Financial Statement Analysis Assignment

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Now to answer that why interest expense is ignored. The key word here is operating when an organization borrows capital or sells equity in cash is not operating cash likewise when you pay interest dividends that too is not operating cash the goal here is to see the business itself consumes or produces cash, some analyst might include it especially in the real estate business but usually interest is not a part of day to day operations, and the investment consists of net operating assets then the net operating profit is before interest and tax (NOPAT) is the relevant figure to use the deduction of interest is due to it being regarded as payment to use the money from the investors NOPAT is the appropriate amount to measure agonist net operating assets as both are considered operating

- Discuss the motivation for excluding “nonproductive” assets from invested capital when computing return. What circumstances justify excluding assets from invested capital?

The reason or motivation behind the exclusion of nonproductive assets is based on that the management is not responsible for making return on the non-operating invested capital along with the exclusion of intangible assets from the investment is due to the doubt regarding their value or contribution to the earning power of the company under GAAP & IFRS intangibles are carried at cost if their cost exceeds their future utility they are written down. The exclusion of intangibles assets from the assets must be based on more substantial proof than a mere assumption or lack of understand of what these assets represent or a doubt regarding their value

The evaluation of return on invested capital involves many factors. The inclusion & exclusion of extraordinary gains and losses, the use & nonuse of trends the effect of acquisitions accounted for as pooling and their chance of recurrence the effect of discontinued operations, and the possibility of averaging net income are just a few of many such factors. Moreover, the analyst must take into account the effects of price-level changes on return calculations. It also is important that the analyst bear in mind that return on invested capital is most commonly based on book values from financial statements rather than on market values. And finally, many assets either do not appear in the financial statements or are significantly understated. Examples of such assets are intangibles such as patents, trademarks, research and development activities, advertising and training, and intellectual capital.

- Why must income used in computing return on invested capital be adjusted to reflect the capital base (denominator) used in the computation?