Summary - Business Finance - ثاني ثانوي

pul 124 Business Finance M SUMMARY This chapter covered some essential financial statements. A balance sheet enumerates at a point in time what a firm owns (its assets), what it owes (its liabilities), and what owners have invested in a firm (its equity). An Income statement enumerates a firm's revenues and expenses over a period of time, and determines if a firm operated at a profil or a loss. A cash flow statement enumerates cash inflows and outflows. Companies around the world are typically expected to follow international standards in financial reporting Like many countries, Saudi Arabia follows the IFRS framework. However, regional variations in business administration, Informed by local regulations, laws, customs, and terminology, can impact some aspects of reporting. This can present challenges when attempting to draw like-for-like comparisons between statements of companies originating from different countries. Even companies operating in the same country and sector can present Information In contrasting ways. Ratio analysis provides a convenient method to analyze a firm's financial statements, for the rauos are easily computed and readily permit comparisons. Since publicly held corporations must give financial information to shareholders, ratio analysis may be employed not only by management and creditors but also by shareholders. Liquidity ratios measure the capacity of the firm to meet its current obligations as they come due. Activity ratios indicate how rapidly assets flow through the firm and how many assets are used to generate sales. Profitability ratios measure performance, leverage ratios indicate the use of debt financing; coverage ratios measure the capacity of the firm to make certain payments, such as Interest. Once the ratios have been computed, the results may be compared over a series of years or compared with other firms within the industry. Such comparisons should help the analyst perceive the firm's position within the industry, as well as trends that are developing, PROBLEMS 1. List some of the different types of people who might wish to analyze the balance sheet of a firm and explain why each would benefit from the Information it provides.

2. Name the two main recognized accounting standards and provide some basic differences between the two. 3. What are the main components of a balance sheet? 4. Describe three types of ratio analysis. 5. Describe two limitations of financial accounting data. EXERCISES For each exercise, work out the ratio using the formulas introduced in this chapter and explain how the ratio can provide insight into the company's financial performance. 1. Ali's electrical shop has current assets of SAR 4,500,000. Inventory of SAR 630,000, and current liabilities of SAR 2,754,000. a. Calculate the current ratio حرارة التعليم CHAPTER 3 Analysis of Financial Statements 125)

126 Business Finance b. Calculate the quick ratio 2. Omar's computing service has annual sales of SAR 2,013,000 and accounts receivable of SAR-825,000. What is its receivables turnover? 3. Asma's technology company has sales of SAR 12,560,000, fixed assets of SAR 3,000,000, and total assets of SAR 4,500,000. a. Calculate the fixed asset turnover b. Calculate the total asset turnover 4. Rasheed's solar supplies has revenues of SAR 58,000,000 and cost of goods sold of SAR 25,100,000. What is the company's gross profit margin? 5. Khalid's logistics company has earnings after interest and taxes of SAR 6,750,000 and total assets of SAR 1,300,000. What is its return on total assets?

ASSESSMENT QUESTIONS Choose the correct answer. 1. Patents and trademarks should be considered as shareholder's equity. True/False 2. Long-term assets include a firm's property, plant, and cash equivalents. True/False 3. A company has total assets of SAR 11,500,000 and liabilities of SAR 8,250,000 What is the level of shareholders' equity? a. SAR 19,750,000 b. SAR 11,500,000 c. SAR 3,250,000 d. It cannot be determined from the information provided. 4. Total assets are the sum all of the following EXCEPT: a. stakeholder's equity. b. current assets. c. property, plant, and equipment d. other assets. 5. An income statement is also called a profit-and-loss statement. True/False 6. An income statement shows Revenues - Expenses - Shareholder's Equity. True/False 7. When the firm earns profits, management can do the following with these earnings: a. pay out the earnings to stockholders in the form of cash dividends b. retain the earnings c. issue new shares d. both a and b, 8. A firm's earnings per share have decreased from one year to the next year. This could be due to: a. lower revenue. b. higher expenses. c. issuing more shares of stock. d. All of these could be true. 9. A cash flows statement is the firm's cash position at the end of the accounting period. True/False حرارة التعليم CHAPTER 3 Analysis of Financial Statements 127

