PHILIPPINE CHRISTIAN UNIVERSITY

Sampaloc 1, Dasmarinas City, Cavite

WRITTEN REPORT
IN
CONTROLLERSHIP
Financial Planning: Tools and Techniques

Presented by:
Consolacion, Zaira Joyce S.
Dumaguit, Leohill I.
Laguardia, Gino M.
Malabaguio, Allaine Jennica C.
Pia, Rhealyn E.
BSBA in Microfinance and Accounting

FINANCIAL PLANNING; TOOLS AND TECHNIQUES

Most business decisions affect the financial resources of a company, financial
planning is part and parcel of corporate, strategic, operational and project
planning in an enterprise. It requires knowledge of economics and proficiency in
the use of tools an techniques in processing and interpreting financial data.

FINANCIAL, CORPORATE, STRATEGIC, PROJECT AND

OPERATIONAL PLANNING DEFINED
Financial Planning - refers to the process of determining the best use of the
financial resources of an organization.
Corporate Planning - a formal, systematic, managerial process, organized by
responsibility, time and information, to ensure that operational planning, project
planning and strategic planning are carried out regularly.
Strategic Planning is the process of making decisions which will tend to
optimize the organizations future position despite changes in future environment.
Project Planning refers to working out the detailed execution of an action
outside the scope of current operation s such as acquisition of another company, a
new plant, a new market or adopt a new system.
Operational Planning refers to forward planning of existing operations. It
involves the determination of how to effectively use current resources to attain
both short- range and long- range objectives.

THE FINANCIAL PLANNING PROCESS

In planning the best use of a firms resources, the different steps followed are based on
the following questions:
1. Where are we now?
- This requires the analysis of the current financial statements of the company.
2. How did we get here?
- This requires the interpretation of historical data which may reveal causes of current
financial stability or difficulty.
3. Where do we want to go?
- The different alternatives are evaluated and the best choice is made considering the
project outcomes.

Budgeting, Its Objectives and Budgetary Control

Budgeting is a process. This means budgeting is a number of activities
performed in order to prepare a budget. A budget is a quantitative plan used
as a tool for deciding which activities will be chosen for a future time period.
The objectives of budgeting are the following:
1. Planning. The financial plans of the different sub-units are prepared
geared towards the attainment of the companys predetermined
objectives.
2. Coordination. The unification, integration, synchronization of the
efforts of group members so as to provide unity of action in the pursuit
of common goals.
3. Control. Budgeting provides management with the yardstick in
evaluating performance.
Budgetary Control refers to the use of budgets and budgetary reports to
coordinate, evaluate and control day-to-day operations to attain the goals
specified by the budget.

Sources of Capital
The total capital of a business, consists of borrowed and equity capital.
Equity capital. This refers to the financial resources provided by owners
of the business. It may be in the form of initial and additional investments plus
earnings in the business. (Asset-Liabilities= Equity)

Effects of Dividends on Equity Capital

Borrowed Capital
Capital acquired that gives to a liability (or debtor creditor relationship ) is
borrowed capital. Increase in liabilities are effected in a number of ways and
some of them are as follows:
Purchasing goods, property and equipment and availing of other
parties services on account or charge basis.
Obtaining loans from financing companies.
Receiving advances from officers and affiliate companies.
Issuing commercial papers.
Discounting notes receivable (or promissory notes received from
customers and other third parties).
Floating bonds.
Borrowed capital is differentiated according to the duration of the availability
of funds into short-term, middle-term and long-term borrowed capital.

Making use of borrowed capital is an example of financial leverage.

Financial leverage refers to the use of debt to acquire additional assets.
Financial leverage is also known as trading on equity.
Example:
Mary uses $400,000 of her cash to purchase 40 acres of land with a total cost
of $400,000. Mary is not using financial leverage.
Sue uses $400,000 of her cash and borrows $800,000 to purchase 120 acres
of land having a total cost of $1,200,000. Sue is using financial leverage. Sue is
controlling $1,200,000 of land with only $400,000 of her own money.

