Auditing and Analyzing

Auditors

• Independent 3rd party that reports/investigates financial statements from a company– Checking for accuracy– Puts a “stamp of approval” on statements when

finished if done correctly.

Who hires them?

• A business must hire an auditor if they are presenting their financial information to the public

• Relationship: Auditor wants to be hired/paid, company wants that stamp of approval.

• Puts the auditor in a difficult position. Why?

Example

• You had to hire a teacher to mark your papers to get credit for the course.

• You want it marked but you don’t want to pay too much. – Different teachers would develop reputations for

who marked easier. – You would chose the easier one if the price was

the same. • Same thing in the business world.

Analyzing Financial Statements

• Questions a stakeholder might want to get answers for from a statement. – How much money is the business making

(Profitability)– How well can the business pay its bills. (Liquidity)– Growth over the past year vs. lifetime of the

company– Potential competition.

Financial Ratios

• To even the playing field between large business’s and small business’s, we use financial ratios. – Helps give accurate data – Reflects the business itself, not just the “bottom

line”

Profitability Ratio’s

• Return on Assets (ROA)– Net Income / Total Income. – The higher the % the better a company is doing.

• Profit Margin– Net Income vs. Total Revenue– The higher the % the better a company is doing.

Liquidity Ratio’s

• Liquidity refers to how quickly a business can turn its assets into cash– I.E. a vehicle or furniture might have high liquidity while

a building or land would have lower liquidity. • Current Ratio: – Current assets / Current Liabilities– Higher the better

• Acid Test Ratio (Quick Ratio)– Cash / Current Liabilities– Higher the better.

Make or Buy?

• Should a business make an item themselves or contract it out? – Ultimately comes down to cost– How can we save the most money?

Example

• A car plant needs to have manual transmissions for its new model truck.

• To make them, the costs involve a new building at the plant for $1,250,000, and labour costs of $40/ transmission, materials of $180/ transmission, and other variable costs of $40/ transmission.

• A nearby company can make them for us for $350/ transmission.

• If we need 5000, should we make them or buy them?

Volume Make Buy

5000 1,250,000+ (260)5,0002,550,000

BUY! 350(5,000)1,750,000

10000 1,250,000+ (260)10000 3,850,000

BUY! 350(10,000) 3,500,000

15000 1,250,000+ (260)15,000 5,150,000

MAKE! 350(15,000) 5,250,000