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Chapter 18 Integration of Financial Statement
Analysis Techniques
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framework
The primary reason for performing financial statement analysis is to facilitate an economic decision.
The framework for the analysis contains six phases:
1. Define the purpose for the analysis
2. Collect input data
3. Process data
4. Analyze/interpret the processed data
5. Develop and communicate conclusions
6. Follow-up
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Institute
Framework: case study 1
Evaluating Nestlé as a long-term equity investment. 1. Define the purpose for the analysis:
- Isolate the factors that have driven Nestlé’s financial success and assess their sustainability.
- Understand the risks that may upset the sustainability of returns. 2. Collect input data: Gather several years of annual reports.
3. Process data:
- Conduct a DuPont analysis.
- Analyze the composition of Nestlé’s asset base and capital structure.
- Study the company’s segments and the allocation of capital among them. - Examine the company’s earnings quality.
- Study the company’s cash flows and their adequacy for the company’s continued operations and strategies.
- Decompose the company’s valuation. 4. Analyze/interpret the processed data.
5. Develop and communicate conclusions: Write report. 6. Follow-up.
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Institute
DuPont analysis
Nestlé’s ROE:
2007 2006 2005 Net profit margin 10.58% 10.00% 9.44% Assets turnover 0.994 0.963 0.955 Leverage 2.02 2.01 2.16 ROE 21.25% 19.36% 19.48%
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Financial reporting choices and biases
Including the net investments and returns of associates with full reported value of a company’s own assets and income would introduce noise into the analysis. For example,
- Part of Nestlé’s income relates to Nestlé’s 30% stock ownership of L’Oreal.
- Subtracting the investment from total assets results in a figure that more closely represents Nestlé’s own asset base.
- Subtracting the share of results of associates from the net income allows for the analysis of exclusively Nestlé profitability resulting from the exclusively
Nestlé asset base.
Returnonequity NestléonlyROE
Associates’ contributionto ROE
2007 2006 2005 21.25% 19.36% 19.48% 20.48% 18.75% 18.66%
0.77% 0.61% 0.82%
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Institute
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