M 128 Business Finance 10. The statement of cash flows is divided into these sections EXCEPT: a. operating activities. b. earnings activities. 11. A statement of c. investment activities. d. financing activities. determines the changes in the firm's holdings of cash and cash equivalents, and serves as a link between the income statement and the balance sheet. a. cash flow b. cash position c. income flow d. asset flow 12. Ratios can indicate trends, for example, a deterioration in the firm's profitability, enabling management to take action to prevent or minimize future difficulties. True/False 13. Horizontal analysis refers to the process of comparing current financial data to previous reporting periods. True/False 14. The analysis using ratios computed at the same time for several firms within an industry is called: a. time series analysis. c. cross-sectional analysis. b. competitive ratio analysis. d. finance comparison ratios. 15. Liquidity typically refers to the ease with which assets may be converted into cash without affecting their market price or selling them at a loss. True/False 16. The quick ratio or acid test calculates the ratio of all current assets to liabilities EXCEPT: a. inventory. b. cash. c. prepaid expenses. d. receivables 17. The ratio of revenues minus cost of goods sold to sales is called return on total assets. True/False 18. A return on total assets of 4.4% means that: a. the firm returns SAR 44 for every Riyal invested in assets. b. the firm returns SAR 4.4 for every Riyal invested in assets. c. the firm retums SAR 0:44 for every Riyal invested in assets. d. the firm returns SAR 0.044 for every Riyal invested in assets.

19. Leverage ratios measure the firm's use of debt financing. True/False 20. A debt ratio of 86.3% indicates: a. the firm's debt is financing 86,3% of the firm's assets. b. the firm's debt is financing 86,3% of the firm's inventory. c. the firm's debt is financing 86.3% of the firm's current assets. d. the firm's debt is financing 86.3% of the firm's long-term assets. حرارة التعليم CHAPTER 3 Analysis of Financial Statements 129)

M KEY TERMS Match the terms listed with their definitions. Write the letters of the correct definitions. Term Your Choice Definition 1. Accounts receivable 2. Activity ratios 3. Assets 4. Balance sheet 5. Coverage ratios 6. Cross-sectional analysis 7. Current assets 8. Current liability 9. Current ratio 10. Debt ratio 11. Debt/net worth ratio 12. Depreciation 13. Fixed asset turnover 14. Gross profit margin 15. Horizontal analysis 16.come statement 130 Business Finance a. An indicator of how well a company is using its resources to generate revenues and cash b. The ability of the firm to service interest or dividend payments c. The ratio of a firm's current assets to its current liabilities, measure of liquidity d. An efficiency ratio that indicates how well or efficiently a business uses objects that have been purchased for long-term use to generate sales e. A method for analyzing accounting data by comparing current financial data to previous reporting periods f. Amounts of money that are due to be paid to a seller from a buyer g. An indicator of the extent to which a firm's operations are funded by debt h. Financial statement that summarizes revenues and expenses for a period of time to determine profit or loss i. Current assets excluding inventory divided by current liabilities, an indicator of liquidity j. A firm's net worth, the amount of money that individuals have invested in the firm; the sum of stock, paid-in capital, and retained earnings k. Ratio of revenues minus cost of goods sold to sales; percentage earnings on sales before considering operating expenses, interest, and taxes I. A financial statement summarizing the amount of money that is coming into and going out of a firm m. Ratio of operating income (EBIT) to interest expense; measure of the safety of a debt instrument n. Ratio of sales to everything that a firm owns; a measure of the amount of assets that a firm has which is required to generate sales o. What an economic unit owes expressed in monetary terms p. The process of evaluating elements of a financial report as they relate to other pieces of information in the same report

