How to read financial statements

Cat: ECO
Pub: 2010
#1523b

Accounting to see through management

経営がみえる会計

0. BS and PL:
1. Find Safety from BS:
2. Find Profitability from PL:
3. Find Profitability & Corporate Future from CF:
4. How to read the essence of BS:
5. PL and Corporate Management:
6. CF and Money Flow:

0. 貸借対照表と損益計算書:
1. 貸借対照表から安全性を読む:
2. 損益計算書で収益性を見る:
3. キャッシュフロー計算書と収益性・将来性:
4. 貸借対照表を読む虎の巻:
5. 損益計算書と会社経営:
6. キャッシュフロー計算書とお金の動き:
7. 財務諸表を読むことの意味:

• To read financial statement is to know health check of the company.
  

• 財務諸表を読むことは会社の健康状態を知ること

Résumé

Remarks

>Top 0. BS and PL:

>Top 1. Find safety from BS:

• Credit items of BS:
  • Credit: How the fund was procured:
    • Liabilities: Borrowed capital; need to repay, otherwise the company will bankrupt.
      • 'Equity to asset ratio' should be kept within reasonable level:
        • Manufacturer: minimum 20%
        • Wholesales, Trading firm: around 15%
        • Warning level: less than 10% (except Financial institution)
      • Safety merkemal of medium-long term, not necessary indicate that of short term.
    • Net Assets: Shareholder's equity; need not to repay.
  • Current Asset:
    • mostly used as daily business operation; will be collected within around one year.
• Cash:
  • should compare increase or decrease from previous year.
  • Cash is the money which is not yet invested.
• Notes & Account receivables:
  • First, receivable then could be changed into note.
  • Note is much safer than receivable.
• Marketable securities:
  • almost within one year operation; short-term government bond or corporate bond.
• Sales finance receivables:
  • lease for sales (such as car)
• Deferred income tax:
  • allowance calculated by 'Tax effect accounting' method.
  • allowance for bad loans required by 80% of loans
• Allowance for doubtful accounts:
  • doubtful notes and receivables; minus amount
• Debt items of BS:
• Notes and Account payable:
  • probably bought raw materials, but not yet paid.
• Short-term liabilities;
  • loan from main financing banks; should be repaid or roll-overed.
• Long-term liabilities with due within one year:
  • Some long-term loan whose due date come within one year must be shifted from fixed liabilities to current liabilities.
• Lease obligations:
• Since 2009, this idem became obligatory.
• Accrued liabilities:
  • unpaid amount against such as supply of services.
• Income taxes payable:
  • The profit was determined about two months later from the closing of FY, then the tax amount was determined.
• Deferred income taxes:
• due to 'Tax effect accounting'.
• Solvency Analysis (current or liquid):
  • assets which can easily be converted into cash.
• Solvency Ratio: to avoid bankruptcy, watching cash or cash equivalent.
  • Current Ratio: Current assets / Current liabilities
    • preferably >120%, but varies among industries.
  • Quick Ratio (Acid Test): Liquid assets / Current liabilities >Top
    • preferably > 100%
    • here, 'liquid' means 'cash & cash equivalent' including 1) Cash, 2) marketable Security, 3) Note, 4) account Receivable; excluding inventory.
      • 'CaN Receive Security'
  • Debt to Equity Ratio (D/E Ratio): Total liabilities / Net worth
  • Fixed asset to Net Worth: Fixed assets / Net worth
• Priority against solvency risk: from shorter to longer; 1) Liquidity On Hand, 2) Quick Ratio, 3) Current Ratio, and 4) Capital Adequacy Ratio.
  • Liquidity On Hand is much important than maintaining Capital Adequacy Ratio in economic recession, or the period of banks' reluctance to lend.
• Shareholders' Equity: funds which need not to return; including 1) Capital, 2) Capital surplus, 3) Retained earnings, and 4) Treasury stock.
  • to change Capital, 2/3 vote at the shareholders' meeting is needed; but only majority as of Capital surplus.
  • Treasury stock is used for a kind of shareholder return.
  • Minority interest: minor shareholders' equity of affiliate companies, which also need not to return immediately; included in the numerator of Capital Adequacy Ratio.
  • Capital Surplus is not necessarily cash; some was spent for investment, etc. The cash retained is displayed in the current assets.
• Liquidity On Hand = (Cash + Marketable securities + Borrowing facility) / Monthly sales >Top
  • >1.7 months or 2.0 preferably or 1.0 minimum in SMB
  • >1.0 month in large company.
  • use maximum borrowing limit (or overdraft limit) from major banks; in emergent cases, increase of sales or cost cut would be difficult. Liquidity On Hand matters.
  • the bottom of cash balance usually occurs just after the pay day.
• Efficiency of business:
• Efficiency Ratio:
  • Assets to Sales: Total assets / Sales >Top
  • Days Sales Outstanding (DSO), Collection period: Account receivable / Credit sales × 365
  • Sales to Inventory: Sales / Inventory
• Profitability Ratio:
  • Return on Sales: Net profit / Sales >Top
  • Return on Assets (ROA); Net profit / Asset
  • Return on Equity (ROE); Net profit / Equity

