Welcome to

AIBF
Financial Statement
Analysis Training
Asalamualikum!

Khalid Zarif
Current engagements
Deputy Director & Academic Head of AIBF
President of Afghanistan Association of Professional
Accountants (AAPA)
Bank Millie Afghan (BMA) Supervisory Board Member
President of Afghan Social Researchers Association (ASRA)
Work Experiences
Business Unit Manger & adjunct Trainer, AUAF-PDI
Technical Adviser, FinTRACA- Da Afghanistan Bank
Custom Analyst- Ministry of Finance
Official of Treasury Department- Ministry of Finance
Education:
Global MBA plus finalist of ACCA- Continuous
BSc from Oxford Brookes University
Certified Accounting Technician (CAT)

1.

INTERPRETATI
ON OF
FINANCIAL
STATEMENTS

Purpose and format of the

financial statements

2.

Users of the financial

Statements

3.

Profitability Ratios &

Interpretation

4.

Liquidity Ratios &

Interpretation

5.

Gearing Ratios &

Interpretation

6.

Limitations of ratio analysis

Accounting: Definition
Is the process of

Recording
Classifying
Summarizing
Interpreting

in journal
in ledger and
in Financial Statements
financial information in
order to make decisions

Financial Statements

Financial Statements present information about

The financial position of an entity

Its financial performance during accounting period
Its cash flow

Financial statements are

1.

2.
3.
4.
5.

Statement of Financial Position

Statement of Comprehensive Income/income statement
Statement of Cash Flow
Statement of changes in Equity
Notes to the Financial Statements

Elements of Financial Statements

Statement of Financial Position

shows the financial position of an entity as at a particular date.

The financial position is shown by assets, liabilities and
equity (capital)

Income statement

shows the financial performance of an entity during an

accounting period
The financial performance is shown by income and
expenses

Continued

Elements of Statement of Financial Position

Asset

An asset is a resource controlled by the entity as a result of past

event and from which future economic benefits are expected to
flow to entity.
Examples of assets are factories, office buildings, warehouses,
delivery vans, lorries, plant and machinery, computer equipment,
office furniture, cash and goods held in store

Assets are of two types

Current Assets: are those assets that are cash, will be converted
into cash or will be used up within one year

Cash, Accounts Receivables, Inventory

Non-Current (Fixed) Assets: are assets that will be used in more

than one accounting period

Building, vehicles, machines, plant and equipment

Elements of Statement of Financial Position

Liability

is a present obligation arising from past events, the settlement

of which will result in an outflow of economic benefits from the
entity.
'Liabilities' is the accounting term for the debts of a business.

Liabilities are of two types:

Current Liability: is an obligation to others which is payable in 12

months

Non-current liability: is an obligation to others payable in more

than 12 months

Accounts payable, bank overdrafts, short term loans

Long term loans from banks

Capital/Equity/net assets

Is the amount invested in business by owners(capital)

Consists of amount invested by owner and profits of business

Format of Statement of Financial Position

Statement of Financial position is in vertical format and is

divided into two parts

The top half of the statement shows the assets of the business
with non current asset first and current assets below the non
current assets

The lower of half of the statement shows the capital followed

by liabilities. The liabilities are shown with non-current liabilities
first and then current liabilities

The total of assets must equal the total of capital and

liabilities

Statement of financial position

Statement of profit or loss and other

comprehensive income

Changes in equity

Format of Statement of Financial Position

1.

Business Name- Statement of Financial Position

Assets
Non-current Assets
Property, plant and equipment
+Borrowing Cost
Goodwill
Other intangible assets
-Impairment
Investment in Associates
Investment property
Investment in equity instruments
Biological Assets

(IAS-16)
(IAS-23)
(IFRS-3)
(IAS-38)
(IAS-36)
(IAS-28)
(IAS-40)
(IAS-38)
(IAS-41)

Current Assets

Inventories
Trade Receivable
Assets held for sale
Other current Assets
Cash and cash equivalents
Total assets

(IAS-2)
(IFRS-5)

Equity and liabilities

Equity attributable to owners of the parent
Share Capital
Retained earnings
Other components of equity
Non-controlling interest
Total equity
Non-current liabilities
Long term borrowings IAS-32 (IFRS-9)
Preferred Share
IAS-32 (IFRS-9)
Deferred tax
(IAS-12)
Long-term provisions (IAS-37)
Government grants
(IAS-20)
Leasing obligation
(IAS-17)
Total non-current liabilities
Current liabilities
Trade and other payables
Short-term borrowings
Current portion of long-term
Borrowings
Current tax payable
Short-term provisions
Total current liabilities
Total liabilities
Total equity and liabilities

