Use of Accounting Information in Business Analysis and Valuation (L2).pptx

use of accounting information in business

1. OTHMAN YEOP ABDULLAH GRADUATE SCHOOL OF BUSINESS BDAK8033 ACCOUNTING PRACTICE AND REGULATION Use of A ccounting Information in Business Analysis and Valuation

2. Financial statement analysis techniques Graphics Regression Common-Size Analysis Financial Ratio Analysis

3. Graphics

4. Graphics

5. Regression

6. Comparative Statement Analysis Comparative Statement Analysis are useful in analyzing the changes over time. They carry the data relating to two or more years then facilitate the comparison of an item with previous years.

7. Common-size Analysis Common-size analysis: Express financial data, including entire financial statements, in relation to a single financial statement item or base. In common-size analysis, all items will be expressed as percentage to the sales.

8. Financial Ratio Analysis Express one number in relation to another. Standardize financial data in terms of mathematical relationships expressed as percentages, times, or days. Facilitate comparisons—trends and across companies. Normally Ratios are interrelated

9. Financial Ratio Analysis Rate of return =Amount of return/Amount invested ROE = Net income/Average equity Gross profit margin = Gross profit/Revenue Operating profit margin = Operating profit/Revenue Net profit margin = Net profit/Revenue Asset turnover = Revenue/Average total assets

10. Financial Ratio Analysis Inventory turnover = Cost of goods sold/Average inventory Receivables turnover = Revenue/Average receivables Payables turnover = Purchases/Average trade payables

11. Financial Ratio Analysis Current ratio = Current assets/Current liabilities Quick ratio = (Cash + Short-term marketable investments + Account receivables)/Current liabilities Cash ratio = (Cash + Short-term marketable investments)/ Current liabilities

12. Financial Ratio Analysis Debt-to-assets ratio=Total debt/Total assets Debt-to-capital ratio=Total debt/Total debt + Total shareholders’ equity Debt-to-equity ratio=Total debt/Total shareholders’ equity Financial leverage ratio=Average total assets/Average total equity Interest coverage= EBIT /Interest payments

13. Financial Ratio Analysis P/E= Price/Earnings per share Dividend payout ratio=Dividends per share/Earnings per share Dividend yield=Dividends per share/Price Retention rate=1-Dividend payout ratio

14. Red Flags and Warning Signs 1. Heightened Inventory It is common for a business to expand its product line, which increases inventory. However, if inventory is going up, but nothing has changed within a company's offerings, it may mean items are not selling. In many industries, the longer a product remains shelved, the bigger the risk it has of becoming obsolete or spoiling. 

15. 2. Mounting Receivables Although a large account receivable figure may seem good, it is only profitable if it can be actually collected. In the business world, the longer an account goes without being paid, the more unlikely it is that your company will see compensation. When receivables begin to mount, it may be necessary to adjust your collections process and become stricter with your credit policies. Red Flags and Warning Signs

16. Red Flags and Warning Signs 3. Disposal of Fixed Assets It is totally acceptable to sell old equipment that is not being utilized or that has stopped performing effectively. However, the proceeds should never be used to pay down debt or be put toward short-term expenses. When this occurs, it may cause problems for the company's future operating expenses.

17. Red Flags and Warning Signs 4. Patterns of Poor Cash Flow Even though a business shows a profit on paper, it may still be cash poor. When cash does not flow into the business, investors may start to worry receivables are not being collected properly, revenue is being exaggerated, or you are struggling to pay your loans. If net cash flow is constantly low, you may suffer a cash crunch. When this happens, it is essential to identify the cause. 

18. Red Flags and Warning Signs 5. Non-Operating Income Investors and creditors love to see consistent income from continuing operations. They’re more wary of income from other sources, like large, one-off sales, gains from the sale of fixed assets, and gains from the sale of investments. These non-operating revenues aren’t as valuable because there’s a strong possibility this revenue won’t reoccur.

19. Red Flags and Warning Signs 6. High Number of "Other" Expenses Many companies have "other" expenses that are very small or inconsistent. This is normal and is reflected in the balance sheet and income statements. However, when these items have high values, it is a definite red flag and needs to be checked. 

20. Red Flags and Warning Signs 7. Large last-minute transactions that result in significant revenues in quarterly or annual reports. 8. Changes in auditors over accounting or auditing disagreements (i.e., the new auditors agree with manage and the old auditors do not). 9. Insistence by the CEO or CFO that he/she be present at all meetings between the audit committee and internal or external auditors.

21. Red Flags and Warning Signs 10. Financial results that seem “too good to be true” or significantly better than competitors - without substantive differences in operations.

22. Accounting numbers in financial markets The accounting number plays a major role in the construction of financial markets. Accounting research has not produced much insight into the calculative practices of financial analysts and investors, and their uses of accounting concepts and figures in the production of corporate valuations (Vollmer, Mennicken ,& Preda , 2009).

23. Accounting numbers in financial markets Financial statement are widely used by stakeholders to assess the economic value of firms on assumptions that accounting numbers have a certain relationship with equity market values. The great majority of empirical research into the value relevance of accounting numbers ( book value of assets and earning) has been carried out in mature capital market environment. Accounting numbers are used in a decision making as a proxy for market value.

24. Accounting numbers in financial markets Change in relevance of accounting numbers such as intangible intensity, growth of sale, cost of capital and non-recurring items are all inversely associated. Firms with positive earning showed a significant association between accounting numbers and market returns. Earnings have value impacts in line with profitability and growth.

25. Accounting numbers in financial markets Accounting information is thought to facilitate the prediction of firm’s future cash flows and to help investors predict the future security’s risk and returns. Omura (2005) provided the evidence that net assets have significant relevance for market values in the Japanese stock markets. Clout (2007) studied the Australian firms and empirically reported that there is an equilibrium correlation relationship between market values and accounting numbers.

26. Accounting numbers in financial markets Earning per share is statistically has significant influence on the market prices ( Riaz , Liu, & Khan, 2015). Kadri & Mohammed (2007) empirically found that there is significant relationship exists in the accounting numbers and market price.

27. Accounting numbers in financial markets There is a strong relationship between accounting numbers and market values of 59 firms listed on Jakarta Stock Exchange (JSX) (Suwardi,2004). Earnings have significant weight in the firm valuation ( Pervits et al. 1994). Finally, Many researchers, practitioner and investors have tried to predict the market prices with different methods and variables. But even though extensive body of literature in this issue is available, but still unsolved issue and requires more research ( Riaz , Liu, & Khan, 2015).

28. References Chen, C. J., Chen, S., & Su, X. (2001). Is accounting information value-relevant in the emerging Chinese stock market?.  Journal of International Accounting, Auditing and Taxation ,  10 (1), 1-22. Omura , T. (2005). The relationship between market value and book value for five selected Japanese firms. Riaz , S., Liu, Y., & Khan, S. H. (2015). Exploring the Relationship between Market Value and Accounting Numbers of Firms in Pakistan.  Asian Journal of Finance & Accounting ,  7 (1), 230-238. ‏ Suwardi , E. (2004).  Exploring the relationship between market values and accounting numbers of firms listed in an emerging market  (Doctoral dissertation, Queensland University of Technology). Vollmer, H., Mennicken , A., & Preda , A. (2009). Tracking the numbers: Across accounting and finance, organizations and markets.  Accounting, Organizations and Society ,  34 (5), 619-637. Zulkifli , M., & Kadri , M. H. (2008). Relationship between market value and book value of Malaysian firms under pre and post FRS. http://dx.doi.org/10.2139/ssrn.1440771

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