Monday, 14 March 2016

CFA Finance Ratio

Finance Ratio:

ROE = NI / Equity
ROA = NI / Assets
ROIC = NOPAT / invested capital
  - investment focus
  - invested capital = debt + equity - cash

ROCE = EBIT / Capital Employed
  - pretax, operating focus

Financial Leverage Ratio (Equity Multiplier) =  Avg Total Assets / Avg Total Equity

Asset Turnover = Sales / Assets
Inventory Turnover = COGS / Average Inventory

RI = ((ROIC - WACC) * Assets)
RI = (ROE - r) * BV
RI = NI - r*BV
EVA = NOPAT - WACC * Total Assets
EBIT - Interest Expense = Pretax profit
Pretax profit - tax = NI

Accounting Profit = Normal Profit + Economic Profit

Cash Conversion Cycle
the smaller the number, the better it is

Good Will:


Full Goodwill –> Fair Value - Book Value of Net Identifiable assets (same under IFRS and US GAAP)

And then we allocate the above calculated difference (i.e. the excess purchase price) to subsidiary’s those assets whose fair values exceed their book values. What we get after allocation is the goodwill which is essentially same as the difference between subsidiary’s fair value and parent’s proportionate share of net identifiable assets.


Full Goodwill –> Fair value of entity - Fair Value of Identifiable Net assets (same under IFRS and US GAAP)

Partial Goodwill –> Purchase Price - Proportionate share of Fair Value of Identifiable Net Assets (only under IFRS)

Saturday, 20 February 2016

CFA Level 2 - Financial Reporting and Analysis

LIFO -> FIFO: during time of increasing cost of inventory
  Inv, COGS, NI, equity, cash ratio↓ (because of additional taxes paid)

LIFO reserve:
  the diff. between LIFO inv. carrying amount and amount that would be reported under FIFO

change LIFO to FIFO, impacts cash flow from operating activities only in income taxes paid.

Long-lived Assets
capitalised expenditure: Asset, investing cash outflow

expensed expenditure : NI(NI - expense(1-T)), RE, operating cash outflow expense

interest expenditure:
for own use, capitalised interest as part of long-lived asset, expense over time as depreciation expense
for sale, capitalised interest as part of inv. expense as cost of good sales when asset is sold
expense interest reduce oper. cash flow

research expenditure: expense
in process R&D: capitalised
development expenditure: can be recog. as asset if feasibility is completed

adjust NI from capitalising to expensing:
   expense cost reduce NI in early years
   no amortization increase NI in later years

depreciation: NI, Asset↓, no impact on cash flow, depreciation does have an indirect affect on cash flow, it affects taxable income and tax payable

long lived assets can use historical cost model or revaluation model
historical cost model: long lived assets are at cost less accum. depreciation, adjusted for impartment
revaluation model: long lived assets are at fair value
  fair value less accum. depreciation and impairment loss

 only historical cost model

 carrying amount ↓ -> goes to P/L
 carrying amount ↑ -> goes to OCI, revaluation surplus appears in equity
 carrying amount ↑ -> asset  and shareholder equity ↑ -> financial leverage 
 carrying amount ↓ -> NI and asset goes down, return on asset 

leverage = assets / equity
- if carrying amount > recoverable amount, need to measure impairment loss
- recoverable amount: higher of its fair value less cost to sell, or its value in use (discounted future cash flows)
- impairment loss: the difference of carrying amt over recoverable amt

  Two step process
  1. recoverable amount: if carrying amount > undiscounted future cash flow, then go to step 2
  2. impairment loss is the difference btn fair value and carrying amount