If the properties owned by Mary and Sue increase in value by 25% and are
then sold, Mary will have a $100,000 gain on her $400,000 investment, a 25%
return. Sue's land will sell for $1,500,000 and will result in a gain of $300,000.
Sue's $300,000 gain on her $400,000 investment results in Sue having a 75%
return. When assets increase in value leverage works well.

Cost of borrowed capital

Interest is paid on borrowed capital. In as much as it is deductible for income
tax purposes, the corresponding tax benefit is treated as adjustment to
interest expense in computing for the cost of borrowed capital. This cost is
therefore computed as follows:
Cost of borrowed capital = Interest x (1-tax rate)
Example: IGOP corp. obtained a 20%, P200,00 one-year loan from ABC
Financing Company. Income tax rate is 35%. The cost of capital from this
source is computed as follows:

Cost of borrowed capital = 20% x (1-35%) = 13%

Proof:
Interest of 20$ on P200,00
Tax Benefit (35% of P40,00)
Interest expense
Percentage (P26,000/P200,000)

P40,000
14,000
P26,000
13%

Analysis of Financial Statements

Financial Analysis
- refers to examination of financial data of an entity to determine its profitability,
growth, solvency, stability and effectiveness of its management.

Users of Financial Statement Analysis

There are a number of users of financial statement analysis. They are:
a. Creditors
b. Investors
c. Suppliers
d. Management
e. Regulatory Authorities

Different Tools and Techniques Used in Financial Analysis

For Short-term Decision Making
A. Analysis of Financial Statements
1. Horizontal Analysis
a. Comparative Statements
- a statement which compares financial data from different periods of time.
b. Trend Ratios
- the financial statements of the company are compared with each other for
the several years after converting them in the percentage.
c. Gross Profit Variation Analysis
- is designed to pick apart the reasons why the gross profit margin changes
from period to period, so that management can take steps to bring the gross
margin in line with expectations. ( Sales- Cost of Sales )
d. Analysis of Change in Net Income
2. Vertical Analysis
a. Common size Statement
- a standardized financial statement presenting all items in percentage terms.
b. Financial Ratios
- is a relative magnitude of two selected numerical values taken from an
enterprises financial statements.

B.

Working Capital and Cash Flow Analysis

- working capital is an important part of a cash flow analysis. Computing the
amount of working capital gives you a quick analysis of liquidity of the
business over the future accounting period.
Current Assets Current Liabilities = Working Capital

C. Cost Volume Profit or Break Even Point Analysis

- is used to determine how changes in costs and volume affect a companys
operating income and net income.
Sales price per unit = constant
Variable costs per unit = constant
Total Fixed costs = constant

Example of Comparative Income Statement and Common Size Statements

For Long-Term Decision Making

A. Payback Period
- the amount of time required for an investment to generate cash flows
sufficient to recover its initial cost.
Payback Period (even cash flow) = Initial Investment / Cash Inflow per period
Payback Period (uneven cash flow) = A + (B / C)
A= the last period with a negative cumulative cash flow
B = the absolute value of cumulative cash flow at the end of the period A
C = the total cash flow during the period after A
Example 1: Even Cash Flows
Company C is planning to undertake a project requiring initial investment of 105
million. The project is expected to generate 25 million per year for 7 years. Calculate the
payback period of the project.
Solution:
Payback Period= Initial Investment / Annual Cash Flow
105 million / 25 million = 4.2 years
Example 2: Uneven Cash Flows
The projected cash flows from a proposal investment are:
YEAR
CASH FLOW
1
100
2
200
3
500
This project cost 500. What is the payback period for this investment?
Solution:
Payback Period (uneven cash flow) = A + (B / C)
100 (year 1) + 200 (year 2) = 300 for 2 years
= 2 + (200/500) = 2.4 years or about 2 years and 5 months

B. Discounted Cash Flow (DCF) Methods

- the process of valuing an investment by discounting its future cash flows.
1. Internal Rate of Return
- is the interest rate at which the net present value of all the cash flows (both
positive and negative) from a project or investment equal zero.
NPV= 0 = A + [B/ (1 + R]
A= Initial Investment
B= Return on Investment
R= Internal Rate of Return

