ACCG3050
FINANCIAL STATEMENT ANALYSIS - WEEK 1
What is Financial Analysis?
• The process of examining a company’s performance in the context of industry and economic
environment to arrive at a decision or recommendation.
• Evaluate past & current performance and financial position
• Form expectations of the future
• Security analyst - assesses performance, does it meet expectations? Create valuation.
• Loan officer - assesses credit risk, liquidity, profitability, business risk
• Corporate manager - investment/acquisition, financing
• Auditor - accounting policies and consistency
How Capital Markets Function
The Role of Financial Reporting in Capital Markets
• Financial reporting provides much-needed information to capital market participants
• Use the information in financial statements to evaluate investment opportunities
• Information intermediaries assure the quality of financial statement representations
• Relevant and reliable financial information is essential for the functioning of capital markets
From Business Activities to Financial Statements
• Corporate managers undertake business activities (acquire physical and financial resources to
create value for investors)
• Value: Return on Investment (ROI) > Cost of Capital
• Financial statements measure and summarise the economic consequences of business activities
, ACCG3050
• Accounting systems facilitate information quality.
• The role of accrual accounting
• The need for accounting conventions and standards
• Manager’s accounting choices and strategies
• Auditing and the quality of financial information
Accrual Accounting
• Accrual accounting requires that revenue be recorded when earned and expenses recorded when
incurred - irrespective of related cash-flow movements
• Accrual accounting distinguishes between the recording of costs and benefits associated with
economic activities
• Corporate financial reports prepared using accrual rather than cash accounting
• Need for accrual accounting arises from investors demand for financial reports on a periodic basis
Accounting Standards
• Accounting standards are developed to improve the quality of financial reporting
• Accrual accounting is subjective and relies on a variety of assumptions
• Managers have incentives to use accounting discretion to distort reported profits
• Accounting standards ensure that managers are not able to use their accounting flexibility to
disguise reality for self-serving purposes.
Managers’ Reporting Strategy
• Accounting systems leave considerable room for managers to influence financial statement data.
• Corporate managers can choose accounting and disclosure policies to hide the true economic
picture of their business and manipulate investors’ perceptions.
• Superior disclosure strategy will enable managers to communicate the underlying business reality
to outside investors.
Alternative Forms of Communication with Investors
• Analyst Meetings:
• Regular meetings with analysts release information to these intermediaries
• Material information released to analysts must also be publicly disclosed
• Voluntary Disclosure:
• Management has the discretion to voluntarily disclose information, though there are
constraints own this type of disclosure.
Auditing
• Auditing is verification of the integrity of the reported financial statements by someone
independent of the preparer
• Auditor ensures that managers use accounting rules and conventions consistently over time
• Auditing improves quality of accounting data
• Threat of lawsuits and resulting penalties has the beneficial effect of improving the accuracy of
financial information and disclosure
, ACCG3050
Process of Financial Statement Analysis
Concluding Comments
• Financial statements are a source of widely available data on publicly listed companies
• Accrual accounting attempts to accurately reflect expectations of economic performance but
requires careful analysis
, ACCG3050
FINANCIAL STATEMENT ANALYSIS - WEEK 2
Process of Financial Statement Analysis
•
Economy Analysis
• Analysis of macroeconomic settings and other macro-level factors.
• For cyclical companies, financial ratios tend to improve when the economy is strong and weaken
during recessions.
• Important to understand the environment in which the company operates.
• Implications: Evaluation of the industry profitability, the growth potential and future profitability
and the quality of the company’s strategy.
Applying Economic Analysis to Retail Industry
• Does economic slowdown impact on the retail industry significantly?
• Which economic factors/indices relevant to the retail industry?
• Other macro-level factors relevant are…?
• Possible sources of data:
• Australian Bureau of Statistics (ABS)
• Reserve Bank of Australia (RBA)
Industry Analysis
• A tool that facilitates a company’s understanding of its position relative to other companies that
produce similar products or services.
• Systematic difference in industry-level profitability
• A company’s strategy is heavily influenced by the industry it belongs to.
• Five Forces Framework
• Implications: growth potential and future profitability of the company.
