This document provides an overview of a two-day seminar on decoding financial statements and investing in times of uncertainty. Day one covers financial ratios for measuring liquidity, profitability, and leverage. It also explains the profitability model for evaluating companies. Day two discusses sources of macroeconomic uncertainty, historical perspectives on market returns and risk, and how global demographics will influence future investment returns and economic growth. The seminar aims to help investors understand company and market fundamentals in order to make informed investment decisions.
2. Donald W. Reynolds National Center
For Business Journalism
At Arizona State University
Strictly Financials 2
3. Gary Trennepohl, Ph.D.
ONEOK Chair and President’s Council Professor of Finance
Oklahoma State University
Trustee, Oklahoma Teachers Retirement System
Member, OSU Foundation Investment Committee
gary.trennepohl@okstate.edu
Strictly Financials 3
4. Topics
Wednesday:
8:30 am to 3:00 pm – Decoding Financial
Statements and Company Analysis.
3:15 pm to 5:00 pm – Investing in a Time of
Uncertainty
Thursday:
8:30 am to 11:15 am – Financial Markets in 2012:
Where are the Stories?
Strictly Financials 4
5. I. Decoding Financial Statements
1. Financial Ratios – what they tell us
2. Profitability Model – how the firm generates profits
Strictly Financials 5
6. Ratios to Measure Financial
Health
Liquidity
Current assets
current ratio =
Current liabilities
quick ratio = Current assets - inventory
Current liabilities
Strictly Financials 6
7. Another View of Liquidity:
Net Working Capital
Total Assets = Liab.+Net Worth
Current Assets Current liabilities
Net Working Capital
Long Term Debt +
Fixed Assets
Common equity
Strictly Financials 7
8. Ratios (con’t)
Profitability
net profit after tax
sales
net profit margin =
net profit after tax
return on assets = total assets
sales
total asset turnover =
total assets
Strictly Financials 8
9. Profitability Ratios (con’t)
Factors affecting profitability
inventory turnover = cost of goods sold
inventory
accounts receivable
collection period = accounts receivable
(sales/365 days)
Strictly Financials 9
10. Ratios (con’t)
How is the firm financed?
total debt
total assets
debt ratio =
Total debt
debt/equity ratio = total equity
total assets
equity multiplier = common equity
Strictly Financials 10
11. Ratios (con’t)
What return is generated for common
stockholders?
return on equity = EACS
common equity
Strictly Financials 11
13. Evaluating a Company Using
The Profitability Model
The profitability model is useful because it
separates return on equity (ROE) into three
components -
financial leverage (equity multiplier),
operating efficiency (net profit margin)
asset utilization (total asset turnover).
ROE is a function of all three factors
Strictly Financials 13
14. The Profitability Model (con’t)
Return on equity =
NPM X total asset turnover X equity multiplier
net profit sales total assets
X X
ROE = sales total assets common equity
Strictly Financials 14
15. II. Investing in Time of Uncertainty;
WSJ calls it “Macro” Investing
1. What is Risk and Uncertainty?
2. Historical Perspective on Return
and Risk in the Market.
3. How Country Demographics will
drive Investment and Returns in the
Coming Decades
16. Macro Uncertainty Examples
Natural Disasters:
Katrina,
The Japanese earthquake
Political Turmoil
The Arab Spring
Terrorist Attacks
European Debt Crisis
Economic Events
The 2008 Recession
Bankruptcy of Lehman Bros.
16
17. Perspective over Past 60 Years
U.S. stocks enjoyed a great boom in the 1980’s and
’90’s – returns averaged 18% yearly.
2000’s decade returns: S&P returned 1%, Bonds 6%
annually.
A survey in 1951 about investing showed:
49% favored bonds, then real estate then bank deposits
Only 6% favored stocks. 28% said they would not hold
stocks because of “lack of safety.”
17
18. World Events Over the
Past two Generations
A world war that cost 50 million lives
Korean Conflict
A cold war and Iron Curtain that threatened world
destruction.
The Vietnam Conflict, the Oil Embargo in 1974,
severe inflation, wage and price controls, another oil
shock, the dissolution of the Soviet Union.
Two wars in the Middle East, and 9/11/2001.
The 2000’s that gave us a real estate bubble, toxic
mortgage securities, and near collapse of the world
banking system.
18
19. What this Means for Investors
Put your fears into perspective:
Warren Buffett: “We have usually made our best
purchases when apprehensions about some
macro event were at a peak.”
Is fear warping your perception of risk?
Take selective risks:
If you endured the past decade, hang in there.
Exposure to factors like illiquidity, credit concerns,
natural disasters and insurable events wil be
better rewarded than in the past century.
Invest with a global perspective 19
20. History of U.S. Stock and
Bond Returns Provides a
Perspective for the Future
Strictly Financials 20
26. What about the Decade
Of 2000 to 2010?
Many news sources have reported that the
“’00s” were the lost decade for returns for
stocks, but it depends on which numbers you
choose.
S&P 500 - .4%
DJIA + 2.5%
Small Cap + 6.2%
World Index + 1.3%
Brazil +21.0%
U.S. T-Bonds + 8.3%
Strictly Financials 26
28. You Can Keep Track of Current
Market Volatility with the VIX
The “VIX” is a measure of the market’s perception
about market uncertainty over the next 30 days.
It’s derived from the Black-Scholes “option pricing
model” of which one input value is expected volatility
(ie. future standard deviation) of the S&P 500.
You make the calculation by “solving the model
backwards” – that is “given the observed price, what
volatility is needed to produce that price by the
model.”
Strictly Financials 28
29.
30. So, What Does All
Of This Data Tell Us?
First, remember when people say “this time is
different,” it is never different.
Markets over and under correct, but they
ultimately revert to the mean of their long
term values.
Periods of over performance will be followed
by periods of underperformance, etc.
Diversification is a key strategy for investing.
Strictly Financials 30
31. Did the Markets Really
Change in 2008?
Probably not, but two factors are changing
investing in profound ways:
Technology that makes market information
instantly available
Globalization of financial markets is linking
economies around world.
Strictly Financials 31
32. What is Really Changing:
Demographics of Major Countries
1. Countries with larger numbers of younger
workers will enjoy higher growth rates than
“older” countries.
2. Demand for housing, autos, and consumer
goods is driven by the 25 to 45 year old age
cohort.
32
41. “The Bond Buyer’s Dilemma”
By Burton Malkiel in the WSJ, Dec 7, 2011
The yields on long term U.S. Treasuries will likely fall
below inflation for the next several years - Long Term
treasuries are likely to be sure losers
Investors should consider as alternatives:
Bonds with moderate credit risk where the spreads over
treasuries are generous.
Tax exempt municipal bonds are especially attractive
Foreign bonds in fiscally secure countries, e.g. Australia
High quality U.S. stocks with generous dividend
yields
Abbott Labs, ATT, Exxon, J&J, P&G.
Strictly Financials 41
42. Story Ideas
1. What do investors and investment
advisors say about market volatility?
2. Are investors/advisors investing in
international markets? If so, where
and why?
3. What will happen to bond prices and
interest rates in 2012-2014?
Notas del editor
Seems like there is more to bullet one, such as, “Technology that makes market information and the ability to trade instantly available. I.e. disintermediation.That technology also “has the ability to DECIDE to trade on its own, depending on the algorithms that govern it.