1. 貸借対照表から安全性を読む:

• BS
  • 流動資産
  • 現金&余韻
  • 手形＆売掛金
  • 有価証券
  • 販売金融債権: リース
  • 繰延税金資産
  • 貸倒引当金
    • 負債=債務+債務以外
    • 負債: liability, debt
    • 債務: obligation, liability, payable
• 取得価格と時価
• 日本では取得原価主義を採用。
  • 時価主義とは大きな違い
• 無形固定資産の扱い
  • BSには取得原価記載
  • 隠れた価値があり得る
  • BSを読む投資家からBSの裏を読む透視家へ

• 安全性仕様の優先順位: 短期→長期
  1. 手元流動性
  2. 当座比率
  3. 流動比率
  4. 自己資本比率

• 効率性分析

>Top 2. Find profitability from PL:

• Sales: Check the difference with the previous FY.
  • Sales amount is the major concern of the management.
    • Increase of sales with decresing Assets to Sales (=pseudo scale expansion) may increse more loss according to the decrese of sales.
  • Cost of Sales: costs required or spent directly related to production
  • Gross profit = Sales - (Cost of Sales)
    • Cost of Sales:
    • Production Cost:
  • Selling, General, and Adminstrative expenses (SGA): all expenses of operation not directly related to production.
  • Non-operation income & expenses:
    • interest income, interest expense, equity in net income of affiliates
  • Extraordinary income & expenses:
  • gain or loss on sale of fixed assets, gain or loss on sale of securities
• Cost of Sales:
  • this is different from 'Production cost'.
  • when materials are purchased; increase 'Raw material & Supplies'.
  • when making started; increase Goods in process, or Work in progress (WIP)
  • when making completed; shift all expenses to 'Goods & Products'.
  • But the Cost of Sale is counted sold portion only.
  • Beware particularly the changes of inventory in BS (as the bankful stage), as well as CF.
• Various Profit Ratios: >Chart
• Profit exists in the upper stream.
• 'Cost to sales ratio' and 'Gross profit to sales ratio' are complimentary; to keep lower level of Cost to sales ratio matters.
• Watch historical trend of such ratios.
• Depreciation cost continues longer period. (Committed cost)
• Comparison of such ratios with rival companies is essential.
• Net profit on sales are keenly watched by shareholders, as well as ROE.
• ROE and ROA: >Top
  • Comparison with other competitors are important.
  • Non listed company need not worry about ROE.
  • The increasing trend of ratio both of ROE and ROA are important.

