chap03.ppt

Hospitality Financial ManagementBy Robert E. Chatfield and Michael C. Dalbor

©2005 Pearson Education, Inc.Pearson Prentice HallUpper Saddle River, NJ 07458

3-1

Chapter 3Introduction

This chapter will provide a review of the major financial statements and selected key ratios used in the industry.

Financial statements reviewed: Income statements Balance sheet Statement of retained earnings Statement of cash flows



3-2

Income Statement

Details revenues and expenses for a period of time

Income statements can be as detailed as necessary for use by managers and investors: Summary for outside users Detailed departmental statements for insiders



3-3

Uniform System of Accounts

Widely used format for income statements in the hospitality industry

Focuses primarily on departmental performance Revenues and expenses specifically

attributable to that department Undistributed operating expenses include

items like marketing and maintenance



3-4

Uniform System For Restaurants

Restaurants also follow a specific format. First expense shown is cost of goods sold for

both food and beverage. This is followed by other expenses. Not completed on a departmental basis like

hotels because the restaurant is really only one department.



3-5

Review of Balance Sheet

Shows financial position of an organization at a particular point in time

Assets, liabilities, and owner’s equity Current items listed first

“Current” meaning convertible to cash or paid in cash within a year

Retained earnings are not the same as cash



3-6

Relationship Between Balance Sheet and Income Statement

Assets used to generate revenue and cash flow: For a hospitality business this is land,

building, and equipment. Liabilities are related to expenses.

Accrued wages and accounts payable Retained earnings will increase with net

income, less any dividends declared. This is the link to the income statement.



3-7

Statement of Retained Earnings

Often consolidated into a consolidated statement of owner’s equity

Basic calculation Balance at beginning of period Plus: net income Less: dividends declared Equals: ending balance

There is no cash in retained earnings. It is simply accrued earnings less dividends declared

to the shareholders.



3-8

Statement of Cash Flows

Its purpose is to show where cash flow came from and where it went during a period of time.

Three major sections of the statement: Operating activities Investing activities Financing activities

Recent accounting scandals have placed a premium on a company’s ability to earn cash flows.



3-9

Statement of Cash Flows Why has this become so important?

Balance sheet uses estimates. Enron “hid” debt from its balance sheet. Worldcom categorized expenses as

“investments” (assets). Income statement is completed on accrual

basis (when do we recognize the revenue). Cash flows represent the actual flows of cash

and are more difficult to “invent.”



3-10

Validity of Financial Statements

Who is responsible? Management is responsible for the accounting and

financial reporting systems. Auditors are there to assess if the statements make a

fair representation of firm position and performance. Investors learned a hard lesson in 2000–01 about

financial statements and are aware of the need for change. Some potential remedies include: Rotating auditors regularly CEOs taking responsibility for veracity of financial

statements



3-11

Ratio Analysis Ratio analysis is used to take existing financial

accounting information and generate new information. Ratios on their own are not very meaningful. Various ratios of a hospitality organization can be

compared to industry averages. However: Which segment of the hospitality industry? Which companies are included in the industry

averages? Are there enough firms in the average to make the ratios

meaningful? Do all the firms use the same accounting methods?



3-12

Classes of Ratios Liquidity—ability to meet current debts Turnover—management’s effectiveness regarding

the management of assets Solvency—ability to meet long-term debts or the

extent of long-term financing Profitability—how profitable the operation is Activity—involves key measures of operating

performance Investor—those ratios of special significance to

outside investors



3-13

Liquidity Ratios

Current ratio Current assets/current liabilities

Quick ratio Cash + marketable securities + accts. rec.

current liabilities Working capital = current assets less current

liabilities Does current ratio always have to be greater

than 1?



3-14

Turnover Ratios

Inventory turnover Cost of sales / average inventory

Appropriate range for this number Asset turnover

Revenue / total assets Revenue per dollar of assets Can management manipulate this figure?



3-15

Solvency Ratios Debt ratio

Total debt / total assets Debt to equity ratio

Total debt / total equity Hotel industry often has high debt

Times interest earned EBIT / interest expense Gives lender a measure of “cushion” (how much

earnings are available to pay interest)



3-16

Profitability Ratios Profit margin

Net income / total revenue Return on assets

Measure amount of profit for every $1 in assets Net income / total assets Also a function of profit margin and asset turnover Net income / total revenue x total revenue / total assets

Return on equity Net income / stockholder’s equity



3-17

Activity Ratios Occupancy percentage

Occupied room nights key figure used in forecasting

Average Daily Rate (ADR) REVPAR

Occupancy x ADR Food cost percentage

Cost of food sold / food revenue Beverage cost percentage

Cost of beverage sold / beverage revenue



3-18

Investor Ratios

P/E Ratio—price to earnings (net income) Used by many investors as a buy/sell indicator

Dividend payout ratio % of earnings paid to shareholders

Dividend yield Annual dividend / market price per share Not a holding rate of return for the stock



3-19

Limitations of Ratio Analysis

Be careful not to label ratios by themselves as “good” or “bad.”

Different users of ratios have different perspectives. Example: Lenders vs. owners regarding the current

ratio Ratios may tell you there is a problem, but they don’t

tell you what the problem is. Example: high food cost Why?

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