primary financial statements and cash flows bus512m

Analysis of Financial Statements and

Statement of Cash Flows

BUS512MNovember 22, 2013

Session 28:00-11:30

Susan Crosson

Homework See Handout

Today’s Learning Outcomes

• Analyzing Financial Statements-common size FS, ratios

• Transaction Impact on Ratios

• Cash Flow ratios-Free cash flow; Cash conversion cycle

• Deriving Cash Flow from transactions-Direct method

• Deriving Cash Flow from Accrual Financial Statements-Indirect method

First Homework-Emory Inc. Solution: Financial statement relationshipsBalance Sheet- Beginning Balance Sheet -Ending

Cash ? Computations Cash 110

Other CA ? Other CA: (210-20) +340+80+15+40+10=675 Other CA 675

LT Assets ? LT Assets: (400-140) + (200+350+20)= 830 LT Assets 830

T Assets ? C Liab.: 70+120+12+130+150+90=572 T Assets 1,615

Exp: 25+13+800+50+110+97+27+215+15=1352

C Liab. ? C Liab. 572

LT Liab. ? LT Liab. 481+ (?=25) 506

CC ? CC 135

RE ? Income Statement RE 402

T L+SHE ? Revenue 1600+28-18 1,610 T L+SHE 1,615

Expenses 1,352

Net Income 258

Statement of Shareholders’ Equity

Contributed Capital Retained Earnings

Beginning 95+40=135 160

NI XXXXXXXXXXXXXX 258

Dividends XXXXXXXXXXXXXX 16

Stock Issue XXXXXXXXXXXXXXXXX

Ending 135 402

Financial statement relationships: Vertical AnalysisBalance Sheet 12.31.Begin Balance Sheet 12.31.End

Cash Cash/TA Statement of Cash Flows 12.31.End Cash Cash/TA

Other CA Other CA/TA Cash-Operating IS, changes in CA&CL Other CA Other CA/TA

LT Assets LTInvt, PP&E, Intan./TA

Cash-Investing Changes in LTA LT Assets LTInvt, PP&E, Intan./TA

T Assets 100% Cash-Financing Changes in LTL, CC T Assets !00%

Change in Cash ?

C Liab. CL/TL+SHE Cash-12.31.Begin ? C Liab. CL/TL+SHE

LT Liab. LTL/TL+SHE Cash-12.31.End ? LT Liab. LTL/TL+SHE

CC CC/TL+SHE CC CC/TL+SHE

RE RE/TL+SHE Income Statement (year ending 12.31.) RE RE/TL+SHE

T L+SHE 100% Revenue 100% T L+SHE 100%

Expenses COGS,Oper.,Other/Sales

Net Income NI/Sales

Statement of Shareholders’ Equity (year ended 12.31.)


12.31.Begin

NI XXXXXXXXXXXXXXX

Dividends XXXXXXXXXXXXXXX


12.31.End ? ?

Emory Inc. Solution: Common Sized FSBalance Sheet- Beginning Balance Sheet -Ending

Cash ? Computations Cash 7% 110

Other CA ? Other CA 42% 675

LT Assets ? LT Assets 51% 830

T Assets ? T Assets 100% 1,615

C Liab. ? C Liab. 36% 572

LT Liab. ? LT Liab. 649 + (?=101) 31% 506

CC ? CC 8% 135

RE ? Income Statement RE 25% 402

T L+SHE ? Revenue 100% 1,610 T L+SHE 100% 1,615

Expenses 84 % 1,352

Net Income 16% 258

Statement of Shareholders’ Equity


Beginning 95+135 160

NI XXXXXXXXXXXXXX 258

Dividends XXXXXXXXXXXXXX 16


Ending 135 402

ID5-1 Common Sized Financial StatementsBed, Bath & Beyond; Kelly Services; Bank of America; or Hewlett-Packard

Balance Sheet 1 2 3 4

Cash 34% 16% 9% 8%

Accounts Receivable 50 0 15 56

Inventories 0 39 7 0

Long-term Assets 1 32 19 10

Other Assets 15 13 50 26

Current Liabilities 76 22 47 41

Long-term Liabilities 15 7 19 14

Shareholders’ Equity 9 71 34 45

Sales of Goods 0% 100% 77% 0%

Sales of Services 100% 0 23 100

Cost of Goods Sold 0 60 59 0

Operating Expenses 96 34 31 101

Net Income 4 6 7 (1)

Annual Report Treasure Hunt-Find the 6 Key Numbers

• Revenue

• Income (Loss)

• Cash Flow from (used by) Operating Activities

• Assets

• Liabilities

• Stockholders’ Equity

Prove the Accounting Equation

Can you tell the type of business? Service, Retail, Manufacturing

Six key numbers

Total Assets

Total Liabilities

Total Equity

Revenue

Net Income (Loss)

Cash Flowfrom (used by)OperatingActivities

IncomeStatement

Balance Sheet

Statement of Cash flows

Four Key Ratios: Profit MarginPROFITABILITY: Ability to earn a satisfactory net income

TotalAssets

Total Liabilities

Total Equity

RevenueNetIncome (Loss)


Revenue

Net Income

How well does management control expenses?