If impairment: asset, NI, cash flow no effect

finance lease:
  for lessee:
   balance sheet: leased asset, lease payable
   income statement: interest expense on the lease, depreciation expense
   CF statement: lease interest expense is an operating cash outflow
                 lease principal expense (that reduce lease liability) is an financing cash outflow
  for lessor:
   balance sheet: sale of leased asset, lease receivable
   income statement: interest income on the lease, without  depreciation expense, without lease revenue
   CF statement: increase in lease interest is an operating cash inflow
                 lease payment received (that reduce lease receivable) is an investing cash inflow

operating lease:
  for lessee:
   balance sheet:
   income statement: lease expense
   CF statement: lease expense is an operating cash outflow
  for lessor:
   balance sheet: assets under operating assets classified in PP&E as capital assets
   income statement: lease  revenue

finance lease: higher operating cash flow
operating lease: higher return measures in early years

Intercorporate Investments
1. investment in financial assets
  typical percentage interest < 20%
  4 types:
  •   held to maturity
  •   available for sale
  •   fair value thru P/L
            held for trading
            designated as fair value
  •   loans and receivables

Initially, All investments in financial assets are recognised at fair value, dividends and NI reported in Income statement

held to maturity investment such as debt securities, reported at amortised cost. Any diff, discount or premium, btn fair value and par value is amortised over the life of securities. Amortization affect carrying value of securities.

held for trading, reported at fair value, with unrealised gain/loss reported in P/L

available for sale (AFS), reported at fair value, with unrealised gain or loss reported in OCI. dividends from equities securities are in P/L. For AFS debt securities, under IFRS, foreign exchange gain/loss reported in P/L, remaining portion reported in OCI. Under US GAAP, the total change in fair value reported in OCI.

IFRS generally prohibits reclassification of securities.
held to maturity -> available for sale, if intention change, at time of reclassification, the diff btn amortised cost and fair value reported in OCI

available for sale -> held to maturity, if intention change, fair value become new amortised cost. Any gain/loss is recog. in OCI is amortised to P/L

New standard, IFRS 9, as of December 2012:
2. investment in associates -> equity method
  typical percentage interest, 20% to 50%
  single line item on the income statement, single line item on the balance sheet
  earnings/loss proportion to economic ownership
  dividends also proportion to economic ownership
  asset proportion to economic ownership
  revenue not affected
  EBIT / Interest Expense not affected
On the income statement, share of net income gain/loss as one line item after EBIT, but before taxes. Dividends are included in interest income.

The equity method is carried at cost, plus its share of post acquisition income, less dividends received

If Equity investment > proportionate share of the book value of the investee's net identifiable assets:
  the difference is first allocated to specific assets, then the difference is amortised to the proportionate share of the investee's P/L over the economic life of the assets whose fair value > book value.

Cost of acquisition > proportionate share of the fair value of the net identifiable assets is goodwill. Any remaining diff btn acquisition cost and fair value of net identifiable assets that cannot be allocated to specific assets, is treated as goodwill. Goodwill is not amortised. Goodwill is impaired.

3. business combinations -> acquisition method
  typical percentage interest > 50%
  assets and liabilities of the acquiree measured at fair value at date of acquisition

Measurement of Goodwill:
  IFRS: full goodwill: fair value of entity - fair value of identifiable asset,
           or partial goodwill: fair value of of consideration(purchase price) - proportion of identifiable net asset
  US GAAP: full goodwill only, fair value of entity - fair value of identifiable asset

  allocation of excess purchase price: to diff between fair value and book value of assets, remaining of the amount is goodwill

non-controlling (minority) interest: balance sheet
  IFRS: proportion of acquiree's measured fair value (full goodwill), or proportionate share of acquiree's net identifiable assets (partial goodwill)
 US GAAP : full goodwill only, at proportion of acquiree's measured fair value

Net income is not affected by the accounting method used to account for active investment in other companies --> acquisition method would subtract the minority interest, net effect same as equity method or proportionate method

Employee Compensation
Pensions and Other Post-Employment Benefits
  defined contributions
  defined benefits

defined benefits pension plans:
  pension funded status reported on balance sheet
  periodic pension cost, change in net pension liability/asset adjusted for employer's contribution
  under IFRS
    1. service cost (current service cost, past svc cost)->P/L
    2. net interest expense/income->P/L
    3. remeasurement of net pension liability/asset -> OCI

current service cost: amount of pension obligation increase as employee's service
current service cost = annual pension credit / [(1+r)years until retirement]

