19: Introduction to Financial Statement Analysis

Question 1

the process of examining a company’s performance in the context of its industry and economic environment in order to arrive at a decision or recommendation

Answer 1

financial analysis

Question 2

provide information about a company’s performance, financial position and changes in financial position that is useful to a wide range of users in making economic decisions

Answer 2

financial statements

Question 3

use financial reports prepared by companies, combined with other information, to evaluate the past, current, and potential performance and financial position of a company for the purpose of making investment, credit, and other economic decisions

Answer 3

financial statement analysis

Question 4

the ability to meet short-term obligations

Answer 4

liquidity

Question 5

the ability to meet long-term obligations

Answer 5

solvency

Question 6

the combination of liabilities and equity used to finance its assets

Answer 6

capital structure

Question 7

presents a company’s financial position by disclosing the resources the company controls (assets) and its obligations to lenders and other creditors (liabilities) at a specific point in time

Answer 7

balance sheet

Question 8

represents the excess of assets over liabilities, the owners’ residual interest in the company’s assets after deducting its liabilities

Answer 8

owners’ equity

Question 9

account equation

Answer 9

assets = liabilities + owner’s equity

Question 10

presents information on the financial performance of a company’s business activities over a period of time

Answer 10

income statement

Question 11

amounts charged for the delivery of goods or services in the ordinary activities of a business

Answer 11

revenue

Question 12

gains that may or may not arise in the ordinary activities of the business

Answer 12

other income

Question 13

reflect outflows, depletions of assets, and incurrences of liabilities that decrease equity

Answer 13

expenses

Question 14

revenue + other income - expenses

Answer 14

net income

Question 15

primarily serves to report changes in the owners’ investment in the business over time

Answer 15

statement of changes in equity

Question 16

disclosing the sources and uses of cash helps creditors, investors, and other statement users evaluate the company’s liquidity, solvency, and financial flexibility

Answer 16

statement of cash flows

Question 17

the ability of the company to react and adapt to financial adversity and opportunities

Answer 17

financial flexibility

Question 18

generally involve the cash effects of transactions involved in the determination of net income and comprise the day-to-day operations of the company

Answer 18

operating activities

Question 19

associated with the acquisition and disposal of long-term assets such as property, plant, and equipment

Answer 19

investing activities

Question 20

relate to obtaining or repaying capital to be used in the business

Answer 20

financing activities

Question 21

provide information that is essential to understanding the information provided in the primary statements- the basis of preparation, the accounting policies, methods, and estimates used, financial instruments and their risks, commitments and contingencies, legal proceedings, related-party transactions, subsequent events, business acquisitions and disposals and operating segments performance

Answer 21

financial statement notes (footnotes)

Question 22

publicly held companies typically include a section in their annual report where management discusses a variety of issues, including the nature of the business, past results, and future outlook

Answer 22

management discussion and analysis (MD&A)

Question 23

the IFRS includes a framework to provide guidance rather than set forth requirements, including: the nature of the business, management’s objectives and strategies, the company’s significant resources, risks, and relationships, results of operations, and critical performance measures
*typically unaudited

Answer 23

management discussion and analysis (MD&A)

Question 24

in the US, the SEC requires that management discusses and favorable or unfavorable trends, any significant events and uncertainties that affect the company’s liquidity, capital resources, and results of operations; must also provide information on the effects of inflation, changing prices, off-balance sheet obligations and contractual commitments and critical accounting policies

Answer 24

management discussion and analysis (MD&A)

Question 25

2 overall objectives of an auditor in conducting an audit of financial statements:

Answer 25

• to obtain reasonable assurance that they are free of material error
• to report and communicate on findings

Question 26

auditor believes statements are free from material omissions or errors

Answer 26

unqualified opinion

Question 27

if statements make any exceptions to accounting principles, auditor explains exceptions

Answer 27

qualified opinion

Question 28

statements are not presented fairly or are materially nonconforming

Answer 28

adverse opinion

Question 29

auditor is unable to express opinion, likely due to scope limitation

Answer 29

disclaimer of opinion

Question 30

processes by which the company ensures it presents accurate financial statements

Answer 30

internal controls

Question 31

highlights accounting choices that require significant management judgments and estimates

Answer 31

key/critical audit matters

Question 32

report significant events such as acquisitions and disposals of major assets or changes in management or capital structure

Answer 32

form 8-K

Question 33

issued to shareholders when there are matters that require a shareholder vote (election of board members, management qualifications, issuance of stock options)

Answer 33

proxy statement

Question 34

6 steps of financial statement analysis framework:

Answer 34

• state the objective and context-
• collect input data
• process data
• analyze/interpret the processed data
• develop and communicate conclusions and recommendations
• follow- up

Question 35

statement of the purpose or objective of analysis, a list of specific questions to be answered by the analysis, nature and content of report to be provided, timetable and budgeted resources,

Answer 35

step 1: articulate the purpose and context of analysis

Question 36

gather financial statements, discussions with management, suppliers, customers, and competitors, company site visits

Answer 36

step 2: collect input data

Question 37

adjust financial statements, calculate ratios, create graphs and forecasts

Answer 37

step 3: process data

Question 38

analyze input and processed data

Answer 38

step 4: analyze/interpret the processed data

Question 39

answer question from step 1, determine recommendation

Answer 39

step 5: develop and communicate conclusions and recommendations

Question 40

periodically repeating to determine if changes to recommendation are necessary

Answer 40

step 6: follow-up