Example:
Consider a project that costs 100 today and pays 110 in one year. What is the
return on this investment?
Solution:
NPV=0= -100 + [110/ (1 + R)]
100= 110/ (1 + R)
1 + R = 110/ 100
1 + R = 1.1
R = 1.1 1
R = .10 OR 10%
2. Discounted Payback Period
- the length of time required for an investments discounted cash flows to
equal its initial cost.
DPP= A + ( B + C)
A= the last period with a negative cumulative cash flow
B = the absolute value of cumulative cash flow at the end of the period A
C = the total cash flow during the period after A
Example:
An initial investment of 50,000 is expected to generate 10,000 per year for
8 years. Calculate the discounted payback period of the investment if the
discount rate is11%.
Solution:

l
last period with a negative cumulative cash flow (A) = 7.
absolute value of discounted cumulative cash flow at the end of the period (B) = 2,878.04

discounted cash flow during the period after (C)= 4,339.26

DPP = A + (B / C)
= 7 + (2,878.04 / 4,399.26) = 7.66 years
3. Net Present Value
- is a formula used to determine the present value of an investment by the
discounted sum of all cash flows receive from the project.
PV= Cash flow/ (1 + r)^t
Rule: NPV > or equal to 0
Example:
Suppose we are asked to decide whether or not a new consumer product
should be launched. Based on projected sales and costs, we expect that the cash
flows over the five year life of the project will be 2,000 in the first two years,
4,000 in the next two and 5,000 in the last year. It will cost about 10,000 to
begin production. We use a 10% discount rate to evaluate new products. What
should we do here?
Solution:
PV= Cash flow/ (1 + r)^t
= (2,000/1.1) + (2,000/1.1^2) + (4,000/1.1^3) + (4,000/1.1^4) + (5,000/1.1^5)
= 1,818 + 1,653 + 3,005 + 2,732 + 3,105
= 12,313 PV of the expected cash flows
12,313 10,000 = 2,313 (positive)
This is positive; so, based on NPV rule, we should take on the project.
4. Profitability Index
- also known as profit investment ratio ( PIR ) and value investment ratio (
VIR ), is the ratio of payoff to investment of a proposed project.
- Measures bang for the buck
PI = PV Inflow / PV Outflow or PV of an investment / initial cost
Rule: Index > or equal to 1
Example:
If project costs 200 and the present value of its future cash flows is 220,
what is the profitability index value?
Solution:
PI= PV of an investment / initial cost
= 220 / 200
= 1.1 it is desirable investment

Uses of Financial Statement Analysis

Internal Uses
a. For performance evaluation
b. For future planning or decision making, expansions and product launches

External Uses
a. Useful to parties outside the firm ( short-term and long-term creditors and potential
investors )
b. To evaluate suppliers and these suppliers would use the Financial Statements before
deciding to extend credit to a company
c. Useful in evaluating your main competitors

Limitations of Financial Statements

1. Variations in application of accounting principles.
2. Financial statements are interim in nature although they give an impression of being
accurate.
3. Financial statements do not reflect changes in the purchasing power of the monetary unit.
4. Financial statements do not contain all the significant facts about a business.

FINANCIAL ANALYSIS: TOOL AND TECHNIQUES

Financial analysis refers to examination of financial data of an entity to determine its
profitability, growth, solvency, stability and effectiveness of its management.

HORIZONTAL ANALYSIS

Horizontal analysis compares account balances and ratios over different time periods.
For example, you compare a companys sales in 2014 to its sales in 2015.

The following figure is an example of how to prepare a horizontal analysis for two years.

The analysis computes the percentage change in each income statement account at the far right.
The first number you might consider is the change in profit.

Horizontal Analysis Formula: = (Current Year - Previous Year)/Previous Year

VERTICAL ANALYSIS

Vertical analysis is the proportional analysis of a financial statement, where each line
item on a financial statement is listed as a percentage of another item. Typically, this
means that every line item on an income statement is stated as a percentage of gross
sales, while every line item on a balance sheet is stated as a percentage of total assets.
The most common use of vertical analysis is within a financial statement for a single time
period, so that one can see the relative proportions of account balances.