Term 17. Inventory 18. Inventory turnover 19. Leverage ratios 20. Liabilities 21. Liquidity ratios 22. Long-term assets 23. Long-term liability 24. Profitability ratios 25. Quick ratio (acid test) 26. Ratio analysis 27. Receivables turnover 28. Return on total assels 29. Shareholders equity 30. Statement of cash flows 31. Times-Interest-eared 32. Time series analysis 33. Total asset turnover 34. Vertical analysis Your Choice Definition q. Short-term assets that are expected to be converted into cash during the fiscal year r. What a firm has available to sell s. Ratio of a firm's earnings to the total amount that it owns, a percentage earned on assets t. A financial statement that enumerates (as of a point in time) what an economic unit owns and owes and its net worth u. The speed with which the things that a firm has available to sell are sold v. A company's ability to pay off current debt obligations without securing external capital w. An evaluation of data about several firms in the same Industry at a point in time x. Debt that becomes due to be repaid after one year y. A debt that must be paid during the fiscal year z. The ratio of money owed to equity; money owed divided by equity za. Items or property owned by a firm, household, or government and valued in monetary terms zb. The total amount of money owed divided by the total assets: the proportion of assets financed by money owed: a measure of financial leverage zc. A firm's ability to generate eamings relative to its revenue, operating costs, assets, or equity over time zd. The speed with which a firm is able to collect money that is owed ze. Evaluation of a firm's financial performance over a period of time zf. The process of allocating the cost of the fixed assets over a period of time zg. A method for analyzing accounting data by reading down a single column in a financial statement and determining how each individual line items in the statement relates to another base figure in the report zh. Assets that are expected to be held for more than a year, such as plant and equipment حرارة التعليم CHAPTER 3 Analysis of Financial Statements 131

M 132Business Finance KEY FORMULAS Balance sheet equation: Total assets = Total liabilities + Total shareholders' equity Income statement equation: Revenues - Expenses = Net income Net earnings Number of shares outstanding Current assets Earnings per share = Current ratio Current assets-Inventory Quick ratio Current liabilities Inventory turnover Turnover in days = Receivables turnover Fixed asset turnover Total asset turnover Current liabilities Sales Average Inventory Number of days in a year Inventory turnover Annual sales Accounts receivable Sales Fixed assets Sales Total assets Revenue - Cost of goods sold Revenue Earnings after interest and taxes Total assets Gross profit margin Return on total assets = Debt Debt/net worth ratio = Equity Debt ratio Debt Total assets Earnings before interest and taxes Times interest earned = Annual Interest charges

MINI CASE 3.1 Analyzing Performance Through Financial Reporting All runs a large computing store. He is looking to expand the business and wants to analyze its financial performance to make the best use of the company's assets. His friend suggests he could start by compiling and analyzing financial statements for the business over the last few years. "My business is privately owned, so I don't have to publish financial reports," says Ali. "That may be true," his friend answers, "but it can be very useful for your own benefit to keep your records in check:"All wonders which financial reports he should compile. Task 1. List three types of financial statements discussed in this book that Ali could create to analyze the business. 2. How can analysis of financial statements help Ali in assessing and improving the financial efficiency of the business? حرارة التعليم CHAPTER 3 Analysis of Financial Statements (133)

M 134 Business Finance MINI CASE 3.2 Understanding the Balance Sheet Abdullah is the finance manager of a large fruit and vegetable wholesaler that supplies fresh produce to cities in the Eastern Province. The company director has asked him to provide some basic information on the company's financial status. Abdullah has collated all the data into a simplified balance sheet. Total assets Total liabilities SAR 2,700,000 SAR 1,600.000 Total shareholders' equity SAR 1,200,000 The company director calls Abdullah to his office, explaining that something must be wrong with the data provided. Task 1. Using your knowledge of balance sheets, explain why the company director has questioned the data provided by Abdullah. 2. Suggest what actions Abdullah could take to resolve the issue.

MINI CASE 3.3 Using Ratio Analysis to Assess Company Performance Miro is a young student who dreams of one day owning her own business. She has recently taken a course in Business Finance, and is interested in how ratio analysis can be used to gauge a company's performance. Mira applies the skills she has learnt by working out and analyzing ratios for existing businesses that would be her competitors. She has looked at the financial statements of a local company and noted that it has current assets of SAR 22,000, current liabilities of SAR 14,500 and inventory of SAR 8,000. Task 1. Show how Mira would work out the current ratio and the quick ratio. Based on your analysis of the results, explain why it can be useful to analyze more than one type of ratio when assessing a company's financial health. 2. What additional information would Mira need in order to work out the company's gross profit margin? وزارة التعليم CHAPTER 3 Analysis of Financial Statements 135

