Financial Analysis

Financial statement analysis attempts to work with reported financial figures of a corporation 1. The purpose of such analyses is to assess the corporation's financial strengths and weaknesses. Numbers standing by themselves, however, do not tell anything. One must compare the numbers of one company at a certain period of time with the numbers of the same company at different periods, or with the numbers of other companies. By doing so, one could discern divergences and/or convergences 2, which will illuminate the financial condition of the company under analysis. There are many ratios, one might say a bewildering number, which people use to analyze the financial position of a company. They can be grouped into liquidity, profitability, financing and leverage, and productivity or efficiency. Liquidity ratios measure the risk of a company running out of cash 3. Profitability ratios will reveal the financial health of a company, and how well it is managed. Financing and leverage ratios show how much a company makes use of borrowed money and give clues as to the financial stability of the company. Finally, productivity or efficiency ratios reveal how well a company utilizes its assets. Different people place different emphasis on different ratios because they have different interests. For example, a bank, which usually extends relatively short-term loans to a company, would be more interested in liquidity ratios. On the other hand, shareholders could be more interested in the long-run earning power of the company, which would be the basis for 4. Management of the company, in turn, should look after all aspects in order to ensure the wellbeing of the company. Ratio analyses offer valuable insights into the financial conditions of a company and its relative position among peers. Having said that, they are not perfect 5. For example, many large businesses are engaged in multiple lines of business, which could make it harder to compare with peers. General Electric in the heyday of Jack Welch made jet engines, railroad locomotives, medical equipment, etc. as well as being a big money lender.

Q1: Regarding underlined phrase 1 (UL1 etc., hereafter), what are the main components of financial statements of a corporation? Q2: Regarding UL2, if there were three companies in the same industry A, B and C, with days inventory of 31, 28 and 45 days respectively, what can you say about company C? Q3: Regarding UL3, how does the "current ratio" illustrate the risk of a company running out of cash? Q4: Regarding UL4, complete the sentence.

Q5: Regarding UL5, explain briefly why comparison of ratios between companies of different nationalities could be difficult.