Page 104 - FINAL CFA II SLIDES JUNE 2019 DAY 5.2

Asset Base
Analysis of the asset base is helped by presenting balance sheet READING 19: INTEGRATION OF FINANCIAL STATEMENT ANALYSIS TECHNIQUES
items in a common-size format as a useful starting point.
MODULE 19.3: ASSET BASE AND CAPITAL STRUCTURE

A manufacturer, is expected to have considerable Capital Structure
investments in both current assets (primarily
receivables and inventory) and fixed assets Referring to Figure 19.3, Thunderbird’s financial leverage ratio
(primarily plant, property, and equipment). has decreased over the last three years from 2.2 in 2014 to 2.0 in
However, note the significance of goodwill, which 2016. Unfortunately, the ratio does not reveal the true nature of
is 29.1% of total assets at the end of 2016. Did the leverage, as some liabilities are more burdensome than
completed a number of business acquisitions? others. Financial liabilities and bond liabilities, for example, can be
placed in default if not paid on time, or in the event of
The increases in Thunderbird’s EBIT margin and
ROE (Figure 19.3) may be partially due to noncompliance with the lending covenants (i.e., technical default).
successful acquisitions. However, since goodwill On the other hand, liabilities such as employee benefit
is no longer amortized through the IS, we must obligations, deferred taxes, and restructuring provisions are less
consider the possibility of losses in the future if burdensome and may or may not require a cash outflow in the
goodwill is determined to have been impaired. future.

Next, we will examine the components of Thunderbird’s long-term capital.
Both the current ratio and quick
ratio have declined as a result
of both the increase in notes
payable and the decrease in
marketable securities. The
defensive interval ratio has
been declining due to both an
increase in daily expenditures
and a decrease in marketable
securities.

On the other hand, the firm
appears to be better managing
its receivables, inventory, and
payables, as shown by a
decrease in the cash
Thunderbird’s long-term debt has decreased from 12.4% of long- conversion cycle from 31.0
term capital in 2014 to 8.6% in 2016, a significant decrease in days to 15.5 days. Receivables
financial leverage. are being collected sooner
(declining DSO), inventory
turnover has increased
Given that Thunderbird’s long-term debt has decreased, we (declining DOH), and the firm is
consider the possibility of an offsetting change in the firm’s working paying suppliers more slowly
capital. Various working capital ratios are presented in Figure 19.7. (increasing days’ payables).