Format of Income Statement

Business Name- Statement of Comprehensive Income for the year ended
Revenue/ Sales/ turnover (IAS-18)
Less Cost of Sales
Gross Profit
Other income
Administrative expenses
Distribution Expenses
Financial Cost (Interest Expenses)
Profit before tax (PBT)
Tax expenses (IAS-12)
Profit after tax (PAT)
Profit/ Loss from discounted operation (IFRS-5)
Other Comprehensive Income
Revaluation gain/ loss (IAS-16)
Actuarial gain/loss (IAS-19)
Fair value thought OCI (IFRS-9)
Cash flow hedge gain/loss (IAS-39)
Total Comprehensive Income

Elements of Income Statement

Income : consists of

Revenue from sale of goods

Other items of income such as interest received
Gains from disposing of assets

Expense: consists of

Expenses arising in the ordinary course of activities such as

cost of sales, wages and salaries
Losses from disposing of assets

Format of Income Statement

Business Name- Statement of Comprehensive Income for the year ended
Revenue/ Sales/ turnover (IAS-18)
Less Cost of Sales
Gross Profit
Other income
Administrative expenses
Distribution Expenses
Financial Cost (Interest Expenses)
Profit before tax (PBT)
Tax expenses (IAS-12)
Profit after tax (PAT)
Profit/ Loss from discounted operation (IFRS-5)
Other Comprehensive Income
Revaluation gain/ loss (IAS-16)
Actuarial gain/loss (IAS-19)
Fair value thought OCI (IFRS-9)
Cash flow hedge gain/loss (IAS-39)
Total Comprehensive Income

QUESTION
In the month of January, a business had these transactions:
Sales $150,000
Purchases $70,000
Returns inwards $5,000
Returns outwards $1000

If the opening inventory was $12,000 and closing inventory

was $14,000

Requirement: calculate the gross profit for the month

QUESTION
The following information relates to Minnies hairdressing
business in the year ended 31 August 20X7:
Expenses
7,100
Opening inventory
1,500
Closing inventory
900
Purchases
12,950
gross profit
12,125
Inventory drawings
75
What is the sales figure for the business:
A
$32,700
B
$25,600
C
$25,675
D
$25,750

Relationship between Statement of Financial

position and Income Statement
The income statement and statement of financial position
are separate statements but they are also related to each
other

The income statement ends with net profit or loss. This

profit or loss belongs to the owner. Profit/loss for
the year is added to or subtracting from owners capital in
statement of financial position at the end of the year.
The result of the income statement either profit/ (loss) will
be reflected in the statement of financial position

Users of the financial statement

Information required by users

As well as:
Employees - will I get paid?

Governments - tax, regulations compliance

Suppliers / lenders - will we get paid?

Customers - can we rely on this company?

Information required by users

Purpose
Analysis of a companys financial statements is
performed by the following:
Management

Interested

parties

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

How Financial Information Analysis?

Financial statements can be assessed using ratio

analysis

Past trends of the same business (analysis through

time) and compare to budget

Comparative information for similar businesses

(analysis by competitors)

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Ratio Analysis
Is a tool for measuring a firms liquidity,
profitability, and reliance on debt financing,
as well as the effectiveness of managements
resource utilization.
How the ratio means are enhanced? if we
compare with:
Past performance (i.e. past years ratios)
Target Ratios
Other companies ratios (i.e.
competitors ratios)
Industry as a whole

Ratio Analysis
In order to make sense of whether ratios are
good or bad, we need to answer the below
questions:

What does the ratio literally mean?

What does the change in the ratio mean?

What is the norm in the industry?

What are the limitation of the ratio?