Cash
Accounts receivable
Inventory
Total current assets
Fixed assets
Total assets
Accounts payable
Accrued liabilities
Total current liabilities
Notes payable
Total liabilities
Capital stock
Retained earnings
Total equity
Total liabilities and equity

VERTICAL ANALYSIS FORMULA:

AMOUNT OF INDIVIDUAL ITEMS
AMOUNT OF BASE
X 100

$ Totals
$100,000
350,000
150,000
600,000

Percent
10%
35%
15%
60%

400,000
$1,000,000

40%
100%

$180,000
70,000
250,000

18%
7%
25%

300,000
550,000

30%
55%

200,000
250,000
450,000
$1,000,000

20%
25%
45%
100%

2.5 GROSS PROFIT VARIATION ANALYSIS

Gross profit must be closely monitored for its adequacy or inadequacy determines the
final results of operations. It must be adequate to cover operating expenses, other expenses,
income tax and a desired amount of net income.
FORMULAS

Gross Profit:
Sales minus Cost of Sales

Sales:
Sales volume multiplied by Unit selling price

Cost of Sales:
Sales Volume multiplied by Unit Cost

FACTORS THAT AFFECT GROSS PROFIT

Changes in Volume

Unit Selling Price

Unit Cost

Sales Mix (For Companies having two or more products)

SALES MIX
-the combination of products being sold or the ratio between sale volumes of the different
products.
ex: palay and corn are being sold
ratio- 3:2

The effect of the different factors that affect gross profit:

Volume or Quantity Factor

Change in Volume x Last Years Gross Profit per unit

Price Factor
Change in unit selling price x Current years volume

Cost Factor
Change in unit cost x Current years volume

Sales Mix Factor

Average gross profit per unit based on current
years volume at last years prices
Less: Average gross profit per unit last year
Difference
Multiply by: Current years volume
Effect of changes in sales mix

ILLUSTRATIONS:
I. Luningnings Corp. (Product: Saba)
19B

19A

Sales Volume (in units)

8,000

10,000

Unit Selling Price

P 10

P 12

Unit Cost

The analysis of variation in gross profit would be :

19B
Sales

8,000xP10

P80,000

Cost of Sales

8,000xP 7

56,000

Gross Profit

P24,000
19A

Sales

10,000xP12

Cost of Sales

10,000x

_
P120,000
80,000

Gross Profit

P40,000

Decrease in Gross Profit

P16,000

Gross Profit Variation Analysis:

Volume Factor:
Change in volume

2,000

x Gross Profit per unit in 19A

P4

Unfavorable effect of volume factor

P 8,000

Price Factor:
Change in Selling Price

P2

x Current years volume

8,000

Unfavorable effect of Price Factor

16,000

Cost Factor:
Change in unit cost
x current years volume

P1
8,000

Favorable effect of cost factor

Decrease in Gross Profit

8,000
P16,000

II. Liwanag Trading Co. would like to determine the causes of the decline in its gross profit on
sales despite an increase in its sales volume.
19H
Products

Sales Volume(in units)

5,000

7,000

Unit Selling Price

P10

P20

Unit Cost

16

19G
Products

Sales Volume(in units)

8,000

2,000

Unit Selling Price

P12

P15

Unit Cost

10

The analysis of variation in gross profit would be :

19H
Sales- Product X

P50,000

ProductY

140,000

P190,000

Cost of Sales
ProductX

P30,000

ProductY

112,000

142,000

Gross Profit on sales

P48,000
19G

Sales- Product X
ProductY

P96,000
30,000

P126,000

Cost of Sales
ProductX

P40,000

ProductY

20,000

60,000

Gross Profit on sales

P66,000

Decrease

P18,000

Gross Profit Variation Analysis:

Volume Factor

Increase in volume

2000 units

X average gross profit per unit last year

P6.60

Effect of volume factor

P13,200 favorable

Prime Factor

Product X

Product Y

(P2)

P5

Increase (decrease) in unit

selling price
X current years volume

5,000

Effect of Price Factor

(P10,000)

Cost Factor

Product X

7,000
P35,000

Product Y

Increase(decrease) in
unit cost

P1

X current years volume

5,000

Effect of Cost Factor

P5,000

P6
7,000
P42,000

Sales Mix Factor

Average gross profit per unit based on current years volume at last years prices:
Product X: 5,000x (P12-5)

P35,000

Product Y: 7,000x (P15-10)

35,000

Gross Profit, current years volume at

last years prices

P70,000

Divide by total current volume

12,000

Ave. gross profit per unit based on current

years volume at last years prices

P5.83 1/3

Less: Average gross profit per unit last yr.

