DISCUSSION QUESTIONS:
FINANCE INTERNATIONAL CLASS:
There was a HUGE event last Thursday when citizens of the United Kingdom voted to leave the European Union. The vote shocked the markets since polls had been indicating that the vote would be REMAIN rather than LEAVE.
Please find a current article (at least 15 paragraphs long and less than 7 days old) discussing the implications of this historic vote. In approximately 3-4 paragraphs, review the article in this week's discussion. Be sure to cite your source using APA formatting. Remember that all quotes MUST end with a proper citation (author, year, page # or paragraph #). Include a reference at the end of your post.
Do not duplicate articles.
FINANCE MGMT CLASS:
1 Using the Ernst &Young Risk Management Checklist and the "Implementing Enterprise Risk Management" article provided by the instructor, prepare a checklist to evaluate a company's enterprise risk management program. Then, using the Form 10K report, proxy statement, and governance information (from company website), prepare a critical assessment of the company's risk management program. This assessment should clearly identify the program's strengths and weaknesses.
2 Using Altman's Z, estimate the bankruptcy potential for the selected company. Use the instructor's Excel model or develop you own Excel model for this analysis. (SEE ATTACHMENT ON HOMEWORK POSTING FOR THE EXCEL, and additional information starts on page 3 of this document)
3. What are the most important things that you learned from the study of this week's readings and assignments? Remember to always include appropriate references.
To help with question 3 - here were the online readings
Online Readings:
Shenkir, William G. and Walker, Paul L. Enterprise Risk Management: Tools and Techniques for Effective Implementation. Institute of Management Accountants. 2007. Available at:
https://www.stjohns.edu/sites/default/files/documents/academics/tobin/enterprise_tools_and_techniques.pdf
Corporate Treasurers Council. Enterprise Risk Management Beyond Theory: Practitioner Perspectives on ERM. Underwritten by PWC. 2013.
Available at:
https://www.pwc.com/us/en/risk-management/assets/beyond-theory.pdf
COSO. Enterprise Risk Management - Integrated Framework - Executive Summary.Committee of Sponsoring Organizations of the Treadway Commission. 2004. Available at: https://www.coso.org/documents/COSO_ERM_ExecutiveSummary.pdf
Institute of Risk Management.A Structured Approach to Enterprise Risk Management.2010. Available at:
https://www.ferma.eu/app/uploads/2011/10/a-structured-approach-to-erm.pdf
Sanford, C.S. and Borge, D. The Risk Management Revolution. Available at:
https://www.terry.uga.edu/about/history/sanford/risk-management-revolution
CONTEMPORARY CLASS:
1) Let's discuss four main standard ratio's used in finance:
1. profitability
2. liquidity
3. debt
4. return on equity
Why are they important? Give examples of each.
2) Let's discuss cost of capital and cash flow. Why are these concepts important?
Altman's Z Score and Excel Model
Using Financial Ratios to Predict Performance
Predicting Insolvency (Bankruptcy)
Analysts and investors utilize financial ratios and the process of financial statement analysis in an effort to predict future performance. Ratios have been used for some time to predict insolvency (bankruptcy) using the Altman Z model. Here is a description of that process and model.
Also, attached is an Excel model that can be used to examine any publicly-owned manufacturing company. McCormick & Co. (MKC) is the company used in the demonstration analysis. The data were taken from company financial statements presented on msn.com. A second Excel file shows the results for a fictitious insolvent company.
Exercise for You to Try
You should select a manufacturing company, enter the data, and see if the Altman Z model predicts solvency or insolvency for the company.
Predicting Insolvency (Bankruptcy)1
Analysts have always been interested in using financial ratios to identify firms that might default on a loan or declare bankruptcy. The typical study examines a sample of firms that have declared bankruptcy against a matched sample of firms in the same industry and of comparable size that have not failed. The analysis involves examining a number of financial ratios expected to reflect declining liquidity for several years prior to the declaration of bankruptcy. The goal is to determine which set of ratios correctly predicts that a firm will be in the bankrupt or non-bankrupt group. The better models have typically correctly classified more than 80 percent of the firms one year prior to failure. Some of the financial ratios included in successful model were as follows:
2 Cash flow to total debt
3 Cash flow to long term debt
4 Sales to total assets
5 Net income to total assets
6 EBIT / total asset
7 Total debt / total assets
8 Market value of stock - book value of debt
9 Working capital to total assets
10 Retained earnings to total assets
11 Current ratio
12 Working capital to sales
1 Reilly, F. K. & Brown, K. C., Investment Analysis & Portfolio Management, Mason, OH: South-Western (2012), p. 313.
Altman's Z Score2
The best known of the bankruptcy prediction studies that have withstood the test of time is Altman's (1968) Z-score model. The Z-score is the value resulting from the following discriminant analysis equation:
Z = 1.2 x Working capital / Total assets
+ 1.4 x Retained earnings / Total assets
+ 3.3 x EBIT / Total assets
+ 0.6 x Market value of equity / Book value of debt
+ 1.0 x Sales / Total assets
A Z-score below (above) the critical value of 2.675 signals bankruptcy (solvency). Analysis of the misclassifications resulting from use of this critical value resulted in a more intuitively appealing dichotomy:
It is concluded that all firms having a Z score of greater than 2.99 clearly fall into the "non-bankrupt" sector, while those firms having a Z below 1.81 are all bankrupt. The area between 1.81 and 2.99 will be defined as the "zone of ignorance" or "gray area" because of the susceptibility to error classification.
The original Z-model was designed for manufacturing firms. Additionally, the model was directly applicable only to publicly traded companies because one of its inputs was the market value of equity. To remedy these shortcomings, Altman developed two variations of the Z-model, Z' and Z". The Z' model was developed for nonpublic companies and used the book value of equity in place of the market value of equity. The Z" model (which omitted the sales turnover ratio) was designed to be applicable to nonmanufacturing (public or private) companies as well.
2 White, G. I., Sondhi, A. C. & Fried, D., The Analysis and Use of Financial Statements. Hoboken, NJ: John Wiley & Sons, pp. 652-653.