2. 損益計算書から収益性を読む:

• PLの構成
  • 売上高 - 売上原価
    =売上総利益
  • - 販売費&一般管理費
  • =営業利益
  • +営業外利益 - 営業外費用
  • =経常利益
  • +特別利益 - 特別損失
  • =税前当期純利益
  • - 法人税等
  • =当期純利益)

>Top 3. Find profitability and corporate future from CF: (キャッシュフロー計算書と収益性・将来性)

• Cash Flow from Operating Activities		営業活動によるキャッシュフロー
  	Net income		税前当期純利益
  	Depreciation & amortization		減価償却費
  	Adjustment of deferred taxes		繰延税金調整額
  	Impairment loss		減損損失
  	Allowance for doubtful accounts		貸倒引当金
  	Investment account fluctuations		投資勘定評価減
  	Sales of fixed assets		固定資産売却損益
  	Sales of securities		有価証券売却損益
  	Accounts reveivables fluctuations		売掛金増減額
  	Accounts payables fluctuations		買掛金増減額
  	Retirement benefits allowance fluctuations		退職金給付引当金
  	Receipt of interent & devidend		受取金利＆配当
  	Payment of interest		支払金利
  □Sub-total of CF from Operating Activities		□営業活動によるキャッシュフロー
  Cash Flows from Investing Activities		投資活動によるキャッシュフロー
  	Change in short-term investment		短期投資増減額
  	Purchase of fixed assets		固定資産取得額
  	Sale of fixed assets		固定資産売却額
  	Long-term loans expenditure		長期貸付金貸付支出
  	Long-term loans recovered		長期貸付金回収
  	Purchase of securities		有価証券取得
  	Sale of securities		有価証券売却
  	Change in Affiliate stock		子会社株式購入増減額
  □Sub-total of CF from Investing Activities		□投資活動によるキャッシュフロー小計
  Cash Flows from Financing Activities		財務活動によるキャッシュフロー
  	Change in short-term borrowings		短期借入金増減
  	Proceeds by long-term loans		長期借入金収入
  	Proceeds by issuance of corporate bond		社債発行による収入
  	Redemption of corporate bond		社債償還支払
  	Acquisition of treasury stock		自己株式取得
  	Cash dividends paid		配当金支払
  □Sub-total of CF from Financing Activities		□財務活動によるキャッシュフロー小計
  □Net increase in cash		□キャッシュ純増
  □Cash at beginning of year		□キャッシュ期首残高
  □Cash at end of year		□キャッシュ期末残高

• "A profit in sales does not always mean sufficient money"; insolvency due to liquidity problems.
  • Countermeasures: decrease inventory, keep balance of account receivable and payable.
• CF by Operating Activities:
  • should be surplus in principle.
  • basically calculated from Net Income +- Adjustments (Indirect method)
    • Increase/Decrease of account receivable: minus/plus of CF
    • Increase/Decrease of account payable: plus/minus of CF
  • CF Margin= (CF by Operation)/Sales: around 7%
• CF by Investment Activities:
• Purchase of fixed assets > Depreciation
  • this is needed to maintain current level of business operation.
• Watch purchase of long-term securities (usually no less than 3 months)
• CF by Financial Activities:
• Basically CF by Financial Activities become minus. (such as dividend)
• Capital increase makes CF plus.
• Well balanced CF:
  • CF by investment and CF by financial additivities are minus within the range of plus of CF by operation. And the balance of CF gradually and steadily increases every year; making the company stronger.

