© 2000 John Petroff
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© 2000 John Petroff |
A- Deriving useful information from company data
All the analytical tools presented in this chapter require and represent data well beyond the mere numbers on which they based. Ratios, in particular, are relative and comparative measures of a company's assets, liabilities, equity, net earnings, revenues and expenses. They are calculated for the purpose of making predictions about the firm's performance and shed light on its future earnings, risk and growth. To make these predictions, ratios must be compared over time and with benchmarks of similar companies in the same industry, and preferably with companies of similar size. Thus, financial analysis actually involves two sets of information: i) financial statements of the firm, and ii) industry data to which the firm's ratios must be compared.
The predictive function of financial analysis requires the formulation of long range and short run performance projections (for instance, forecasting earnings which is outlined in Chapter 13 Section E). Companies often co-operate with financial analysts by providing them with as much information as competitive secrecy will allow, in addition to standard publicly available financial statements and information contained in SEC filings. Supplemental data is commonly given on sales by product line and by region, new product development, personnel training, capital budgeting, financial planning and pro forma statements. A financial analyst must seek and use this inside information. But caution must be exercised because the information is necessarily biased: the data is unaudited, and management is likely to provide only information that is not detrimental to the company. The financial analyst must make his or her own projections to verify the pro forma financial statements provided by the firm, and learn how to improve these projections by updating them with the help of interim (e.g. quarterly) reports.
Credit analysts in banks and insurance companies are often less specialized than financial analysts in brokerage firms and investment banks. Loan officers and credit department analysts usually require much detail and accuracy in the financial planning submitted to them by companies applying for credit. Most often, this information is made part of a business plan that also outlines marketing and production strategies underlying the financial plan, and that spells out sales projections and resource requirements justifying the funding requested.
See review questions Q-5.1 through Q-5.7.
See research assignment R-5.1.
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