110 Part 2 Fundamental Concepts in Financial Management
increases risk because having revenues from several products stabilizes pro! ts
and cash " ows in a volatile world.- To what extent does the company rely on a single supplier? Depending on a
single supplier may lead to an unanticipated shortage and a hit to sales and
pro! ts. - What percentage of the company’s business is generated overseas? Compa-
nies with a large percentage of overseas business are often able to realize
higher growth and larger pro! t margins. However, overseas operations may
expose the! rm to political risks and exchange rate problems. - How much competition does the! rm face? Increases in competition tend to
lower prices and pro! t margins; so when forecasting future performance, it is
important to assess the likely actions of current competitors and the entry of
new ones. - Is it necessary for the company to continually invest in research and develop-
ment? If so, its future prospects will depend critically on the success of new
products in the pipeline. For example, investors in a pharmaceutical com-
pany want to know whether the company has a strong pipeline of potential
blockbuster drugs and whether those products are doing well in the required
tests. - Are changes in laws and regulations likely to have important implications for
the! rm? For example, when the future of electric utilities are forecasted, it is
crucial to factor in the effects of proposed regulations affecting the use of coal,
nuclear, and gas-! red plants.
SELF^ TEST What are some qualitative factors that analysts should consider when evalu-
ating a company’s likely future! nancial performance?In the last chapter, we discussed the key! nancial statements; and in this one, we de-
scribed how ratios are used to analyze the statements to identify weaknesses that
need to be strengthened to maximize the stock price. Ratios are grouped into! ve
categories:- Liquidity
- Asset management
- Debt management
- Pro! tability
- Market value
The! rm’s ratios are compared with averages for its industry and with the leading
! rms in the industry (benchmarking), and these comparisons are used to help for-
mulate policies that will lead to improved future performance. Similarly, the! rm’s
own ratios can be analyzed over time to see if its! nancial situation is getting better
or worse (trend analysis).
T Y I N G I T A L L T O G E T H E R