TYPES OF RATIOS
Category

Ratio

Description

Profitability
Ratio

Gross profit
Net profit
Asset turn over
Return of capital employed
Return on Equity

Gross profit divided by sales

Net profit divided by sales
Sales divided by capital employed
PBIT divided by capital employed
PAT & Pre Dividend divided by capital emp

Current ratio
Liquidity Ratio
Quick(acid test) ratio

Liquidity
(Efficiency)
Ratio

Inventory turn over

Receivables turn over
Payables turnover

Current assets divided by current liabilities

Current assets (minus inventory) divided
by current liabilities

Inventory divided by cost of sales x 365

Receivables divided by sales x 365 days
Payables divided credit purchases x 365

Gearing Ratio

Debt to equity ratio

Long term debt to equity
Interest Cover

Total liabilities divided by equity

Long term divided by equity
PBIT divided by interest payable

Investor Ratio

Earning per share (EPS)

Price/Earnings(P/E) ratio
Dividend Cover

Profit after tax divided by ordinary shares

Market value of shares divided by EPS
Profit after tax divided by dividends

Profitability
Profit margin

This is the margin that the company makes on its sales,

and would be expected to remain reasonably constant.

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Profitability
Return on capital employed

Measures

overall efficiency of company in employing

resources available to it

Examine
Change

year to year
Comparison to similar entities
Comparison with current market borrowing rates
FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Profitability
Asset turnover

= times pa

It measures managements efficiency in generati

ng revenue from the net assets at its disposal:

the higher, the more efficient

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Profitability
Relationship between ratios
ROCE can be subdivided into profit margin and asset turnover.

Profit margin
PBIT

Sales revenue

Asset turnover =
Sales revenue

ROCE
PBIT

Capital employed

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Capital employed

Profitability
Return on equity

More restricted view of capital than ROCE, but same

principles

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

There are two ratios used to measure overall

working capital:

the current ratio

the quick or acid test ratio.

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

Liquidity and working capital ratios

Current ratio

The current ratio measures the adequacy of current a

ssets to meet the liabilities as they fall due.

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

Quick ratio

Eliminates illiquid and subjectively valued inventory

Could be high if overtrading with recbles, but no
cash

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

Inventory Turnover
Cost of sales
Inventory turnover is defined as: = time
Inventory

An alternative is to express the inventory turnover as so

many days

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

Inventory turnover period

Higher

the better? But remember:

Lead times
Seasonal fluctuations in orders
Alternative uses of warehouse space
Bulk buying discounts
Likelihood of inventory perishing or becoming
obsolete
FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

A/cs receivable collection period

Consistent with quick/current ratio? If not,

investigate.

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Liquidity and working capital ratios

Accounts payable payment period

Use cost of sales if purchases not disclosed

This represents the credit period taken by the

company from its suppliers

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Long term financial stability

The main points to consider when assessin

g the longer-term financial position are:
1.

gearing

2.

overtrading

Gearing ratios indicate:

the degree of risk attached to the company and
the sensitivity of earnings and dividends to changes in profit

ability and activity level

Measuring gearing
There are two methods commonly used to express gea
ring as follows.
Debt/equity ratio:
Loans + Preference share capital

Ordinary share capital + Reserves + Non

controlling interest

Percentage of capital employed represented by borrowi

ngs:
Loans + Preference share capital

Ordinary share capital + Reserves + Non

controlling interest + Loans + Preference share capital
FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Long term financial stability

Interest cover

Company must generate enough profit to cover

interest

FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING

Long term financial stability

Overtrading:
Overtrading arises where a company expands its s
ales revenue fairly rapidly without securing additio
nal long-term capital adequate for its needs.

Activity: Classwork Assignment

Investors ratios
Introduction
Earnings per share (EPS) is widely regarded as the most
important indicator of a companys performance. It is im
portant that users of the financial statements:
1. are able to compare the EPS of different entities and
2. are able to compare the EPS of the same entity in dif
ferent accounting periods.
Basic EPS
The basic EPS calculation is simply:

Earnings

Shares

Investors ratios-Test your understanding

Gerard's earnings for the year ended 31 December

20X4 are $2,208,000. On 1 January 20X4, the issued
share capital of Gerard was 9,200,000 6% preferenc
e shares of $1 each and 8,280,000 ordinary shares o
f $1 each. The company issued 3,312,000 shares at fu
ll market value on 30 June 20X4.

Calculate the EPS for Gerard for 20X4

Investors ratios

Activity:

Limitations of ratio analysis

Limitations
Comparative information is not always
available.
They sometimes use out of date information.
Interpretation requires thought and analysis.
Ratios should not be considered in isolation.
The exercise is subjective, for example not all
companies use the same accounting policies.
Ratios are not defined in standard form.
FIA FFA ACCA PAPER F3 FINANCIAL ACCOUNTING