Four Key Ratios: Asset TurnoverTOTAL ASSET MANAGEMENT: Ability to utilize all the assets of a company

in a way that maximizes revenue and minimizes investment.

TotalAssets

Total Liabilities

Total Equity



Revenue

Average Total Assets*

How efficiently do assets generate revenue?

* Beginning + Ending Total Assets/2

Return on Assets

Profit Margin x Asset Turnover = Return on Assets

Revenue

Net Income Revenue

Average Total AssetsX =

Net Income

Average Total Assets

Income

Average Total Assets

Return on EquityNet Income

Average Total SHE

Revenue

Net Income Revenue

Average Total SHEX =

Income

Average Total SHE

Four Key Ratios: Debt to EquityFINANCIAL RISK: Ability to use debt effectively without jeopardizing the

future of the company.

TotalAssets

Total Liabilities

Total Equity



Total Liabilities

Total Equity

Who controls the company? What is the company’s level of financial risk?

BE 5-1 Ratio Analysis Coca-Cola & PepsiCoCompute profit margin, asset turnover, return on assets, return on equity, and debt to equity ratios for 2008. Comment on your findings.

Company 2008 2007

Coca-Cola Income Statement:

Sales $31,944 $28,857

Net Income 5,807 5,981

Coca-Cola Balance Sheet:

Assets $40,519 $43,269

Shareholders’ equity 20,472 21,744

PepsiCo Income Statement

Sales $43,251 $39,474

Net Income 5,142 5,658

PepsiCo Balance Sheet:

Assets $35,994 $34,628

Shareholders’ equity 12,203 17,325

Transactions Impact on RatiosTransactions: Current Ratio

Profit

Margin

Asset

Turnover

Debt to Equity Earnings per

Share

Paid rent on building.

Received an advance payment from a client for services to be

rendered over next six months.

Paid salaries of employees

Bought a three-year insurance policy and paid in full.

Performed services for a client; received part of fee in cash,

remainder to be collected in 30 days.

Purchased office equipment. Paid part in cash, balance payable in

60 days.

Purchased a large amount of office supplies on credit.

The owners invested cash in the corporation and received stock.

Made an adjusting entry for the portion of the insurance premium

which has expired.

Paid off office supplies purchased earlier.

Made an adjusting entry for depreciation.

Made an adjusting entry for office supplies used during this

period.

Made an adjusting entry to recognize that a portion of the fee

received in advance had been earned.

Cash Conversion CycleOPERATING ASSET MANAGEMENT: Ability to utilize current assets and liabilities in a way

that supports growth in revenues with minimum investment.

• Measures the time it takes from cash invested in inventory to cash received from customers versus the time it takes to pay suppliers. (The time required to make or buy products, finance the products, and to sell & collect for them.)

Days Inventory

+ Days Receivables

- Days Payables

Cash Conversion Cycle If Operating Cycle is > Days Payables then Financing GapIf Operating Cycle is < Days Payables then able to Self-finance

Operating Cycle

Example

In 2009 Coca-Cola had the following ratios:

• Days Inventory = 75 days

• Days Receivables = 40 days

• Days Payables = 45 days

Was there a financing gap?


Cash Statement of Cash Flows 12.31.End Cash

Other CA Cash-Operating IS, changes in CA&CL Other CA

LT Assets LTInvt, PP&E, Intan. Cash-Investing Changes in LTA LT Assets LTInvt, PP&E, Intan.

T Assets Cash-Financing Changes in LTL, CC T Assets

Change in Cash ?

C Liab. Cash-12.31.Begin ? C Liab.

LT Liab. Cash-12.31.End ? LT Liab.

CC CC

RE Income Statement (year ending 12.31.) RE

T L+SHE Revenue T L+SHE

Expenses COGS,Oper.,Other

Net Income

Statement of Shareholders’ Equity (year ended 12.31.)


12.31.Begin

NI XXXXXXXXXXXXXXX

Dividends XXXXXXXXXXXXXXX


12.31.End ? ?

E14-4 Cash Management PoliciesKraft Foods, Kellogg’s, General Mills

For each company compute the missing dollar amounts, and briefly describe the cash management policy.

Company Cash from Operations

Cash from Investments

Cash from Financing

Net Change in Cash

Kraft Foods $5,084 ? ($2,988) $857

Kellogg’s 1,643 (370) (1,194) ?

General Mills ? (289) (1,450) 89

E2-2 Identifying financing, investing, and operating transactions

Listed below are 8 transactions. In each case, identify whether the transaction is an example of financing, investing, or operating activities and which of the financial statements it would affect.

1. Company borrowed $50,000 in cash, signed a 10-year note payable.

2. 20 units of inventory are purchased from suppliers on account for $12,000.

3. The utility bill is paid at the end of the month, $5,200.4. Services are performed, and customers are billed for $13,000.5. 5 parcels of real estate are purchased for a total of $55,000 in

cash.6. A long-term investment in a equity security is sold for $4,500

cash.7. Principal payments are made on outstanding debts.8. Cash is received from customers for services completed in the

previous period.

