Understanding Financial Information
Nicola Comninos
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Why Financial Information is Important
• One of the best ways for investors to understand how well or badly a company is operating
• Investors look at:• Earnings and Revenue Growth
• How much the company earns and whether it's growing its sales
• Is the company growing or declining • A company's earnings and revenue can be compared with its share price to tell you if a share is expensive or reasonably priced.
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Why Financial Information is Important
• Cash flow trends• Difference between earnings and cash• Cash is money in hand vs. earnings and net income (accounting standards)
• Investors need to know whether cash is more than revenue
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Why Financial Information is Important
• Debt• Companies can also borrow too much • Debt is not always bad – as long as companies are able to generate cash to pay the debt
• Investors need to understand howmuch debt companies have and how that debtcompares with a company's ability to pay it back
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Financial Statements
• Company financial information help investors in making investment decisions• Financial statements serve as scorecards or thermometers of the financial soundness of a company
• Investors want a strong return on investment (ROI) wheninvesting their money in a company
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Financial Statements
• Balance Sheet• Assets• Liabilities• Equity
• Income Statement• Revenue • Expenses
• Cash Flow Statement• Inflow and outflow of cash
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Balance Sheet
• Gives an indication of the company’s financial position at certain point in time
• It offers a view as to what the company:• Owns• Owes• Amount invested by investors
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Income Statement
• Measures a company’s financial performance over a certain period of time• Keeps record of all the income and expenses and the resultant P&L earned
• Earnings Before Interest and Tax (EBIT)• Also known as operating profit or operating earnings• Looks at the core operating performance of the company• Difference between operating revenue and operating expense
• Net Profit After Tax (NPAT)• Net amount earned after taxes• Good indication of what the business is really earning
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Cash Flow Statement
• Shows how changes in the balance sheet and income statement affect the company’s cash and cash equivalents
• It is a snapshot of the company’s resources and commitments• Company needs to know what cash is flowing in and what cash is flowing out
• The statement helps to determine the short‐term viability of the company to pay its bills
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Financial Ratios
• Investors and analysts use financial ratios which are calculated from the company financial statements• They indicate how well a company is operating/performing (health)
• Liquidity (cash)• Speed of sales• Debt levels
• Gives a short answer to lots of financial data• Helps to compare a company’s financial performance to its industry peers
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Financial Ratios: Working Capital Ratio
• Working Capital Ratio looks at how much current assets (e.g. cash) a company has in order to pay its short term debt and how quickly it can do so• e.g. 2:1 (twice amount cash than short term debt)• A company needs “freed up” cash
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Financial Ratios: Earnings per Share (EPS)
• As an investor you want to know and understand the potential earnings or loss of the company• It considers the capital required in the business to generate net income
• Looks at the net income earned per share• e.g. Assume 2 companies
• Both have same EPS• But one has fewer shares than the other
• This company is more efficient at using its capital to generate income ‐ it is the “better” company
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Financial Ratios: Headline Earnings per Share (HEPS)
• Similar to EPS but…• excludes profits or losses from extraordinary or abnormal events e.g. sale or termination of discontinued operations, write offs etc.
• Can use HEPS and EPS to compare companies across the board
• Diluted EPS• More shares were issued by the company therefore “diluting” the earnings per share
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Financial Ratios: Price/Earnings Ratio (P/E)
• Looks at the share price (market value) of the share divided by its EPS• It shows how much investors are willing to pay for each Rand of the company’s earnings
• Shows the investor’s confidence in the company’s profitability
• High P/E generally more “risky” as it signifies high expectations
• e.g. P/E = 20 • It will take 20 years of the company’s current profitability before the investor’s investment is “repaid” by the company
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Financial Ratios: Debt‐Equity Ratio
• Looks at what portion of the company’s equity and debt the company is using to finance its assets
• High D/E ratio = aggressive in financing its growth with debt i.e. more risky
• “high” is also relative to the industry in which the company operates e.g. capital intensive industries
• Low D/E ratio = more equity (shareholder money) used to finance its growth
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Financial Ratios: Return on Equity (ROE)
• Looks at how much profit a companymakes with the money shareholders have invested
• Sees how well a company uses its investment funds to generate earnings• 15‐20% = generally a good return
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Market Information
• Listed companies’ share prices move up and down • Driven by demand (investors wanting to buy)
• share price increases
• Driven by supply (investors wanting to sell)• share price decreases
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Market Information
• “The JSE was UP/DOWN for the day”• Generally refers to the FTSE/JSE All Share Index
• The index is a ruler or thermometer of JSE market sentiment
• If sentiment/attitude towards the market was positive (black/green)
• more investors would invest money and buy shares• The index would then rise
• If sentiment/attitude towards the market was negative(red)
• more investors would not invest money and sell shares• The index would then fall
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Example: FTSE/JSE All Share Index
1 Oct: 48 875.032 Oct: 48 189.05
• The “market fell” by 1.4% or 685 index points
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FTSE/JSE All Share Index
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Questions ?
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