6.60

Difference:
x current years volume
Effect of sales mix factor

P .76 2/3
12,000
unfavorable - 9,200

Decrease in gross profit

P18,000

SUMMARY:
Effects on Gross Profit
Favorable
Volume- increase

decrease

Selling Price- increase

decrease

Unit Cost increase

decrease

Unfavorable

X
X

Financial Ratios
Financial ratios are the significant relationships between items in the financial statements
expressed in mathematical form.
Financial ratios may be classified into those that are used in measuring (a) profitability
(b) liquidity or short-term solvency, and (c) stability.
1. Profitability - its ability to earn income and sustain growth in both the short- and long-term. A
company's degree of profitability is usually based on the income statement, which reports on the
company's results of operations.
2. Solvency - its ability to pay its obligation to creditors and other third parties in the long-term.
3. Liquidity - its ability to maintain positive cash flow, while satisfying immediate obligations
4. Stability - the firm's ability to remain in business in the long run, without having to sustain
significant losses in the conduct of its business. Assessing a company's stability requires the use
of the income statement and the balance sheet, as well as other financial and non-financial
indicators, etc.

Uses of Averages in Financial Ratios

The return on assets (ROA) shows the percentage of how profitable a company's assets are in
generating revenue.
Net Income
Rate of return on assets =
Average Total Assets
Average total assets =

Total Assets, Jan. 1 + Total Assets, Dec. 31

2

1. Rate of Return on
Sales

Formula

Significance

Net Income
Net Sales

Indicates the amount of net income per

peso of sales or the profitability based
on sales.

2. Rate of Return on
Total Assets

Return on sales x Asset

Turnover
Or
Net Income
Average Total Assets

Indicates the profitability in the use of

the total assets or total capital, both
borrowed and invested.

3. Asset Turnover

Net Sales
Average Total Assets or
Total Investment in the
business

Indicates the efficiency in the use of

total resources.

4. Gross Profit Ratio

Gross Profit
Net Sales

Indicates the gross margin per peso of

sales. Used in determining the
adequacy of gross margin to cover
operating expenses and provide desired
profit.

5. Operating Ratio

Cost of Sales +
Operating Expenses
Net Sales

Indicates what portion of sales is

absorbed by operating costs.

6. Rate of Return on
Current Assets

Net Income
Average Current Assets

Indicates the profitability in the use of

current assets.

7. Current Asset
Turnover

Cost of Sales +
Operating Expenses
(excluding charges not
requiring current assets)
Average Current Assets

Indicates the rate at which current

assets are being used.

8. Rate of Return per

Current Asset
Turnover

Rate of Return on
Current Assets
Current Asset Turnover

Indicates the percentage of profit every

time current assets are used.

9. Rate of Return on
Working Capital

Net Income
Average Working
Capital

Indicates the profitability in the use of

working capital.

10. Working Capital

Turnover

11. Rate of Return per

Working Capital
Turnover

Cost of Sales +
Operating Expenses
(excluding charges not
requiring working
capital)
Average Working
Capital
Rate of Return on
Working Capital
Working Capital
Turnover

Indicates the rate at which working

capital is being used.

Indicates the percentage of profit

earned every time working capital is
used.

12. Invested Capital

Turnover

Net Sales
Indicates the rate at which owners
Average Owners Equity capital is being used or the rate at
which assets provided by owners are
being used.

