FIN 311 1st Edition Lecture 6Outline of Last Lecture I. Short Term Solvency RatiosII. Long Term Solvency RatiosIII. Coverage RatiosIV. Assets Management RatiosV. Profitability RatiosVI. Market Value Ratios Outline of Current LectureI. Price-Earnings P/E RatioII. DuPont Analysis III. Ethics IssuesIV. Time and Money Current LectureMarket Value RatiosI. Price-Earnings P/E Ratio → Directly for shareholders EBITOA = Enterprise Value EBITOAEBITOA = EBIT + OA similar to OCF Depreciation and Amortization- Enterprise Value = MVE (Market Value of Equity) + BVL(Book Value of Liabilities) - Cash- Market Cap = Stock price x # of shares of stock outstanding- Enterprise Value is also called a takeover value II. DuPont Analysis - DuPont tries to explain why a firm’s profitability (ROA and ROF) changed over the yearThese notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.- How can a firm improve profitability?Reduce costs ↓ Costs Increase Sales ↑ Sales- ROE: Returns to shareholders can be increased through leverage (borrowed funds) with debt comes fixed costs (interest)SalesCostsDepEBIT-Interest → FixedEBT-TaxesNT → Residual amount value to shareholders Increase debt potentially increase returns to shareholders of course increase riskROA = NI → NI x Sales TA Sales TA Profit Margin Total Asset TurnoverLook at Outback to Compare 2010 and 2011. Use NT available to common stockholdersROA = NI 2010: 17 = .034 or 3.4% TA 501.1 2011: 24.9 = .0429 or 4.29% 580.4In 2011 ROA ↑2010: NI x SalesSales TA= 17 x 485.8 485.8 501.1= .035 x .969 = .0342011: 24.9 x 546.9 546.9 580.4= .0455 x .942 = .0429ROA ↑ because the increase in the profit margin is greater than the decrease in total asset turnover ROE = NI → NI x Sales x TA Returns to Shareholders TE Sales TA TEProfit Margin Total Asset Turnover Equity Multiplier (Measure of leveragehow much debt the firm lost)2010: 17 x 485.8 x 501.1485.8 501.1 303.3= .035 x .969 x 1.652 = .056 ROE = 5.67%2011: 24.9 x 546.9 x 580.4546.9 580.4 323.7= .0455 x .942 x 1.793 = .077 ROE = 7.7%ROE ↑ because the increase in the profit margin and equity multiplier is greater than the decrease in the total asset turnoverIII. Ethics Issues- Should financial analysts be held liable for their opinions regarding the financial health of firms? It depends because it is hard to predict the future but it is their job. The investorsalso don’t have to use the financial analyst’s opinion but they are relying on them.- How closely should ratings agencies work with the firms they are reviewing? For example, what level of independence is appropriate?IV. Time and Money - The single most important skill for a student to learn in this course is the manipulation of money through time.- PV (Present Value) FV (Future Value) r (Interest Rate)- Lump Sums are one cash flow at one point in time- Valuation Methods: Formula Tables  Calculator Spreadsheet- PV: Amount today at time 0 - FV: Amount at some point in the future t=n - R or I/Y or i: Appropriate “Discount rate” “Yield to maturity” Depends on the asset being valued “Regained return” “Cost of capital” - T or N or n is when we are valuing the cash flow ( PV or FV) # of cash flows in the annuityPV = 1000 t = 0 t = 1 year r = 5% FV1 = ?? FV = 1000 + (.05)(1000)= 1000 + 50 = 1050FV1 = PV + r PVFV1 = PV (1 + r)FV2 = PV + r PV + r [ PV = rPV] = PV = rPV + rPV + r2PV = PV ( 1= 2r = r2)FV1 = PV (1+r)2FV5 =