ACCT5907 International Financial Statement Analysis
Week 3



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Week 3 Balance Sheet
1. FREQ framework
– FREQ: label the issue or Red Flag that you have identified with a short explanation

– INFER: explain your reasoning process in arriving at above point, Provide Evidence

– ADJUST: the numbers to arrive at a number before management discretion, or explain which
are the appropriate figures that you should be using in your analysis
– RESPOND: what you will do after doing the above 3 items.
From the point of view of the investor/analyst

– RETROSPECT: what was the market’s judgement, did the market agree with you?

Four more FREQ labels
1. FREQ Liquidity
• Short term cash problem
• Acceleration of debt and leading to solvency issue

Inference:
• Find the evidence from new articles, company announcements, etc.
• Traditional view : CA/CL > 1, better >2, operating cycle, cash cycle
• Modern view: Negative working capital (use others’ money to run your business) /
Negative cash cycle.
• Alternative methods:
o Comparing cash reserve vs short-term debt obligations
o Looking for market bond value
o Credit rating of the company/issuer


2. FREQ Solvency
• Long term debt problem

Inference:
• Leverage calculation: A/E, D/E, interest coverage ratio
• ***Hoenig’s method: E/A, how much (in %) can you lose in your asset before
you lose all your equity.




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3. FREQ Asset quality
• Loans in financial institution


Inference:
Looking for leverage ratios changes

Adjustment: Calculate adjustments to impairment of the loan, might do stressing test

Response: Recalculate critical indicators(E/A here) and make recommendation accordingly


4. FREQ Off-balance sheet items
• Items kept off the balance sheet (fully funded by liability, no equity)

Inference:
Look for off-balance sheet items: leases, special purpose vehicles.

Adjustment:
Add back both assets and liability
Note: asset might be impaired.

Response: Recalculate critical indicators (E/A here) and make recommendation accordingly