13. Rate of Return on

Owners Equity

1.
Net Income
Indicates profitability in the use of
Average Owners Equity invested capital or the amount of return
2. Rate of Return on
per peso of owners equity.
Sales x Invested
Capital Turnover

14. Earnings per Share

Net Income less

preferred stock dividend
requirement
Ave. No. Of Common
Shares Outstanding

Indicates the amount of returns on each

share of common stock and the ability
to pay dividends.

15. Price-earnings
Ratio

Market Price per Share

Earnings per Share

Measures the relationship between

market price and earnings on each
share.

16. Capitalization Rate

or Earnings/Price
Ratio

Earnings per Share

Market Price per Share

Indicates the rate at which the stock

market is apparently capitalizing the
value of current earnings.

17. Dividends per

Share

18. Yield on Common

Stock

Dividends Paid or
Declared
Common Shares
Outstanding
Dividends per Share
Market Value per Share
of Common Stock

Shows the amount of distributed

earnings per share.

Shows the percentage of distributed

earnings based on market value.

19. Payout Ratio

20. Retained Earnings

to Capital Stock
21. Market Price to
Book Value Per
Share

Dividends per Share

Earnings per Share

Retained Earnings
Capital Stock
Market Price per Share
Book Value per Share

Indicates the percentage of distributed

earnings based on earnings made per
share.
Indicates the probability of dividend
declaration.
Indicates whether the stock is
undervalued or not.

Indicators of Liquidity or Short-term Solvency

Formula

Significance

1. Current Ratio

Current Assets
Current Liabilities

Indicates the ability to pay current

obligations.

2. Acid Test Ratio

Quick Assets
Current Liabilities

Indicates the ability to pay current

obligations from the more liquid current
assets.

3. Current Assets to Total

Assets

Current Assets
Total Assets

Indicates the liquidity of the total assets.

4. Ratio of Each Current

Asset Item to Total
Current Assets

Each Current Asset Item

Total Current Assets

Indicates the liquidity of the total current

assets and the distribution thereof.

5. a) Receivable Turnover

Net Credit Sales

Average Receivables

Indicates the number of times average

amount of receivables is collected during
the period and the efficiency in
collection.

b) Number of Days
Sale in Average
Receivables or Average
Collection Period

360
Receivable Turnover

Indicates the average age of receivables

or the number of days to collect average
receivables.

6. a) Merchandise
Inventory (or Finished
Goods) Turnover

Cost of Goods Sold

Average Inventory

Indicates the number of times average

inventory was sold during the period and
over- (or under-) investment in inventory.

b) Work in Process
Turnover

Cost of Goods
Manufactured
Average Work in Process
Inventory

Indicates the number of times average

inventory was manufactured during the
period and over- (or under-) investment
in work in process inventory.

c) Raw Materials
Turnover
d) Number of Days
Supply in Inventory

Raw Materials Used

Average Raw Materials
Inventory

Indicates the number of times average

inventory was used and the
sufficiency of raw materials in stock.

360
Inventory Turnover

Indicates the number of days required

to sell or consume average inventory.

7. Working Capital
Turnover

Cost of Goods Sold +

Operating Expenses
(excluding charges not
requiring working
capital)
Average Working
Capital

Indicates the rate at which working

capital is being used and the
adequacy of working capital.

8. Current Asset
Turnover

Cost of Goods Sold +

Operating Expenses
(excluding charges not
requiring current assets)
Average Current Asset

Indicates the rate at which current

assets are being used and adequacy of
current assets.

Net Credit Purchases

Average Payables

Indicates the number of times the

amount of average payables is being
paid.

Cost of Goods Sold +

Operating Expenses
(excluding charges not
requiring cash)
Average Marketable
Securities

Indicates the number of times the

amount of cash and its equivalent is
used during the period.

360 days
Cash and Marketable
Securities Turnover

Indicates the number of days

operations covered by cash and its
equivalent.

9. Payable Turnover

10. a) Cash and

Marketable Securities
Turnover

b) Number of Days
Operations Covered by
Cash and Marketable
Securities

Or
Average Cash and
Marketable Securities
[Cost of Goods Sold +
Operating Expenses
(excluding charges not
requiring cash) 360]

Measures of Stability or Long-term Solvency

Formula

Significance

1. Debt/Equity Ratio

Total Liabilities
Owners Equity

Measures the proportion of borrowed

capital to invested capital.

