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CHAPTER 1
FRAMEWORK FOR FINANCIAL
STATEMENTS ANALYSIS
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Why are financial statements useful ?
Why we must study this course ?
What is the main purpose for studying the
financial statements ?
2
QUESTIONS
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WHAT IS THE FINANCIAL
REPORTING?
“ The objective of financial statement is to
provide information about the financial
position, performance and changes in
financial position of an entity that is useful to
a wide range of users in making economic
decisions”.
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CLASSES OF USERS
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GENERAL PRINCIPLES AND
MEASUREMENT RULES
Financial reporting system is based on data
generated from accounting events.
The exchange of cash is not sufficient for the
recognition of revenue and expense events.
Financial statements (FS) are prepared using
a monetary unit to quantify the operations of
the firm
Relies on the going concern assumption
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THE FINANCIAL REPORTING
SYSTEM
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QUALITATIVE CHARACTERISTIC
OF ACCOUNTING INFORMATION
Relevance
Timeliness
Reliability
Neutrality
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PRINCIPAL FINANCIAL
STATEMENTS Balance sheet
Income statement
The statement of cash flows
Footnotes
And other statements such as: the statement
of stockholder’s equity, contingencies
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THE BALANCE SHEET
The balance sheet is a financial snapshot, reports the firm’s financial position at a point of time. Assets are a firm’s economic resources.
Assets = Liabilities + Shareholders’ Equity
What do these items measure?
What happens to the numbers in a balance sheet when a company borrows money from a bank?
What’s Worldwide Sports? Story in Table 1.1?
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TABLE 1-1 Worldwide Sports Financial Transactions
2008 ($ thousands)
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QUESTION ?
How much did WS sell?
What was the value of WS merchandise purchases?
How much did WS borrow, and what rate of interest did they pay?
Are assets equal to the sum of liabilities and shareholders’ equity?
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WHAT IS THE INCOME
STATEMENT?
Reports on the financial performance of the
firm over a period of time. Elements include
such as revenues, expenses, gains and
losses.
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INCOME STATEMENT FORM
(VAS form) 1. Operating revenue
2. Sales deduction (discount, rebate, import
export tax, payback goods)
3. Net operating revenue(1) – (2)
4. Cost of goods sold
5. Gross profit
6. Selling expense
7. Administrative expense
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8. Operating income= (5) – (6) – (7)
9. Interest income
10. Interest expense
11. Equity income= (9) – (10)
12. Other income
13. Other cost
14. Other profit: (12) –(13)
15. EBT
16. EAT
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WHAT IS THE CASH FLOW?
Reports the company’s cash receipts and
payments. Include operating CF, investing
CF and financing CF.
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THE CASH FLOW
Finance and operations are integrated.
Cash Fixed Assets Inventory AR
Cash
Where is production (operations) in this
cycle?
Where does the initial cash come from?
Where is the working capital cycle?
Where is investment in this cycle?
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MORE QUESTIONS FOR CASH
FLOW What is depreciation?
Did we miss AP? If so, where does it fit in?
Cash Fixed Assets Inventory AR Cash
Are profits and cash flow the same?
Does depreciation have anything to do with
this question?
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FIGURE 1.2 Ties among Financial Statements
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TABLE 1-2 Scotts Miracle-Gro Co., Balance Sheets ($ millions)
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TABLE 1-3 Scotts Miracle-Gro Co., Income Statement ($ millions)
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CASH FLOW AND NET INCOME
Which is the better measure of performance?
Net income includes estimates, allocations, and approximations.
Cash flow from operations is actual cash.
Low or negative cash flow does not necessarily imply poor performance.
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WHAT IS THE FOOTNOTES (FS
NOTES) Provide further details about the information
summarized in the financial statements.
Allow users improve their assessments of the
amount, timing and uncertainty of the
estimates reported in the FS.
Provide information about accounting
methods, assumption and estimates used by
management.
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THE STATEMENT OF
COMPREHENSIVE INCOME Report all changes in equity expect for
shareholders transactions ( issuing stock,
repurchasing stock, paying dividends)
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MD&A (MANAGEMENT’S
DICUSSION AND ANALYSIS) Effect of inflation and changing prices if
material
Impact of off balance sheet obligations and
contractual obligations such as purchase
commitments
Accounting policies that require significant
judgement by management
Forward- looking expenditures and
divestitures
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AUDITS OF FINANCIAL
STATEMENTS Unqualified opinion: auditor believes the
statements are free from material omissions
and errors
Qualified opinion: make any exceptions to the
accounting principles
Adverse opinion: statements are not
presented fairly or are materially
nonconforming with accounting standards
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THE FRAMEWORK FOR
FINANCIAL ANALYSIS (6 STEPS) State the objective of the analysis
Gather data
Process the data
Analyze and interpret the data
Report the conclusion or recommendations
Update the analysis
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QUESTIONS Question 1: Explain the low or negative cash flow does not
necessarily imply poor performance. Give an example
Question 2: During hard or challenging economic times, such as
the past 2 years in Vietnam, explain how current assets can become
a source of cash.
Question 3: Question Briefly explain how each of the following
transactions would affect a company's balance sheet.
balance sheet.
a. Purchase a new $40 million building, financed 25 percent with
cash and 75 percent with a bank loan.
b. Purchase a new building for $40 million cash.
c. A $10,00 payment to trade creditors.
d. Sale of 100,000 of merchandise cash.
e. Sale of 100,000 of merchandise credit.
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QUESTIONS
Each group prepared financial statement and
classify accounts into the financial statement
elements
Explain the need for accruals and named,
give some examples ( unearned revenue,
accrued revenue, prepaid expenses, accrued
expenses)
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