• CFマージン:
  • 営業CF/売上高
• バランスの良いCF
  • 営業CFがプラスで、その範囲内で
    投資CFと財務CFがマイナス
  • 毎年確実にCF残高が増加

>Top 4. How to read the essence of BS:

• Priority against solvency risk:
  • Liquidity On Hand, 2) Quick Ratio, 3) Current Ratio, and 4) Equity Ratio.
    • "Liquid quick current equity"
• Current Ratio= (Current Assets)/(Current Debt)
• Low current ratio Case-1: Railway company:
  • Current ratio of Tokyu Railway; 30% (¥109B/¥362B, 2010)
  • Inventory is almost zero; electricity could not be stored.
  • Accounts receivable is very small.
    • Prepaid card like Suica/Pasmo: when a customer buys prepaid card, the credit is current debt, and debt is cash. (Daily cash income)
    • Such cash can be used for long-term asset management.
  • Other utility companies such as Electric Power Co., or Telecom Co. are similar.
• High current ration Case-2:
  • Hospital: patients pay 30% of medical fee. The remained 70% will be paid by the health union about two months later.
  • Such 70% becomes account receivable (sleep for 2 months or more)
  • In the case of Nursing Care Service; 90% becomes account receivable.
  • Account payable is almost null; payroll is monthly basis.
  • 120% of current ratio is not enough.
  • in some cases hospitals may use leasing company to buy the account receivables (Factoring service)
  • Increase if shareholders' equity is the best solution.
• Why BS is to be made?
• Answer: Japanese Corporation Law (Article 435) states to make BS and PL.
  • SMB or even unlisted companies must conform to this rule.
• But 'deferred income taxes' does not occur except listed large companies.
• Japanese Financial Securities and Exchange Laws stated to make CF by listed large companies.
• Industry Laws (Electricity, Bank, Insurance, Telecom, etc) also binds relevant industry. (> Fig.)
• Remarks:
  • Impairment Accounting: when a certain fixed assets could not be profitable, the book value would be devaluated. (as per Financial instrument & exchange law)
  • Compulsory Devaluation is different; when the land became devaluated and could not recover any more, then the book value would be devaluated. (as per Corporation Law)
  • Market Value Accounting: applied to the value of corporate bond and >Top derivatives and fluctuate according to the market value.
  • While, Impairment Accounting is applied to all assets, and devaluated and never recover.
  • Difference of Subsidiary Co. and Affiliated Co. (or Associated Co.):
    • owns more than 50% shares: having a controlling interest
      • Internal transaction is offset.
      • minor shareholders' portion is adjusted.
      • each item is consolidated.
    • owns no less than 20% and no more than 50% shares: having significant influence.
      • accounted by the equity-method.
      • one-line consolidation (net consolidation)
  • Payment Risk:
    • SMB is not audited by CPA; thus check closely 1) Account receivables, 2) Inventory, and 3) Long-term debt.
    • Easy account receivables may cause risk of 'Bad debt' and 'worsening of cash flow'.
  • Sales to Inventory (Inventory Turnover):
    • Sudden or constant increase of this ratio should be warning.
  • Long-term Debt:
  • In case of SMB, the shift of long-term debt approaching due date (within one year) from fixed asset to current asset is exempted. But this is a risky point.
  • Deferred Tax Asset:
  • Japanese Financial Services Agency guided Japanese banks to reserve 80% of 'doubtful loans'.
  • But Tax Law only addmits losses caused by real bankruptcy;
    • Loans: ¥10B
    • enforced allowance for doubtful loan (80%): ¥8B
    • tax for this allowance (40%) will be: ¥3.2B (deferred tax asset)
    • this deferred tax will be returned as long as the bank's profit is more.
    • Valuation asset is risky
• IFRS (International Financial Reporting Standards): >Top
  • IFRS was issued by IASB (International Accounting Standards Board) in 2001
  • IAS (International Accounting Standards) was issued by IASC (International Accounting Standards Committee, the predecessor of IASB) in 1973-2001.
  • Defined 'Comprehensive Income (CI)', adding profit from PL and difference of asset by market value from BS.
  • WACC (Weighted Average Cost of Capital) Top
  • True and fair view override.