FINANCIAL STATEMENT ANALYSIS - WEEK 1
What is Financial Analysis?
• The process of examining a company’s performance in the context of industry and economic
environment to arrive at a decision or recommendation.
• Evaluate past & current performance and financial position
• Form expectations of the future
• Security analyst - assesses performance, does it meet expectations? Create valuation.
• Loan officer - assesses credit risk, liquidity, profitability, business risk
• Corporate manager - investment/acquisition, financing
• Auditor - accounting policies and consistency
How Capital Markets Function
The Role of Financial Reporting in Capital Markets
• Financial reporting provides much-needed information to capital market participants
• Use the information in financial statements to evaluate investment opportunities
• Information intermediaries assure the quality of financial statement representations
• Relevant and reliable financial information is essential for the functioning of capital markets
From Business Activities to Financial Statements
• Corporate managers undertake business activities (acquire physical and financial resources to
create value for investors)
• Value: Return on Investment (ROI) > Cost of Capital
• Financial statements measure and summarise the economic consequences of business activities
, ACCG3050
• Accounting systems facilitate information quality.
• The role of accrual accounting
• The need for accounting conventions and standards
• Manager’s accounting choices and strategies
• Auditing and the quality of financial information
Accrual Accounting
• Accrual accounting requires that revenue be recorded when earned and expenses recorded when
incurred - irrespective of related cash-flow movements
• Accrual accounting distinguishes between the recording of costs and benefits associated with
economic activities
• Corporate financial reports prepared using accrual rather than cash accounting
• Need for accrual accounting arises from investors demand for financial reports on a periodic basis
Accounting Standards
• Accounting standards are developed to improve the quality of financial reporting
• Accrual accounting is subjective and relies on a variety of assumptions
• Managers have incentives to use accounting discretion to distort reported profits
• Accounting standards ensure that managers are not able to use their accounting flexibility to
disguise reality for self-serving purposes.
Managers’ Reporting Strategy
• Accounting systems leave considerable room for managers to influence financial statement data.
• Corporate managers can choose accounting and disclosure policies to hide the true economic
picture of their business and manipulate investors’ perceptions.
• Superior disclosure strategy will enable managers to communicate the underlying business reality
to outside investors.
Alternative Forms of Communication with Investors
• Analyst Meetings:
• Regular meetings with analysts release information to these intermediaries
• Material information released to analysts must also be publicly disclosed
• Voluntary Disclosure:
• Management has the discretion to voluntarily disclose information, though there are
constraints own this type of disclosure.
Auditing
• Auditing is verification of the integrity of the reported financial statements by someone
independent of the preparer
• Auditor ensures that managers use accounting rules and conventions consistently over time
• Auditing improves quality of accounting data
• Threat of lawsuits and resulting penalties has the beneficial effect of improving the accuracy of
financial information and disclosure
, ACCG3050
Process of Financial Statement Analysis
Concluding Comments
• Financial statements are a source of widely available data on publicly listed companies
• Accrual accounting attempts to accurately reflect expectations of economic performance but
requires careful analysis
, ACCG3050
FINANCIAL STATEMENT ANALYSIS - WEEK 2
Process of Financial Statement Analysis
•
Economy Analysis
• Analysis of macroeconomic settings and other macro-level factors.
• For cyclical companies, financial ratios tend to improve when the economy is strong and weaken
during recessions.
• Important to understand the environment in which the company operates.
• Implications: Evaluation of the industry profitability, the growth potential and future profitability
and the quality of the company’s strategy.
Applying Economic Analysis to Retail Industry
• Does economic slowdown impact on the retail industry significantly?
• Which economic factors/indices relevant to the retail industry?
• Other macro-level factors relevant are…?
• Possible sources of data:
• Australian Bureau of Statistics (ABS)
• Reserve Bank of Australia (RBA)
Industry Analysis
• A tool that facilitates a company’s understanding of its position relative to other companies that
produce similar products or services.
• Systematic difference in industry-level profitability
• A company’s strategy is heavily influenced by the industry it belongs to.
• Five Forces Framework
• Implications: growth potential and future profitability of the company.
