Description
Martin Fridson, Fernando Alvarez – Financial Statement Analysis A Practitioner’s Guide
Description
An updated guide to the essential discipline of financial statement analysis
In Financial Statement Analysis, Fourth Edition, leading investment authority Martin Fridson returns with Fernando Alvarez to provide the analytical framework you need to scrutinize financial statements, whether you’re evaluating a company’s stock price or determining valuations for a merger or acquisition.
This fully revised and up-to-date Fourth Edition offers fresh information that will help you to evaluate financial statements in today’s volatile markets and uncertain economy, and allow you to get past the sometimes biased portrait of a company’s performance.
- Reflects changes in the financial reporting landscape, including issues related to the financial crisis of 2008-2009
- Provides guidelines on how to interpret balance sheets, income statements, and cash flow statements
- Offers information for maximizing the accuracy of forecasts and a structured approach to credit and equity evaluation
Filled with real-life examples and expert advice, Financial Statement Analysis, Fourth Edition will help you gain a firm understanding of the techniques that will help you interpret financial statements, which are designed to conceal more than reveal.
Table of Contents
Preface to Fourth Edition xi
Acknowledgments xv
PART ONE – Reading between the Lines
CHAPTER 1 – The Adversarial Nature of Financial Reporting 3
The Purpose of Financial Reporting 4
The Flaws in the Reasoning 8
Small Profits and Big Baths 11
Maximizing Growth Expectations 12
Downplaying Contingencies 18
The Importance of Being Skeptical 20
Conclusion 24
PART TWO – The Basic Financial Statements
CHAPTER 2 – The Balance Sheet 29
The Value Problem 30
Comparability Problems in the Valuation of Financial Assets 32
Instantaneous Wipeout of Value 34
How Good Is Goodwill? 35
Losing Value the Old-Fashioned Way 38
True Equity Is Elusive 40
Pros and Cons of a Market-Based Equity Figure 41
The Common Form Balance Sheet 43
Conclusion 45
CHAPTER 3 – The Income Statement 47
Making the Numbers Talk 47
How Real Are the Numbers? 52
Conclusion 77
CHAPTER 4 – The Statement of Cash Flows 79
The Cash Flow Statement and the
Leveraged Buyout 81
Analytical Applications 86
Cash Flow and the Company Life Cycle 87
The Concept of Financial Flexibility 99
In Defense of Slack 104
Conclusion 106
PART THREE – A Closer Look at Profits
CHAPTER 5 – What Is Profit? 111
Bona Fide Profits versus Accounting Profits 111
What Is Revenue? 112
Which Costs Count? 114
How Far Can the Concept Be Stretched? 116
Conclusion 117
CHAPTER 6 – Revenue Recognition 119
Channel-Stuffing in the Drug Business 119
A Second Take on Earnings 123
Astray on Layaway 127
Recognizing Membership Fees 128
A Potpourri of Liberal Revenue
Recognition Techniques 131
Fattening Earnings with Empty Calories 132
Tardy Disclosure at Halliburton 138
Managing Earnings with Rainy Day Reserves 141
Fudging the Numbers: A Systematic Problem 143
Conclusion 147
CHAPTER 7 – Expense Recognition 149
Nortel’s Deferred Profit Plan 149
Grasping for Earnings at General Motors 154
Time-Shifting at Freddie Mac 157
Conclusion 159
CHAPTER 8 – The Applications and Limitations of EBITDA 161
EBIT, EBITDA, and Total Enterprise Value 162
The Role of EBITDA in Credit Analysis 166
Abusing EBITDA 169
A More Comprehensive Cash Flow Measure 171
Working Capital Adds Punch to Cash
Flow Analysis 174
Conclusion 176
CHAPTER 9 – The Reliability of Disclosure and Audits 179
An Artful Deal 180
Death Duties 183
Systematic Problems in Auditing 184
Conclusion 189
CHAPTER 10 – Mergers-and-Acquisitions Accounting 191
Maximizing Postacquisition Reported Earnings 191
Managing Acquisition Dates and Avoiding Restatements 195
Conclusion 197
CHAPTER 11 – Is Fraud Detectable? 199
Telltale Signs of Manipulation 199
Fraudsters Know Few Limits 201
Enron: A Media Sensation 201
HealthSouth’s Excruciating Ordeal 210
Milk and Other Liquid Assets 217
Conclusion 221
PART FOUR – Forecasts and Security Analysis
CHAPTER 12 – Forecasting Financial Statements 225
A Typical One-Year Projection 225
Sensitivity Analysis with Projected Financial Statements 237
Projecting Financial Flexibility 242
Pro Forma Financial Statements 245
Pro Forma Statements for Acquisitions 246
Multiyear Projections 253
Conclusion 263
CHAPTER 13 – Credit Analysis 265
Balance Sheet Ratios 266
Income Statement Ratios 275
Statement of Cash Flows Ratios 280
Combination Ratios 283
Relating Ratios to Credit Risk 290
Conclusion 304
CHAPTER 14 – Equity Analysis 307
The Dividend Discount Model 308
The Price-Earnings Ratio 313
Why P/E Multiples Vary 316
The Du Pont Formula 324
Valuation through Restructuring Potential 328
Conclusion 334
APPENDIX – Explanation of Pro Forma Adjustments for Hertz Global Holdings, Inc./DTG 335
Notes 341
Glossary 353
Bibliography 367
About the Authors 369
Index 371
Author Information
MARTIN FRIDSON is Global Credit Strategist at BNP Paribas Investment Partners, one of the world’s largest asset managers. Over a twenty-five-year span with brokerage firms including Salomon Brothers, Morgan Stanley, and Merrill Lynch, he became known for his innovative work in credit analysis and investment strategy. Fridson has served as president of the Fixed Income Analysts Society, governor of the Association for Investment Management and Research (now CFA Institute), and director of the New York Society of Security Analysts.
FERNANDO ALVAREZ is currently an Adjunct Associate Professor of Finance and Economics at the Columbia University Graduate Business School, where he teaches entrepreneurship finance. From 2003 until 2008, he was associate professor in the Finance and Economics Department and director of entrepreneurship programs at Rutgers Business School, Newark and New Brunswick. Alvarez has taught at New York University’s Stern School of Business where he was associate professor on innovation and entrepreneurship, and Babson College where he was assistant professor of finance.
Reviews
“Financial Statement Analysis: A Practitioner’s Guide is a well-organized, thorough exploration of the challenges facing practitioners who rely on financial statements to make investment and lending decisions. Reference books about accounting, while valuable for their insights, are seldom this enjoyable to read. This book is different because the authors seamlessly integrate fascinating real-life examples and instructive fictional scenarios into each chapter to illustrate their points. For anyone with a passing interest in the subject, or for new analysts learning the trade, Financial Statement Analysis is an amazing resource.”
—Christopher Shayne, CFA, Director of Product Operations for Enterprise Risk Solutions at Moody’s Analytics
“Any book that reaches its 4th edition (updated to 2011) should be good. That’s true in spades for Financial Statement Analysis. Fridson and Alvarez have written a classic. It should be required reading and a constant reference source on the bookshelf of any investor intending to buy individual company stocks or bonds.”
—Canadian Financial DIY blog
“In the 1990s, Benjamin Graham’s Security Analysis served as [Value Partners’] reference book, but since then they have been using Martin Fridson’s Financial Statement Analysis: A Practioner’s Guide.”
—excerpt from The Value Investors: Lessons from the World’s Top Fund Managers by Ronald Chan, Bruce C. N. Greenwald (Foreword)
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