Hi, everybody, in this class we are going to learn how to export information from financial statements. Last class we learned how to make balance sheet, an income statements and how to calculate cash flows. Using financial statements, you can tell how healthy a firm is. It is like a physical exam for human. In order to derive this information, we are using financial ratios. Financial ratios are grouped into the following levels. Liquidity ratios, leverage ratios, efficiency ratios, profitability ratios and market value ratios. We are going to discuss each ratio with actual numbers. In order to learn how to compute ratios and how to interpret them, let's use Samsung Electronic balance sheet and income statement. As of December 2015, Samsung has 124.8 trillion Korean won of current assets. And it has been increased from 115.1 trillion Korean won into 2014. Samsung's current liabilities are 50 trillion Korean won in 2015 and it is lower than that of 2014. However Samsung’s long term debt has increased from 10.3 trillion Korean Won to 12.6 trillion Korean Won in 2015. Overall Samsung's total assets have increased from 230.4 trillion Won to 242.2 trillion Won. Samsung sales are 200.6 trillion Korean won in 2015. And cost of goods sold is 104.8 trillion won. It's SG an A is 48.5 trillion won. And EBIT is about 26.4 trillion won. Samsung's net income is 18.7 trillion Korean Won. Using these financial statements we are going to make financial ratio and interpret firm's financial health. The liquidity ratio is, in other words, short-term solvency ratio. That is you can tell whether a firm can pay it's a short-term bill, quickly without any difficulties. Liquidity ratio focuses on current assets and current liabilities and one of the best known and widely used ratio is the current ratio. The current ratio is defined as current assets divide by current liabilities. Using Samsung Electronics balance sheet information, we can find that the 2015 current ratio of Samsung was 2.47. Because current assets and liabilities are in principle converted to cash within a year, their current ratio is a measure of short-term liquidity. We could say in 2015 Samsung has 2.471 in current assets for everyone in current liabilities. Or we could say is Samsung has its current liabilities covered 2.47 times over. To a short-term creditor or a supplier higher current ratio implies that the firm has higher liquidity to pay off its short-term debt. So the higher the current ratio the better. To the firm, a high current ratio indicates liquidity, but it also indicates an inefficient use of cash and other short-term assets. While the 2015 current ratio of Samsung was 2.47. The 2014 current ratio of Samsung was 2.21. That is Samsung's current ratio has been increased. Therefore, we can say that Samsung short-term liquidity has been better. Next, let's consider our case where market value of inventory is not reliable or inventory is hard to convert to cash. Furthermore, some of the inventory may be damaged, obsolete or lost. In this case, current ratio that includes inventory as part of current assets may not give us a true picture of forms of liquidity. So we have the quick ratio where inventory is monitored from current ratio, and divided by current liabilities. Acid quick ratio in 2015 was 2.1. Another measure of short-term liquidity is the cash ratio. The cash ratio is cash divided by current liabilities, and the 2015 cash ratio was 1.42. Finally, imagine that Samsung was facing a strike and cash inflows began to dry up. How long could the business keep running? One answer is given by the interval measure. Interval measure is current assets divided by average daily operating costs. Total cost for 2015 excluding depreciation and interest, 104,803 billion Korean won. The average daily cost was 104,803B divided by 365 is equal to 287.13 per day. The interval measure is thus 124,815/287.13 is equal to 435 days. Based on this, Samsung could hang on for a year or so. The interval measure is also useful for newly founded or startup companies. For such companies the interval measure indicates how long the company can operate until it needs another round of financing. The average daily operating cost for start-up companies is often called the burn rate. Meaning the rate at which cash is burned in the race to become profitable.