2. Equity/Debt Ratio

Owners Equity
Total Liabilities

Indicates the margin of safety to

creditors.

3. Proprietary (Equity)
Ratio or Owners
Equity to Total Assets

Owners Equity
Total Assets

Indicates what portion of total assets is

provided by owners or stockholders.

4. Debt Ratio or Total

Liabilities to Total
Assets

Total Liabilities
Total Assets

Indicates what portion of total assets is

provided by creditors.

5. Fixed Assets to Total

Owners Equity

Fixed Assets
Total Owners Equity

Indicates the portion of owners equity

invested in fixed assets.

6. Fixed Assets to Total

Equity (or total assets)

Fixed Assets
Total Liabilities and
Owners Equity

Indicates underinvestment or
overinvestment in plant, property and
equipment.

7. Fixed Assets to Total

Long-term Liabilities

Fixed Assets
Total Long-term
Liabilities

Indicates the portion of long-term debt

secured by fixed assets.

8. Plant Turnover

Net Sales
Ave. Fixed Assets (net)

Indicates the efficiency in the use of

property.

9. Book value per share

Common Stock Equity

Number of Common
Shares Outstanding

Indicates the book value of net assets

for every outstanding share of common
stock.

10. Number of Times

Interest is Earned

Income before Interest

and Taxes
Annual Interest Charges

Indicates the companys ability to pay

fixed interest charges.

11. No. of Times Preferred

Dividend Requirement
is Earned

Net Income After Tax

Indicates the ability to meet annual
Preferred Stock Dividend preferred stock dividend requirement.
Requirement

12. No. of Times Fixed

Charges are Earned

Income before Taxes and

Fixed Charges
Fixed Charges (Rent
Expense + Interest etc.)

Indicates the ability to meet annual

fixed charges.

EXAMPLES
Rate of Return on Sales, Rate of Return on Total Assets and Asset Turnover

Gross Profit Ratio

Assume Jack's Clothing Store spent 100,000 on inventory for the year. Jack was able to sell
this inventory for 500,000. Unfortunately, 50,000 of the sales were returned by customers and
refunded. Jack would calculate his gross margin ratio like this.
Gross Profit Ratio= (450,000 - 100,000) / (500,000 - 50,000) = 78%

Operating Ratio

Rate of Return on Current Assets, Current Assets Turnover and Rate of Return per
Current Asset Turnover

Working Capital Turnover and Rate of Return per Working Capital Turnover

Invested Capital Turnover and Rate of Return on Owners Equity

Earnings Per Share

Price-earnings Ratio

Capitalization Rate or Earnings/Price Ratio

Dividends Per Share

Yield on Common Stock

Payout Ratio

Retained Earnings to Capital Stock

Market Price to Book Value Per Share

Current Ratio

Acid Test Ratio

Current Assets to Total Assets and Ratio of Each Current Asset Item to Total
Current Assets

Receivable Turnover and Number of Days Sale in Average Receivable/Average

Collection Period

Merchandise Inventory (Finished Goods) Turnover, Work in Process Turnover,

Raw Materials Turnover and Number of Days Supply in Inventory

Payable Turnover

Cash and Marketable Securities Turnover and Number of Days Operations

Covered by Cash and Marketable Securities

Debt/Equity Ratio, Equity/Debt Ratio, Proprietary (Equity) Ratio or Owners

Equity to Total Assets and Debt Ratio/Total Liabilities to Total Assets

Fixed Assets to Total Owners Equity, Fixed Assets to Total Equity (Total Assets),
Fixed Assets to Total Long-term Liabilities and Plant Turnover

