A potent use of financial statements is to provide information
about issues that might adversely affect trading performance in the
future. This can most readily be achieved by studying trends from one
year to the next. Clearly, a deterioration in return on equity will concern
investors, but on its own it does not tell us why this is happening
or if future trading is being put in jeopardy. Trends in gearing, asset
turnover, and profit margin are far more useful in this respect.
Is there an increase in gearing?
Increases in gearing could potentially improve return on equity.
However, this must be viewed in the context of the potential risks.
T What is the ‘interest cover’?
This is calculated from the income statement, by dividing operating
profit by interest payable. In the case of Maykem & Sellem,
operating profit is $20 million and interest payable is $2 million,
providing an interest cover of 10. This tells us that the company
is earning ten times more profit than the interest currently
being paid. The higher this figure, the less chance there is of the
company being unable to meet its future interest commitments.
T What is the sales growth from one year to the next?
Weak sales growth could lead to deteriorating profits for
investors if interest payments are increasing.
Is there a decrease in asset turnover?
Falling asset turnover is often a precursor to cash flow problems.
T What is happening to fixed assets as a percentage of sales?
T What is happening to current assets as a percentage of
sales?
Either of these percentages increasing tends to be the first indicator of
assets becoming less productive. If cash is being unnecessarily tied up
in assets, this could affect the company’s ability to generate cash in the
future
about issues that might adversely affect trading performance in the
future. This can most readily be achieved by studying trends from one
year to the next. Clearly, a deterioration in return on equity will concern
investors, but on its own it does not tell us why this is happening
or if future trading is being put in jeopardy. Trends in gearing, asset
turnover, and profit margin are far more useful in this respect.
Is there an increase in gearing?
Increases in gearing could potentially improve return on equity.
However, this must be viewed in the context of the potential risks.
T What is the ‘interest cover’?
This is calculated from the income statement, by dividing operating
profit by interest payable. In the case of Maykem & Sellem,
operating profit is $20 million and interest payable is $2 million,
providing an interest cover of 10. This tells us that the company
is earning ten times more profit than the interest currently
being paid. The higher this figure, the less chance there is of the
company being unable to meet its future interest commitments.
T What is the sales growth from one year to the next?
Weak sales growth could lead to deteriorating profits for
investors if interest payments are increasing.
Is there a decrease in asset turnover?
Falling asset turnover is often a precursor to cash flow problems.
T What is happening to fixed assets as a percentage of sales?
T What is happening to current assets as a percentage of
sales?
Either of these percentages increasing tends to be the first indicator of
assets becoming less productive. If cash is being unnecessarily tied up
in assets, this could affect the company’s ability to generate cash in the
future
0 comments:
Post a Comment