you make an magazine sub- scription for 12 months and hypothetically pay $120, the seller can't count that as revenue because they haven't delivered all the product, so they must make time slices and estimate how much the revenue per month is) 4. Product needs to have shipped and be on way to buyer 125. COGS (Cost of Goods Sold) -Not the cost of the product you make, but the cost of the product you've SOLD 126. OPEX (Operating Expenses) Ongoing recurring costs unrelated to products sold Ex) Paying employees regardless of products sold 1. Research and Development (R&D) 2. Sales and Marketing (S&M) 3. General and Administrative (G&A): Everything leftover, legal salaries, accounting bills 127. EPS (Earnings Per Share) Profit after tax (net income), number of shares outstand- ing 128. Net of deprecia- tion The estimated reduction in the value of an asset, due to wear and tear over time Ex) Cars, not land 129. Index Fund -Mutual funds that try to match the returns of a market index (ex. Standards & Poor's 500 Index or Schwab 1000 Index) -When you invest in index funds, you are essentially seek- 130. Money Market Fund 131. Household In- vestment Strate- gies ing to "buy the market" and not trying to outperform it -Also called ETF's (Exchange traded funds) -Traded like stocks -Like a checking account at a broker firm -Mutual funds that invest in very short term, safe, liquid securities (CD's, treasury bills) -Relatively low rate of return because almost no risk -Offered by brokers as a place to park cash -Often can be used like a checking account -DIY stock/bond picking (insufficient in long term) -Use full service broker to do asset allocation (inefficient b/c brokers have high commission) -DIY asset allocation and buy mutual funds -DIY asset allocation and buy Exchange Traded Funds yourself (common b/c its cost effective) -For wealthier households: pay a "money manager" "Robo Advisor" ex) Wealthfront (New and emerging robot stock broker, low fees) 132. Types of Brokers -Full service (Merill Lynch) -Discount brokers (Schwab) -E-Trade -Robo Advisors 133. 133. Types of Ac- counts 134. Ways to Buy Stock 135. How Brokers Make Money -Regular brokerage account 401K (through employer; no tax until retire; employer will match account) -IRA (individual retirement account; for self employed people) -Savings account (commercial bank) -Individual CD's (certificate of deposit) With or without FDIC insurance *Big companies are no longer offering pensions for em- ployees, instead they offer a 401K -Market order: Buying or selling shares at current market prices -Limit order: Buying or selling stock at a specific price (Ex. If Apple stock hits 200, buy it) -Margin trading: Stock broker will lend money to buy stock (Ex. Too many people taking out loans can cause a stock market crash) -Commissions Spreads: May not be getting best price from broker Other fees: Ex) Setting up money mutual funds, research- ing fees 136. Options Market Can make bets that a stock will go up or down without buying; done by most sophisticated traders; gambling 137. Commodities Market -Raw materials and agricultural products (ex. Oil, gold, coffee, lard, beef) -A promise for future delivery at a fixed price -Allow users and producers of commodities to fix their future prices and protect themselves against price swings -Trading commodities is not a sport for amateurs Ex) Budweiser needs wheat for beer, if company suspects a price will go up, they will want to fix a lower price and lock in supply for brewery; good for farming supplier because it's a no risk transaction 138. Hedge Fund -A private investment fund that can invest in a range of assets (public and private equities, bonds, commodities) -Enter in a limited partnership with wealthy investors who make risky investments -Fund manager takes a fee and piece of the profits -Sometimes the fund is leveraged (they borrow money) -Usually not very liquid, must give notice before pulling out money -Not very regulated 139. Public Company Reporting 140. Annual report 10-K -SEC: Mandates certain reporting to the public to boost public confidence to buy and sell shares -Annual report 10-K -Quarterly Report 10-Q -Proxy statement def 14a -8-K, S-1, Form 4: For changing executive compensation, winning big lawsuits Annual report to SEC containing management financial analysis, risk factors—what investors should consider be- fore buying stock 141. Quarterly report 10-Q 142. Proxy statement def 14a 143. Public an- nouncements 144. Rules FD—Fair Disclosure Public companies must disclose shorter report of quarter- ly earnings) -Most shareholders don't go to annual meeting in person, so they vote in proxy -Will receive proxy statement which tells who you're voting for, info on executive compensation—money made by top 5 executives, director compensation, largest sharehold- ers -Quarterly results -Annual results -Shareholders meeting -Earnings conference calls (CEO and CFO talk about results, allow questions) -Public presentations -Annual report (glossy) -Press releases -Material events -Guidance about future results If you share information with someone, it must be shared with everyone 145. Insider trading No trading with insider information