Book Value Per Share

 Times Interest is Earned

Tim's Tile Service is a construction company that is currently applying for a new loan to buy
equipment. The bank asks Tim for his financial statements before they will consider his loan.
Tim's income statement shows that he made 500,000 of income before interest expense and
income taxes. Tim's overall interest expense for the year was only 50,000. Tim's time interest
earned ratio would be calculated like this:
Number of Times Interest is Earned= 500,000 / 50,000= 10 times
Times Preferred Dividend Requirement is Earned
Company A's income statement indicates net income of 4,283,000 and preferred dividends
of 306,000. Company A's times preferred dividends earned would be:
Number of Times Preferred Dividend Requirement is Earned= 4,283,000 / 306,000= 14 times
Following information relates to the financial statements of ABC PLC for the year ended
31st December 2012:
Net profit
2,200,000
Dividend paid on ordinary shares
500,000
Dividend paid on redeemable preference shares
300,000
Dividend paid on irredeemable preference shares
200,000
Dividend Cover in respect of ordinary shares may be calculated as follows:
Dividend Cover= (2,200,000 - 200,000) / 500,000= 4 times
As dividend paid on redeemable preference shares would have been already accounted for in
arriving at the net profit of ABC PLC, no further adjustment is required in the calculation of
earnings attributable to ordinary shareholders.
Times Fixed Charges are Earned
Quinn's Harp Shop is an instrument retailer that specializes in selling and repairing harps. Quinn
has been interest in remodelling the inside of his store but needs a loan in order to afford it. After
giving his financial statements to the bank, the loan officer calculates Quinn's fixed charge
coverage ratio.
According to Quinn's income statement, he has 300,000 of income before interest and taxes and
interest expense of 30,000. Quinn's current lease payment is 2,000 a month or 24,000 a year.
Here is how Quinn's ratio is calculated:
Number of Times Fixed Charges are Earned= (300,000 + 24,000) / (24,000 + 30,000)= 6
times

ILLUSTRATIVE PROBLEM

Reference(s):
Mejorada, Nenita D. Business Finance and Philippine Business Firms, Third Ed.
Ross, S.A., Westerfield, R.W., & Jordan,B.D. Fundamentals of Corporate
Finance, Fifth Ed.
www.accountinglearning.blogspot.com
www.mobile.dudamobile.com/site/accountingtools
www.business-solutions-and-resources/financial-statement-analysis
www.myaccountingcourse.com/financial-ratios
accountingexplained.com/managerial/capital-budgeting
http://www.accountingtools.com/horizontal-analysis
http://www.accountingformanagement.org/horizontal-analysis-of-financial-statements/

http://www.accountingtools.com/vertical-analysis
http://www.dummies.com/how-to/content/horizontal-and-vertical-analysis.html
http://ww2.valdosta.edu/~jdgill/e2007_analysis.html
https://en.wikipedia.org/wiki/Financial_analysis
https://books.google.com.ph/books?id=Chpzer6_9ygC&pg=PR1&lpg=PR1&dq=business+fi
nance+and+philippine+business+firms+by+nenita+mejorada&source=bl&ots=xi4_vXI6TN
&sig=DYOLOrUKPiUzxB7G0wsB5TRrWM&hl=en&sa=X&ved=0CBwQ6AEwAGoVChMIhrbe6L7kxgIVizS
ICh0Vxwxq#v=onepage&q=business%20finance%20and%20philippine%20business%20fir
ms%20by%20nenita%20mejorada&f=false
https://books.google.com.ph/books?id=kmGD7h7FgScC&pg=PP1&lpg=PP1&dq=managem
ent+services+I+by+nenita+mejorada&source=bl&ots=9bRzm_moCT&sig=dWRCDx8HGM
VdfS_fFQJ6myYulR0&hl=en&sa=X&ved=0CC0Q6AEwBGoVChMIYDk05HmxgIVxVmICh0klgbo#v=onepage&q=management%20services%20I%20by%20ne
nita%20mejorada&f=false
http://www.myaccountingcourse.com/financial-ratios/gross-margin-ratio
http://www.myaccountingcourse.com/financial-ratios/times-interest-earned-ratio
http://www.money-zine.com/definitions/investing-dictionary/times-preferred-dividendsearned/
http://accounting-simplified.com/financial/ratio-analysis/dividendcoverage.html#sthash.tVZARJzO.dpuf
http://www.myaccountingcourse.com/financial-ratios/fixed-charge-coverage-ratio