4. 貸借対照表を読む虎の巻

• BSのイメージ
• 
• 流動性リスク対策:
  • Liquid quick current equity
• 鉄道会社の場合:
• 東急電鉄の流動比率は30%
  在庫なし、日銭、売掛金少
• 会社法/金融商品取引法/業法:
• 
• 減損会計：
• 
• 留意事項
  • 減損と強制評価減
• 時価会計と減損会計
  • 時価会計は有価証券とDelivertives対象
  • 減損会計は全資産
• 子会社と関連会社の違い
  • 親子間取引は相殺
  • 関連会社は持分法：一行連結
• 売掛金に潜む二重のリスク
  • だまされやすい科目：
    売掛金、棚卸資産、長期借入金
• 上場会社の売掛金は監査法人が確認
  • 確認後相手が倒産すれば別
• 貸倒リスク＆資金繰悪化
• 棚卸資産：
  • 商品の陳腐化による簿価減
  • 在庫回転率=棚卸資産/月商
  • 急激な在庫回転率の変化は不良在庫の可能性あり
• 評価性資産：
  • 税効果会計
    
  • 金融庁は銀行に対し、貸倒引当金80%計上指導
  • 但し税法上は実際の倒産出ない限り損金処理不能。
  • →繰延税金資産として計上
  • 但し将来これ以上の利益がなければこの分戻りなし。
• 国際財務報告基準 (IFRS)
• IASBが2001制定
• 歴史的には
  米国 FAS, Financial AC Standards
  欧州 IAS, International AC Standards
• 加重平均資金調達コスト (WACC)
  • 国債金利＋Risk premium (5-10%)

>Top 5. PL and corporate management:

• Breakeven Point:
  • Breakeven point sales = (Fixed cost)/(1- variable ratio) = b/ (1-a)
  • Eg. Steel industry; Fixed cost is large, while variable ratio is small. It brings very large profit after breakeven point.
  • Eg. Trading firm; Fixed cost is small, while variable ratio is large; It brings not so much profit after the breakeven point.
• Strangeness of Sales cost and Production cost:
• Premise: monthly fixed cost: ¥100M; Variable cost per piece ¥5K; Sales price per pc ¥20K; Sales volume per month 10K

  	Monthly production Case-A: 10,000 pcs	Monthly production Case-B: 100,000 pcs
  Fixed cost/pc	10,000	1,000
  Variable cost/pc	5,000	5,000
  Sales cost	15,000	6,000
  Profit	50,000,000	140,000,000
  Inventory	0	540,000000

• The above profit of Case-B is false profit, making large inventory and worsening cash flow.
• Sales amount by US Accounting Standard:
• Trading as an agent: sales amount is agent commission only.
• Profitability, Efficiency, and Safety are sometimes trade-off.
  • Eg. Consulting firm; BS is smaller, but sales is considerably large, which means sales to asset ratio becomes higher.

• ①Equity Ratio 50%			Profit 10 in all cases
  Asset 100	Debt 50	ROA 10%
  	Equity 50	ROE 20%
  ②Equity Ration 10%		③Equity Ratio 90%
  Asset 100	Debt 90	Asset 100	Debt 10
  	Equity 10		Equity 90
  ROA	10%	ROA	10%
  ROE	100%	ROE	11%
  □ROE becomes higher according to the down of Equity ratio.
  □ROE= ROA × Financial leverage
  □ROA is more important target for management.

• Why Sales matters:
• Sales is the contact point with society. Sales is the due return from the society in return for providing goods or services.
• Why Profit matters:
• Five objects of Profit:
1. Ongoing of the company
2. Future investment
3. Treatment improvement
4. Return to shareholders
5. Return to society, including payment of taxes

5. 損益計算書と会社経営:

• ROA=純利益/資産
  = (純利益/売上高) × (売上高/資産)
  =売上高純利益率 × 資産回転率
• ROE=純利益/株主資本
  = (純利益/売上高) × (売上高/資産)
  × (資産/株主資本)
  =売上高純利益率 × 資産回転率
  × (財務レバレッジ)
  = ROA × 財務レバレッジ
  = ROA / 自己資本比率
• 売上＝社会との接点
• 利益の５目的
  1. 会社の存続延命
  2. 未来への投資
  3. 従業員の待遇改善
  4. 株主への還元
  5. 社会への還元、納税含め