E4-9 Preparing journal entries and T-account for cashPrepare journal entries for each cash transaction during January, prepare the cash T-account (assume beginning balance is $5,000).

1. Issued 600 shares of stock for $25 each.

2. Sold services for $4,000.

3. Paid wages of $1,600.

4. Purchased land as a long-term investment for $9,000.

5. Paid a $2,000 dividend.

6. Sold land with a book value of $3,000 for $3,500.

7. Paid $1,500 to the bank: $900 to reduce the principal on the outstanding loan and $600 as an interest payment.

8. Paid miscellaneous expenses of $1,800.

E14-9 Cash Flows from Transactions-Direct method

Prepare a statement of Cash flows (direct method) fromDriftwood Shipbuilders following transactions during 2012:1. Sold $6,000 of no-par common stock. 2. Purchased $6,000 of inventory on account.3. Purchased new equipment for $5,000 cash.4. Collections on accounts receivable totaled $10,000.5. Made payments of $5,000 to suppliers.6. Declared and paid dividends of $2,000.7. Paid rent of $6,000 for the last six months of 2011 and

$6,000 for the first six months of 2012.8. Made sales totaling $100,000; $35,000 on account and

the remainder in cash.9. Paid $40,000 in cash for miscellaneous expenses.10. Sold investments with a cost of $20,000 for $25,000.

E4-16 The difference between cash and accrual accounting

Washington Forest Products began operations on January 1, 2011. On December 31, 2011, the company accountant ascertains that the following amounts should be reported as expenses on the income statement: Insurance Expense $20,000; Supplies Expense $11,000; Rent Expense $14,000.

A Review of the company’s cash disbursements indicates the company made related cash payments during 2011 as follows:Insurance $29,000; Supplies $27,000; Rent $8,000

Explain why the amounts shown as expenses do not equal the cash paid.For each expense account, compute the amount that should be shown in the related balance sheet account as of December 31, 2011 (remember the company begin operations this year).

E14-11Cash effectsGiven the following information and that a machine with a cost of $8,000 was sold during 2012, answer the following questions;

1. How much machinery was purchased during 2012?

2. How much cash was collected on the sale of the machine?

2012 2011

Machinery $45,000 $20,000

Accumulated depreciation ($15,000) ($10,000)

Depreciation expense 7,000 6,000

Gain on sale of machine 2,000 500

Four Key Ratios: Cash Flow YieldLIQUIDITY: Ability to generate sufficient cash to pay bills when due and to meet

unexpected needs for cash.

TotalAssets

Total Liabilities

Total Equity



Cash Flow Operating Activities

Net Income

Are operating activities generating sufficient cash flows?

Link between income statement and cash flow from operating activities:

Indirect Approach to Cash Flow Statement

TotalAssets

Total Liabilities

Total Equity



Cash Flow Operating Activities

Net Income (Loss)

Revenue-Expenses=+Non-cash Expenses+Operating Working Capital (CA-CL)

Free Cash Flow

• The ability of a company to finance its growth from current operating cash flows and meet fixed commitments.

Cash Flow from Operating Activities

-Dividends

-Net Capital Expenditures

=Free Cash Flow

Deficiencies of Free Cash Flow

• No widely accepted definition of free cash flow.

• Absolute amounts, not ratios

• Not clear if large free cash flow is good and small free cash flow is bad.

• The only truly free cash flow is from operations because management is free to use them in a variety of ways.


Cash Statement of Cash Flows 12.31.End Cash

Other CA Cash-Operating IS, changes in CA&CL Other CA

LT Assets LTInvt, PP&E, Intan. Cash-Investing Changes in LTA LT Assets LTInvt, PP&E, Intan.

T Assets Cash-Financing Changes in LTL, CC T Assets

Change in Cash ?

C Liab. Cash-12.31.Begin ? C Liab.

LT Liab. Cash-12.31.End ? LT Liab.

CC CC

RE Income Statement (year ending 12.31.) RE

T L+SHE Revenue T L+SHE

Expenses COGS,Oper.,Other

Net Income

Statement of Cash Flows-Indirect Method

1. Compute change in cash from Beginning and Ending Cash on BS-THE ANSWER2. Net Income, non-cash expenses, gains, & losses on the IS go to CF-Operating3. Change in Current Assets and Current Liabilities accounts go to CF-Operating4. Analyze Noncurrent Asset accounts for what goes in CF-Investing5. Analyze Long-term Liabilities accounts for what goes in CF-Financing6. Analyze Contributed Capital and Retained Earnings accounts for what goes in

CF-Financing.

P14-13 Statement of Cash Flows-Indirect methodpage 686 in text

E14-22 Cash from Operating Activities-Indirect methodpage 679 in text

Today we:

• Analyzed Financial Statements-common size FS, ratios

• Learned how Transactions Impact Ratios

• Cash Flow ratios-Free cash flow; Cash conversion cycle

• Derived Cash Flow from transactions-Direct method

• Derived Cash Flow from Accrual Financial Statements-Indirect method

primary financial statements and cash flows bus512m

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