The purpose of this course is to equip you with the knowledge required to comprehend the financial statements of a company and understand the various transactions that take place in the stock market so that you can replicate the strategies discovered by the extant academic literature. The first part of the course provides a brief introduction to financial statements and various common filings of firms. You will learn how to obtain information regarding a company's performance from them and use the information to build trading strategies. Next, you are taught basic asset pricing theories so that you will be able to calculate the expected returns of a stock or a portfolio. Finally, you will be introduced to the actual functioning of asset markets, type of players in the market, different types of orders and the efficient ways and opportune time to execute them, trading costs and ways of minimizing them, the concept of liquidity .etc. This knowledge is required to develop efficient algorithm to execute various trading strategies.
4. Solvency and Liquidity Ratios
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Trading Basics
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从本节课中
Financial Statement Analysis
The purpose of this module is to equip you with the skills required to identify accounting information required for building trading strategies. After completing this module you will be able to calculate the key financial ratios.
与讲师见面
Ramabhadran ThirumalaiAssistant Professor
Indian School of Business
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In this video we will define what solvency and liquidity ratios are and
look at some of the different types of these ratios.
We will continue to use Amazon's financial statements from 2015 to
calculate these ratios and compare them to Amazon's ratios from prior years.
Solvency ratios measure a company's ability to meet it's interest and
principle obligations on long term debt.
As well as obligations on long term leases.
The first solvency ratios is debt to equity ratios.
This measures how much long debt a company has for
each dollar of the shareholder's equity capital raise.
It is defined as the ratio of the sum of long-term debt and
long-term capital leases to total shareholders' equity.
All of which come from the balance sheet.
Amazon's long term debt in 2015 was $8.24 billion and
its capital leases were $5.95 billion.
Its total shareholders' equity was $13.38 billion,
this gives us debt-to-equity ration to be 1.06 in 2015.
That is for every $1 raise through equity capital Amazon raised
$1.06 in long term obligations.
Over the last four years this ratio has more than doubled.
So there may be concern that Amazon has too much debt.
But we will have to check the debt-to-equity ratios of Amazon's
competitors.
They may also have similar debt-to-equity ratios and
it may just be that Amazon didn't have as much debt as its competitors in the past
and has finally caught up.
Another measure that captures how much debt or
capital a company has is the total liabilities to total assets ration.
This is defined as the company's total liabilities divided by it's total assets.
Higher this ration more the obligations both short and long term a company has.
Also higher this ratio the lower equity capital a company has.
In 2015 Amazon had total liabilities of 52.06 billion and
total assets of $65.44 billion which gives us
a total liabilities to total assets ratio of 0.80.
For every $1 and assets that Amazon purchases, 80 cents comes from
the various form of liabilities only 20 cents comes from equity capital.
This ratio has been fairly stable over the last 4 years.
Given that debt-to-equity ratio has risen over the same time, it is likely that
Amazon has substituted short-term obligaitons with long term obligations.
One other solvency ratio is the interest coverage ratio
also called times interest on, this is based on income statement items.
It measures if a company has earned enough profits to make its interest payments.
It is defined as the EBIT divided interest expense.
EBIT is the profit a company's left over with after taking care of
all expenses except interest and taxes, interest is paid from EBIT.
In 2015, Amazon had an EBIT of $2.23 billion and
interest expense of $0.46 billion.
The interest coverage ratio works out to be 4.86.
That is, its EBIT is 4.86 times its interest expense.
The rule of thumb is that an interest coverage ratio of greater than two is
good, anything lower than that is of concern.
Except 2014, Amazon has maintained a sufficiently high interest coverage ratio.
Though it has been on the decline.
This could be because Amazon has been taking on more long term obligation
which we discussed earlier.
Moving on to liquidity issues that measure a company's ability
to meet their short term obligations.
One liquidity ratio is the current ratio.
It measures whether a company's current assets are sufficient to meet
its current liabilities.
It is defined as the ratio of its current assets to current liabilities.
In 2015, Amazon had current assets worth $36.47 billion.
And current liabilities were $33.90 billion which gives
us a current ratio of 1.08.
For every $1 in current liabilities, Amazon had $1.08 in current assets.
Higher this ratio, the better liquidity a company has.
A current ratio of two or more is healthy and anything lower maybe cause for
concern.
Amazon's current ratio has been just slightly higher than one
the last four years.
However that may not be of concern as it has a negative cash conversion cycle,
which means that its current assets are converted to cash
before its current liabilities become due.
While the current ratio tells us how easily a company pays off its current
liabilities, inventories cannot be used to pay any of these obligations.
It may also be extremely difficult to convert inventory held
to cash in short notice.
In that sense inventory is not very liquid and so it may not be appropriate
to include inventory as a part of current assets when calculating liquidity issues.
The quick ration makes this adjustment.
It ignores inventory as a current asset and is defined as current asset minus
inventory divided by currently liabilities.
In 2015, Amazon's inventory was $10.24 billion.
Its current assets and current liabilities were $36.47 billion and
$33.90 billion respectively.
Subtracting $10.24 billion from $36.47 billion and
then dividing by $33.90 billion gives us a quick ratio of 0.77.
For every $1 in current liabilities,
Amazon has 77 cents in current assets excluding inventory.
Amazon's quick ratio has been fairly stable over the last four years.
But concern with the quick ratio is that accounts receivable is
also not truly liquid because a company's ability to convert receivables to cash
depend's on when it's customers or clients pay.
The cash ratio fixes this problem by ignoring or
types of current assets other than cash and cash equivalents.
It is defined as cash and cash equivalents divided by current liabilities.
Amazon had Cash and Cash Equivalents worth $19.81 billion and
current liabilities worth $33.90 billion in 2015.
Dividing the two, Amazon's cash ratio comes out to be 0.58.
That is why every 1$ in short term obligations due,
Amazon has 58 cents in Cash and Cash Equivalents.
The cash ratio has held stable over the last few years and so
doesn't seem to be of concern.
This concludes all the financial statements based ratios.
Next time we will look at the DuPont identity
which help us identify why a companies ROE is too low or too high.
It helps us identify where the company is doing well and where it is doing poorly.
You will also look at one market price based financial ratio.
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