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1、ChapterMcGraw-Hill/IrwinCopyright 2008 by The McGraw-Hill Companies, Inc. All rights reserved.Review of Accounting2Chapter OutlineIncome StatementPrice-earnings RatioBalance SheetStatement of Cash FlowsTax-free Investments (Deprecation)2Basic Financial StatementsIncome StatementBalance SheetStatemen
2、t of Cash Flows3Income StatementDevice to measure the profitability of a firm over a period of timeIt covers a defined period of timeIt is presented in a stair-step or progressive fashion to examine profit or loss after each type of expense item is deductedhttp:/ Statement (contd)Sales Cost of Goods
3、 Sold (COGS) = Gross Profit (GP)GP Expenses = Earnings Before Interest and Taxes (EBIT) or Operating Income (OI)EBIT Interest = Earnings Before Taxes (EBT)EBT Taxes = Earnings After Taxes (EAT) or Net Income (NI)5Income Statement (contd)6Return to CapitalThree primary sources of capital: Bondholders
4、Preferred stockholdersCommon stockholdersEarnings per shareInterpreted in terms of number of outstanding sharesMay be paid out in dividends or retained by company for subsequent reinvestmentStatement of retained earnings Indicates disposition of earnings7Statement of Retained Earnings8Price-Earnings
5、 (P/E) RatioMultiplier applied to earnings per share to determine current value of common stockSome factors that influence P/E:Earnings and sales growth of the firmRisk (volatility in performance) Debt-equity structure of the firmDividend payment policyQuality of management9Price-Earnings (P/E) Rati
6、o (contd)Allows comparison of the relative market value of many companies based on $1 of earnings per shareIndicates expectations about the future of a companyPrice-earnings ratios can be confusing10Price-earnings Ratios for Selected US Companies11Limitations of the Income StatementIncome gained/los
7、t during a given period is a function of verifiable transactionsStockholders, hence, may perceive only a much smaller gain/loss from actual day-to-day operationsFlexibility in reporting transactions might result in differing measurements of income gained from similar events at the end of a time peri
8、od12Balance SheetIndicates what the firm owns and how these assets are financed in the form of liabilities or ownership interestDelineates the firms holdings and obligationsItems are stated on an original cost basis rather than at current market value13Balance Sheet ItemsLiquidity: Asset accounts ar
9、e listed in order of liquidityCurrent assetsItems that can be converted to cash within 12 monthsMarketable securitiesTemporary investments of excess cashAccounts receivable Allowance for bad debts to determine their anticipated collection valueInventoryIncludes raw materials, goods in progress, or f
10、inished goods14Balance Sheet Items (contd)Prepaid expensesRepresent future expense items that are already paid forInvestmentsLong-term commitment of fundsIncludes stocks, bonds, or investments in other companiesPlant and equipmentCarried at original cost minus accumulated depreciationAccumulated dep
11、reciationSum of past and present depreciation charges on currently owned assets15Balance Sheet Items (contd)Depreciation expense is the current years chargeTotal assets: Financed through liabilities or stockholders equityShort-term obligationsAccounts payableNotes payableAccrued expense16Stockholder
12、s EquityRepresents total contribution and ownership interest of preferred and common stockholdersPreferred stockCommon stockCapital paid in excess of parRetained earnings17Statement of Financial Position (Balance Sheet)18Concept of Net Worth Net worth/book value = Stockholders equity preferred stock
13、 componentMarket value is of primary concern to the:Financial managerSecurity analystStockholders19Limitations of the Balance SheetMost of the values are based on historical/original cost priceTroublesome when it comes to plant and equipment inventoryFASB ruling on disclosure of inflation adjustment
14、s no longer in force It is purely a voluntary act on the part of the company20Limitations of the Balance Sheet (contd)Differences between per share values may be due to:Asset valuationIndustry outlookGrowth prospectsQuality of managementRisk-return expectations21Comparison of Market Valueto Book Val
15、ue per Share22Statement of Cash FlowsEmphasizes critical nature of cash flow to the operations of the firmIt represents cash/cash equivalents items easily convertible to cash within 90 daysCash flow analysis helps in combating discrepancies faced through accrual method of accounting23Statement of Ca
16、sh Flows (contd)Advantage of accrual methodAllows matching of revenues and expenses in the period in which they occur to appropriately measure profitsDisadvantage of accrual methodAdequate attention not directed to actual cash flow position of firm24Concepts Behind the Statement of Cash Flows25Deter
17、mining Cash Flows from Operating ActivitiesTranslation of income from operations from an accrual to a cash basisDirect methodEvery item on the income statement is adjusted from accrual to cash accountingIndirect method Net income represents the starting pointRequired adjustments are made to convert
18、net income to cash flows from operations26Indirect Method27Comparative Balance Sheets28Cash Flows from Operating Activities29Determining Cash Flows from Investing ActivitiesInvesting activities:Long-term investment activities in mainly plant and equipmentIncreasing investments represent a use of fun
19、dsDecreasing investments represent a source of funds 30Determining Cash Flows from Financing ActivitiesFinancial activities apply to the sale/retirement of:BondsCommon stockPreferred stockOther corporate securitiesPayment of cash dividendsSale of firms securities is a source of fundsPayment of divid
20、ends and repurchase of securities is a use of funds31Overall Statement Combining the Three Sections32Analysis of the Overall StatementHow are increases in long-term assets being financed?Preferably, adequate long-term financing and profits should existShort-term funds may be used to carry long-term
21、needs could be a potential high-risk situationExample: trade credit and bank loans33Depreciation and Funds FlowDepreciation Attempt to allocate the initial cost of an asset over its useful lifeCharging of depreciation does not directly influence the movement of funds34Comparison of Accounting and Ca
22、sh Flows35Free Cash FlowFree Cash Flow = Cash flow from operating activities Capital expenditures DividendsCapital expendituresMaintain productive capacity of firmDividendsMaintain necessary payout on common stock and to cover any preferred stock obligationsFree cash flow is used for special financi
23、ng activitiesExample: leveraged buyouts36Income Tax ConsiderationsCorporate tax ratesProgressive: the top rate is 40% including state and foreign taxes if applicable. The lower bracket is 1520%Cost of a tax-deductible expense37Depreciation as a Tax ShieldNot a new source of fundProvides tax shield b
24、enefits measurable as depreciation times the tax rateCorporation ACorporation BEarnings before depreciation and taxes$400,000$400,000Depreciation 100,000 0 _ _ Earnings before taxed 300,000 400,000Taxes (40%) 120,000 160,000 _ _ Earnings after taxes 180,000 240,000+Depreciation charged without cash outlay 100,000 0 _ _ Cash flow $280,000 $240,000Difference$40,00038
