Financial ratio analysis is an important topic and is covered in all mainstream corporate finance textbooks. It is also a popular agenda item in investment club meetings. It is widely used to summarize the information in a company's financial statements in assessing its financial health. In today's information technology world, real time financial data are readily available via the Internet. Performing financial ratio analysis using publications, such as Robert Morris Associates’ Annual Statement Studies, Dun & Bradstreet’s Key Business Ratios, Moody’s Manuals, Standard & Poor’s Corporation Records, Value Line Investment Survey, etc., is no longer efficient. Since students and investors now have easy access to on-line databases, the assignments on financial ratio analysis can be modified accordingly to enhance learning. Based upon my experience as a finance professor and as a member of a local investment club, I have prepared this  teaching note to help students and investors in performing financial ratio analysis via an on-line database, Dow Jones Interactive. This database is a Web based, enterprise wide business news and research solution supported by Dow Jones & Company, the parent company of The Wall Street Journal.  The class assignment presented herein is designed to demonstrate how to assess a company's overall operations over time and its current financial standing in the industry.

Students will work on the assignment collaboratively in groups of three or four students. Each group will select an industry of interest to the group, and each student will select a company within that industry. Students will download the relevant financial data from the Internet and perform ratio analysis for the selected companies. Since successful financial ratio analysis is as much an art as it is a science, students must use common sense and sound judgment throughout the analysis. The purpose of this assignment is to provide students with the opportunity to:

• retrieve real time financial data via the Web;
• analyze the financial performance of selected companies;
• practice communication skills, both in writing (through word processing) and in speaking (through giving a Power Point presentation);
• enhance teamwork skills.

To evaluate how the selected company is performing over time, more than one year's financial ratios are required. Students are instructed to follow the path shown below to retrieve the financial profile for the selected company via Dow Jones Interactive. (The initial steps may differ depending on how your library's site is organized.)

• Go to the University Library home page
• Click on Research Resources
• Click on Dow Jones Interactive (DJI)
• On DJI page, click on Company and Industry Center
• Click on Financial Profile
• Select Region: Worldwide
• Enter Company Symbol: ____________
• Display as: Formatted report
• Click on Get Report
• Download the report including Key Financial Ratios, Balance Sheets, Income Statements and Key Competitors (see APPENDIX 1 for an excerpt Financial Profile of Intel)

Trend analysis provides signals as to whether the company's financial health is likely to improve or deteriorate. Each student will perform the trend analysis based upon the following financial ratios:

• Leverage Ratios: to measure the extent to which the company's assets are financed with debt;
• Liquidity Ratios: to measure the company's ability to pay its bills;
• Profitability Ratios: to measure the company's ability to generate earnings;
• Efficiency Ratios: to measure the company's ability to utilize its assets;
• Market Value Ratios: to measure the market perception about the company's future prospects.

The downloaded four years' balance sheets and income statements are to be used to calculate the financial ratios not reported in the DJI. For example, four leverage ratios (Debt/Equity, LT Debt/ Cap, LT Debt/Tot Debt, and LT Debt/Tot Assets) are reported, but the interest coverage ratio (= earnings available for interest/interest expenses) is missing in the DJI. Students are required to obtain the earnings and interest expenses information from the income statements and calculate this ratio to measure the company's ability to service the debt. In the area of liquidity, current ratio (= current assets/current liabilities) and quick ratio (= quick assets/ current liabilities) are reported, but the interval measure (= quick assets/daily operating expenditures) is not. Students are required to obtain quick assets (= cash & equivalent + receivables) from the balance sheets and operating expenditures from the income statements, and calculate this ratio to measure how long the company can keep up with its bills using only existing quick assets. As the financial ratios in each of the five performance areas are compiled, they are analyzed across time. A sample trend analysis for Intel is presented (below) in Table 1. 

Table 1. Intel Trend Analysis
 

Du Pont Analysis

Since it is important to understand how the company's profitability, efficiency, and leverage are linked in its financial performance, students are required to demonstrate and evaluate its Du Pont system over time. The company's return on assets, ROA (=net income/assets), can be expressed as:

ROA = (Net Income/Revenue) * (Revenue/Assets) = Profit Margin * Asset Turnover

And the company's return on equity, ROE (=net income/equity), can be expressed as

ROE = (Net Income/Revenue) * (Revenue/Assets) * (Assets/Equity) = ROA * Equity Multiplier

Both the company's profitability (as measured in terms of profit margin) and efficiency (as measured in terms of asset turnover) determine its ROA. This ROA, along with the company's financial leverage (as measured in terms of  its equity multiplier), contributes to its ROE. As the company's use of leverage magnifies its ROE, students are required to examine ROE carefully. The changes in the company's ROE are to be noted and explained through its profit margin, asset turnover, and equity multiplier over time. The objective is to identify the company's strong area that can be capitalized upon and/or its weak area that must be improved upon. See Table 2 (below) for a sample Du Pont analysis for Intel. 

Table 2. Intel Du Pont Analysis
 

To explain the variation in the company's financial ratios over time, the industry comparative analysis must be performed along with the trend analysis. To evaluate the company's financial performance against its key competitors, the company-to- company comparison report is retrieved from the following path.

