CHAPTER 2 FINANCIAL STATEMENTS FINANCIAL STATEMENTS

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<ul><li> 1. CHAPTER 2 FINANCIAL STATEMENTS</li></ul> <p> 2. FINANCIAL STATEMENTS </p> <ul><li>Income Statement </li></ul> <ul><li>Common Size Income Statement </li></ul> <ul><li>Balance Sheet </li></ul> <ul><li>Common Size Balance Sheet </li></ul> <ul><li>Statement of Cash Flows </li></ul> <p> 3. Income Statement </p> <ul><li>Summarizes the results of the firms operations over a period of time </li></ul> <ul><li>Shows total revenues and expenses for the time period </li></ul> <ul><li>Shows different measures of profit </li></ul> <ul><li>Prepared for different time periods: Monthly, quarterly, and annually </li></ul> <p> 4. Income Statement </p> <ul><li>The order of the items that should be entered in the income statement is as follows: </li></ul> <ul><li>1.Sales:Total $ income incurred by sales (revenue) </li></ul> <ul><li>2.Cost of Goods Sold :This item includes raw material, labor, etc... </li></ul> <ul><li>3.Gross Profit : Profit from goods sold, not including any expense other than cost of goods </li></ul> <ul><li>Gross Profit = Sales - Cost of Goods Sold </li></ul> <p> 5. Income Statement </p> <ul><li>4.Selling, G&amp;A Expenses : Selling, General and Administrative Expenses. Marketing, paperwork, etc...</li></ul> <ul><li>5.Fixed Expenses </li></ul> <ul><li>6.Depreciation Expense : Depreciation of machinery </li></ul> <ul><li>7.EBIT:Earnings Before Interest and Taxes. This is also called as operating income. This is the income generated from the operations of firm and excludes taxes and interest expenses </li></ul> <ul><li>EBIT = Gross Profit - (Selling, G&amp;A Expenses + Fixed Expenses + Depreciation Expense) </li></ul> <p> 6. Income Statement </p> <ul><li>8.Interest Expense : Interest paid on the firms debt </li></ul> <ul><li>9.Earnings Before Taxes : This item shows the income generated without including taxes </li></ul> <ul><li>Earnings Before Taxes = EBIT - Interest Expense </li></ul> <ul><li>10.Taxes :Assume 40% tax rate . Enter as follows: </li></ul> <ul><li>Taxes @ 40%, or Taxes (40%) </li></ul> <ul><li>Taxes = 0.4*Earnings Before Taxes </li></ul> <ul><li>11.Net Income : </li></ul> <ul><li>Net Income = Earnings Before Taxes - Taxes </li></ul> <p> 7. Common-Size Income Statements </p> <ul><li>Common-size income statements display data not as $ amounts but aspercentages offirms total revenues ( Sales ) </li></ul> <ul><li>Benefits: </li></ul> <ul><li>- Easy comparison between firms of different sizes </li></ul> <ul><li>- Show important trends which may not be seen in $ amounts </li></ul> <p> 8. Balance Sheet </p> <ul><li>Balance sheet describes assets, liabilities, and equity of the firm at a specific time (like a snapshot) </li></ul> <ul><li>Assets : (Tangible/intangible):</li></ul> <ul><li>- Things that a firm owns.</li></ul> <ul><li>-Assets are entered on thetopor on theleftof the balance sheet </li></ul> <p> 9. Balance Sheet </p> <ul><li>Liabilities: </li></ul> <ul><li>- Debts of the firm </li></ul> <ul><li>- EnteredbelowAssets, or on therightof the balance sheet </li></ul> <ul><li>Equity : </li></ul> <ul><li>- Difference between what firm owns and what it owes to others </li></ul> <ul><li>- Enteredbelowliabilities in the balance sheet </li></ul> <p> 10. Balance Sheet </p> <ul><li>NOTE: </li></ul> <ul><li>Balance sheet mustbalance : </li></ul> <ul><li>Total Assets = Total Liabilities + Total Equity </li></ul> <ul><li>should satisfy </li></ul> <p> 11. Balance Sheet </p> <ul><li>A. ASSETS: (Top, or left of balance sheet) </li></ul> <ul><li>1.Current Assets :</li></ul> <ul><li>Firms short term assets. </li></ul> <ul><li>-Cash and Marketable Securities,</li></ul> <ul><li>-Accounts Receivable,</li></ul> <ul><li>-Inventories </li></ul> <ul><li>2.Fixed Assets : </li></ul> <ul><li>- Assets that have long life, like plant and equipment </li></ul> <ul><li>3.Net Fixed Assets : </li></ul> <ul><li>-You deduct the accumulated depreciation of the fixed assets from the value of fixed assets to find Net Fixed Assets </li></ul> <ul><li>Net Fixed Assets=Fixed Assets - Accumulated Depreciation </li></ul> <p> 12. Balance Sheet </p> <ul><li>B. LIABILITIES (Below Assets or on the right of Balance Sheet) </li></ul> <ul><li>1.Current Liabilities : </li></ul> <ul><li>Short term liabilities </li></ul> <ul><li>Typically, current liabilities are: </li></ul> <ul><li>-Accounts payable </li></ul> <ul><li>-Notes payable </li></ul> <ul><li>-Accruals </li></ul> <ul><li>2.Long-term Liabilities : </li></ul> <ul><li>Bonds, bank loans, etc.. </li></ul> <ul><li>3.Total Liabilities : </li></ul> <ul><li>Current Liabilities + Long-term Liabilities </li></ul> <p> 13. Balance Sheet</p> <ul><li>C. SHAREHOLDERS EQUITY (Below Liabilities) </li></ul> <ul><li>1.Preferred Stock : </li></ul> <ul><li>2.Common Stock : </li></ul> <ul><li>3.Retained Earnings : </li></ul> <ul><li>4.Total Shareholders Equity : </li></ul> <ul><li>Preferred Stock + Common Stock + Retained Earnings </li></ul> <p> 14. Balance Sheet </p> <ul><li>D. TOTAL LIABILITIES AND EQUITY (below Total Shareholders Equity) </li></ul> <ul><li>Total Liabilities + Total Shareholders Equity </li></ul> <ul><li>NOTE: </li></ul> <ul><li>Again remember that </li></ul> <ul><li>Total Assets = Total Liabilities and Equity </li></ul> <p> 15. Common-size Balance Sheet </p> <ul><li>Preparing common-size balance sheet is similar to the one we did for income statement. </li></ul> <ul><li>Instead of Sales, forBalance Sheet,we useTotal Assetsto form the percentages, and </li></ul> <ul><li>Explain all data as a percentage of Total Assets, i.e. Format cells as %,0.00% </li></ul> <p> 16. Statement of Cash Flows </p> <ul><li>Financial Transactions of Firms: </li></ul> <ul><li>1.Sources of Funds: </li></ul> <ul><li>Cash inflows that increase cash balance </li></ul> <ul><li>2.Uses of Funds : </li></ul> <ul><li>Cash outflows that decrease cash balance </li></ul> <p> 17. Statement of Cash Flows </p> <ul><li>How Well Managers Perform? </li></ul> <ul><li>- Analyze how management uses shareholders money:</li></ul> <ul><li>-UseStatement of Cash Flows </li></ul> <p> 18. Statement of Cash Flows </p> <ul><li>Statement of Cash Flows: </li></ul> <ul><li>-Summarizes changes in firms cash balance </li></ul> <ul><li>Ending Cash Balance =</li></ul> <ul><li>Beginning Cash Balance + </li></ul> <ul><li>Cash Inflow (Sources) - </li></ul> <ul><li>Cash outflow (Uses) </li></ul> <p> 19. Statement of Cash Flows </p> <ul><li>Most of the items in statement of cash flows come fromchangeinbalance sheetitems </li></ul> <ul><li>Therefore, we need balance sheets oftwoyears </li></ul> <ul><li>We also need income statement </li></ul> <ul><li>Operational Cash Flow( Net Income+Depreciation ) comes fromIncome Statement </li></ul> <p> 20. Statement of Cash Flows </p> <ul><li>Statement of Cash Flows separates firm activities into three parts: </li></ul> <ul><li>1. Operating Activities </li></ul> <ul><li>2. Investing Activities </li></ul> <ul><li>3. Financing Activities </li></ul> <p> 21. Statement of Cash Flows </p> <ul><li>1.Cash Flows from Operations : </li></ul> <ul><li>Typically these are: </li></ul> <ul><li>Net income, depreciation,</li></ul> <ul><li>changes in-accounts receivable </li></ul> <ul><li>-inventories </li></ul> <ul><li>-accounts payable </li></ul> <ul><li>-notes payable </li></ul> <ul><li>-other current liabilities </li></ul> <p> 22. Statement of Cash Flows </p> <ul><li>2.Cash Flows from Investing </li></ul> <ul><li>Typically these are change in fixed assets like change in plant and equipment (investment in these assets or sale of these assets) </li></ul> <p> 23. Statement of Cash Flows </p> <ul><li>3.Cash Flows from Financing </li></ul> <ul><li>Typically these are: </li></ul> <ul><li>Dividends paid to shareholders, and </li></ul> <ul><li>Change in -debt </li></ul> <ul><li>-stock </li></ul> <p> 24. Statement of Cash Flows </p> <ul><li>Increase and Decrease in Cash Flows : </li></ul> <ul><li>- Uses of fundsdecreasecash flows: Increase in assets, Decrease in liabilities </li></ul> <ul><li>- Sources of fundsincreasecash flows: </li></ul> <ul><li>Decrease in assets, Increase in liabilities </li></ul> <ul><li>Therefore, for uses of funds, we should use a- sign in the Excel sheet. </li></ul>