M 136 Business Finance CASE STUDY: FINANCIAL REPORTING AT SAUDI ARAMCO At time of writing. Saudi Aramco is the world's largest company by market cap, exceeding $2.3 trillion, having overtaken the American technology giant, Apple Inc. in May 2022. With its origins rooted in the burgeoning oll industry back in 1933, Saudi Aramco is a lynchpin of Saudi Arabia's economy. Since its establishment, the company has been central to the nation's economic growth and remains integral to Saudi Arabia's ongoing prosperity. Today, the company has a workforce of over 68,000 people. Saudi Aramco is now playing a major part in restructuring the economy, enacting the reform goals outlined in Saudi Vision 2030 to move away from a chiefly oil-based economy. Until recently, the company was entirely state-owned, but is currently undergoing a major transformation, integral to Saudi Arabia's diversification strategy. The Saudi government vowed to sell off shares in the company up to the value of 5%, with the revenue generated going back into a fund to invest in national projects to stimulate other parts of the economy. According to the official Saudi Vision 2030 statement: "We will develop further the sophistication of our investment vehicles, particularly after transferring the ownership of Aramco to the Public Investment Fund, which will become the largest sovereign wealth fund in the world." Indeed, when Saudi Aramco was listed on the Saudi Exchange in December 2019, at 32 Riyals per share, it broke the world record as the largest ever IPO (initial public offering), previously set by the Alibaba Group in 2014. Initial shares of 1.5% raised a staggering $25.6 billion! "We are determined to reinforce and diversify the capabilities of our economy," explains the Saudi Vision 2030 statement, turning our key strengths into enabling tools for a fully diversified future. As such, we will transform Aramco from an oil-producing company into a global industrial conglomerate." This evolution is seeing Saudi Aramco increase its investment in sustainable and green energy, including a recently announced partnership with both King Abdullah University of Science and Technology (KAUST) and Hyundai Motor Group to research efficient fuel for hybrid cars. Meanwhile, Saudi Aramco recently formed a strategic partnership with the Aston Martin Formula One racing team. This alignment with motorsport is indicative of Saudi Vision 2030's 'Daem strategy to strengthen Saudi Arabia's presence in the entertainment and hospitality sectors. Rules on disclosure of financial statements can vary across the globe depending on the nature of the company. Typically, private companies worldwide are often not obliged to reveal their reports, whereas publicly listed companies-by nature, accountable to their shareholders-are required to publish this information.

The Saudi Aramco website provides a wide range of insightful information and data on its financial reporting. Simple infographics present the headline figures at a glance, while a range of detailed downloadable reports enable closer analysis. The Annual Report 2021 contains a range of financial statements, including the consolidated statement of income, comprehensive balance sheet, and consolidated statement of changes in equity, all independently audited by the international accounting firm, PricewaterhouseCoopers. Of its: 2021 year results, Saudi Aramco's President and CEO Amin H. Nasser said: "Our strong results are a testament to our financial discipline, flexibility through evolving market conditions, and steadfast focus on our long-term growth strategy." While official financial reports are principally useful for the accounting and performance data they contain, they carry great value in contextualizing the results within the company's overarching strategy and the wider business environment. Saudi Aramco's ongoing transformation is reflected in the reporting, both in the data and tone of language. The Annual Report Itself, for example, is titled 'Energy security for a sustainable world, which immediately highlights the company's strategic compass. The chairman's opening statement notes: "The Company remains at the forefront of enabling and enhancing the Kingdom's industrial, technology and sustainability infrastructure to help create new jobs and further diversify the domestic economy!" Study Questions 1. Which accounting standard does Saudi Aramco use for its financial reporting? 2. Describe three ratius that could be used to analyze Saudi Aramco's financial performance. Explain how each can provide a different insight. Online Activity Visit the Saudi Aramco webpage (www.aramco.com) to view or download the Annual Report 2021, which includes financial highlights. List five key pieces of financial information that you have discovered about the company, and ixptain how they are useful in analyzing its performance and strategic vision. وزارة الصلح CHAPTER 3 Analysis of Financial Statements 137