• 金融Big Bang以降:

• 企業会計 Corporate Accounting
  	財務会計 Financial Accounting
  		制度会計 Legal Financial AC
  			証券取引法 Sec & Ex Law for listed companies
  			商法 Commercial Law
  			税法 Tax Law
  		非制度会計 Non-Legal
  	管理会計 Management Accounting

>Top 6. CF and money flow:

• Strength of the company:
  • Free CF =(CF from Operation) - (CF from Investment) >Top
  • or Free CF = (CF from Operation) - (Depreciation)
    • CF from Investment includes 'long-term loans expenditure' (no less than 3 months, such as time deposits, buying equity.
    • Here, investment for ongoing operation is assumed as the depreciation expenditure.
• How to use FCF?
  1. Financial improvement: to decrease interest-bearing debt
  2. Future investment: R&D, HRD, Recruitment
  3. Return to the shareholders: increase of dividend, purchase of treasury stock
• DCF (Discounted Cash Flow):
  • Σ cf (n) / (1+i)^n
  • Value of the company=(Present value of CF) - (Interest bearing debt)
• EBITDA (Earnings Before Interest, Taxes, Depreciation & Amortization) >Top
  • Stock value of the company = EBITDA × n
    
    • EBITDA × n (actual result of the past) is surer than Future CF (future expectation)
• How the bank evaluate the company: (SPecial FEB) >Top
  1. Safety:
     Bank is a low-margin business (2-0.1% = 1.99%). Their business is safety first, including getting mortgages.
  2. Profitability:
     Bank has its own rating; 2 year consecutive deficit devaluate the rating.
  3. Future prospects:
     Whether it is a promising industry and a promising company.
  4. Company Executives:
     Personality of the company's CEO. Experience, Vision, Character, Home, Successor (in SMB)
  5. Profitability of the Bank:
     BIS regulations (Basel Capital Accords: more than 8% Equity Ratio in global operation, or 4% in domestic business only)
     • the denominator includes 1) credit risk, 2) market risk, and 3) operational risk including crime, disaster, environment, operation, and own risks; particularly reflecting governance of bad loans, or business scale of the lenders; RA, Risk Assessment such as BCP, ISO31000
     • BIS = Bank for International Settlements

6. キャッシュフロー計算書とお金の動き:

• 会社の強さ=FCFの２つの定義
  • FCFの使途
• DCF
  • 会社の価値=CFの現在価値 - 有利子負債
• EBITDA (金税減前利益)
  • EBITDA ×n =EBITDA倍率
    = 7 -8 times in M&A boom
    = or 5 time in M&A downturn
• 投資サイクル:
• 
• 在庫サイクルと設備投資サイクル:
• 
• 銀行が見る５ポイント：
  1. 安全性: 倒産回避
  2. 収益性: ２年連続赤字は降下
  3. 将来性: 業界と会社
  4. 経営者: 後継者(SMB)
  5. 銀行の収益性: BIS規制

>Top 7. Meaning of reading financial statements:

• To read the financial statements is a necessary condition, not a sufficient condition.
• To succeed business is to supply good goods or services to the client.

7. 財務諸表を読むことの意味:

• 財務諸表を読めることは必要条件
• 顧客に対して良品や良サービスの提供が重要

Comment

• There are four modern fundamental knowledge; EIAS, English, ICT, Accounting, and Statistics; the last three are closely related to mathematics.
• Also, extension of Web expression is essential; ASCII, UTF-8, Pīnyīn, $\LaTeX$, etc.

• 四大基礎知識 EIAS; 英語、ICT、会計、統計。後の３つは数学に関連している。
• Web表現の拡張も重要である。ASCII, UTF-8, Pīnyīn, $\LaTeX$, etc.