Multinational Operations
Translations of Foreign Exchange Financial Stmt:
Current rate method: (All asset/liabilities at current exchange rate)
Temporal  method: (Monetary asset/liabilities at current exchange rate)

Parent currency as the functional currency -> use temporal method
foreign currency as the functional currency -> use current rate method

1. Current rate method:
Asset/liabilities at current exchange rate
stockholder equity at historical rate
revenue/expense  at average rate
translation adjustment shows in stockholder's equity

2. Temporal method:
Monetary asset/liabilities at current exchange rate
Non-monetary asset/liabilities measured at historical cost at historical exchange rate, measure at current value at date of current rate
stockholder equity at historical rate
revenue/expense  at average rate
revenue/expense of COGS, depreciation at exchange rate of related assets
translation adjustment shows in income statement

Integrated Financial Statement Analysis
compare revenue growth to asset growth to receivables growth

selling receivables to 3rd party, company can boost OCF, and DSO goes down

IFRS                                                                          US GAAP
  interest paid: operating/financing                     operating
  interest received: operating/investing              operating
  dividend received: operating/investing              operating

cash flow from non-trading securities -> investing cash flow
cash flow from trading securities -> operating cash flow

Extended DuPont Analysis
                                   NI    EBT   EBIT
Net profit margin = -----*-------*--------
                                  EBT  EBIT  Sales

             NI    EBT   EBIT          Sales               Total Assets
ROE = -----*-------*-------- *--------------- * ------------------------
            EBT  EBIT  Sales    Total Assets  shareholder equity

Thursday, 18 February 2016

CFA Level 2 - Quantitative Methods

Linear Regression

regression equation : Yi = b0 + b1Xi + εii = 1, …, n 

    means (dependent variable – predicted value of dependent variable)2

Standard Error of Estimates

εi , the residual term in the regression.

∑             i=1n(εi)2

It is the sum of squared residuals

Coefficient of determination

If we call i=1n(YiY)2 the total variation of Y and i=1n(YiYi)2 the unexplained variation from the regression,

then we can measure the explained variation from the regression using the following equation:


Hypothesis testing

We will use a 95 percent confidence interval for our test, or we could say that the test has a significance level of 0.05.

The number of degrees of freedom equals the number of observations minus the number of parameters estimated

t-test of significance:
The b1 is from the null hypothesis (hypothesized population value of the regression coefficient).
The b1bar is the estimated regression coefficient.
The tis critical t-value at the 0.05/0.01 significance level, from the book. The t is calculated. If t is greater than tc, then we can reject the null hypothesis.
s is the standard error of the regression.

For example, the t-statistic is 2.50, and at the 0.05 significance level, tc = 2.00; thus we reject the null hypothesis because t > tc. This statement is equivalent to saying that we are 95 percent confident that the interval for the coefficient does not contain the value b1.

Often, financial analysts report the p-value or probability value for a particular hypothesis. The p-value is the smallest level of significance at which the null hypothesis can be rejected.

For example, if the p-value is 0.005, we can reject the hypothesis that the true parameter is equal to 0 at the 0.5 percent significance level (99.5 percent confidence).

Analysis of Variance (ANOVA)

Total SS = Regression SS + Residual SS

Regression SS:
Total SS:

The F-test for determining whether the slope coefficient equals to 0 is based on an F-statistic.
The F-statistic measures how well the regression equation explains the variation in the dependent variable. 
If the independent variable explains little of the variation in the dependent variable, the value of the F-statistic will be very small.

F statistic: Regression MSS /  Residual MSS
MSS: means sum of squares (SS divided by df)


Confidence Interval of Regression Coefficient (Interval Prediction)
   CI = coeff + tc * SE
tc is from the confidence level. For large number of df:
90% confidence interval will have alpha value of 0.01 (two tail), and tc of 1.645
95% confidence interval will have alpha value of 0.05 (two tail), and tc of 1.96
99% confidence interval will have alpha value of 0.01 (two tail), and tc of 2.576

The end.