• On DJI page, click on Company/Industry Comparison Reports
• Select Report: Company to Company Comparison
• Enter First Company's Symbol: _____________
• Enter Second Company's Symbol: _____________
• Select Display as: Formatted report
• Click on Get Report
• Download the report (see APPENDIX 2 for a Company to Company Comparison Report for Intel)

The financial ratios in each of the performance areas are then analyzed across companies in the industry/group. Students compare their company's financial ratios with those of its key competitors and determine whether managerial or environmental factors cause the trend of the company's financial performance. To further assess the company's financial standing in its primary industry, the company to industry comparison report is retrieved. (See below.)

• Back to DJI page, click on Company/Industry Comparison Reports
• Select Report: Company to Industry Comparison
• Enter Company Symbol: _____________
• Select Compare to: this Company's Primary Industry (as identified by DJI)
• Select Display as: Formatted report
• Click on Get Report
• Download the report (see APPENDIX 3 for a Company to Primary Industry Comparison Report for Intel)

The following specific industry norms are available in DJI and used as benchmarks in this analysis:

• Liquidity: Current Ratio;
• Leverage: Debt/Equity, Interest Coverage;
• Profitability: Profit Margin, Return on Equity, Return on Assets;
• Efficiency: Revenue/Assets;
• Market Value: Price/Book Value, Price/Earnings, Dividend Yield.

Students will report on how the company performs as compared to the industry norms and where the company stands relative to its competitors in the industry. The company's weak and/or strong areas of performance must be identified and recommendations for improvement presented. See Table 3 (below) for a sample industry comparative analysis for Intel.

Table 3. Intel Industry Comparative Analysis
 

* AMD, Advanced Micro Devices,  is one of Intel's key competitors in semiconductors industry.

Go to additional Intel data.

To reinforce the teamwork effort, each group must submit a written report summarizing the ratio analyses of the companies in their industry. Students will work together and produce a group report that is concise and similar in style to an executive summary with no more than four typed pages plus exhibits. Each group will also give an oral presentation to brief the class on their analyses, their recommendations, and the limitations of their analyses. Charts and tables are required in the Power Point presentation.

The incorporation of computer technology in finance classes has become more popular than ever in this information technology rich environment. Mediated classrooms have grown rapidly in numbers throughout universities worldwide. This teaching note demonstrates how finance professors, business students, and investment club members can take advantage of the changing environment to enhance learning. Students can easily retrieve a company's real time financial data via the Internet and analyze its financial performance over time. The assignment presented herein is designed to help students/investors learn how to assess the company's overall operations and its current financial standing in the industry through teamwork and state of the art computer technology. It can be used in any corporate finance classes and/or investment clubs.

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Brealey, R.A. and S.C. Myers. Principles of Corporate Finance (2000), 6^th Edition, The McGraw-Hill Companies, Inc.

Brealey, R.A., S.C. Myers and A.J. Marcus. Fundamentals of Corporate Finance (1999), 2^nd Edition, The McGraw-Hill Companies, Inc.

Brigham, E.F. and J.F. Houston. Fundamentals of Financial Management (1999), Concise 2^nd Edition, The Dryden Press.

Brigham, E.F., L.C. Gapenski and M.C. Ehrhardt. Financial Management: Theory and Practice (1999), 9^th Edition, The Dryden Press.

Gitman, L.J. Principles of Managerial Finance (2000), 9th Edition, Addison Wesley Longman, Inc.

Keown, A., J.W. Petty, D.F. Scott and J.D. Martin. Foundations of Finance (1998), 2nd Edition, Prentice-Hall, Inc.

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APPENDIX 1. FINANCIAL PROFILE

Data current through 10/06/1999

INTEL CORP
2200 Mission College Blvd.
Santa Clara, California 95052-8119
Telephone: (408) 765-8080
Fax: (408) 765-1596

Dow Jones Industry Group: Semiconductors

Business Description: Designs, develops, manufactures and markets microcomputer components and related products at various levels of integration. Its principal components consist of silicon based semiconductors etched with complex patterns of transistors.

Primary SIC: 3674
Stock Symbol: INTC
Exchange: NASDAQ
CEO: Craig R. Barrett
Employees: 64,500
Auditors: Ernst & Young LLP
Latest Report: Unqualified

Balance Sheet Statement ($ Mil)
 

Income Statement ($ Mil)
 

Key Financial Ratios
 

Key Competitors: 3Com Acer AMD Atmel Cisco Systems EDS Fujitsu Harris Corporation Hitachi IBM Integrated Device Technology Lucent Macronix International Mitsubishi Electric Motorola National Semiconductor NEC Nortel Networks Philips Electronics Samsung Electronics STMicroelectronics Sun Microsystems Texas Instruments Toshiba

Data Source: Media General Financial Services
Used with permission from Dow Jones Interactive

APPENDIX 2. COMPANY TO COMPANY COMPARISON REPORT

Data current through 10/06/1999
 

Data Source: Media General Financial Services
Used with permission from Dow Jones Interactive

APPENDIX 3. COMPANY TO PRIMARY INDUSTRY COMPARISON REPORT

Data current through 10/06/1999
 

Data Source: Media General Financial Services
Used with permission from Dow Jones Interactive