Accounting Advanced Flashcards
How is GAAP accounting different from tax accounting?
GAAP is accrual based proper matching of revenue and expenses
Tax is cash based tax laws by tax department
GAAP uses straight line depreciation or other methods
Tax accounting uses accelerated depreciation, like double declining balance, tax deferral, expensing, large asset cost lower taxable income, time value of money access to more cash now than later
GAAP is more complex and more accurately tracks assets and liabilities. Whereas tax accounting is only concerned with revenue and expenses in the current period and what income tax you owe.
What are deferred tax assets/liabilities and how do they arise?
They arise because of temporary differences between what a company can deduct for cash tax purposes versus what they can deduct for book (GAAP) tax purposes or if decide to accelerate tax depreciation
Deferred tax liabilities DTLs arise when you have a tax expense on the income statement, but haven’t actually paid the tax in cash. It’s the equivalent of paying additional taxes at a future date. It’s the opposite of DTAs tax deduct need to be paid in future.
Deferred tax assets DTA’s arise when you pay taxes in cash, but haven’t expensed them on the income statement yet it helps to reduce companies, future tax liability. Example your company paid its taxes in full and received a tax deduction. The unused deduction can be used in future tax filings as a DTA.
Most common with asset write ups and write downs in M and A deals.
An asset write up will produce a deferred tax liability a write down will produce a deferred tax asset.
Deferred tax liability, example an expense might be recognized immediately for tax purposes, but spread out over several years for financial reporting purposes.
Deferred tax asset example, if an expense is recognized immediately for financial reporting, but spread out over several years for tax purposes
Walk me through how you create a revenue model for a company?
There are two ways, a bottoms up build, and a tops down build
You have to determine how revenue drivers affect ARR annual recurring revenue.
Bottoms up start with individual products/customers, sales and marketing product line prices, etc. then estimate the average sale or customer value expected distribution of new cost between products. Then the growth rate and sales and sale values to tie everything together.
Tops down start with high-level market data and work down to companies revenue big picture metrics like overall market size TAM SAM SOM estimate the companies market share, and how it will change income in years. Multiply to get their revenue.
Bottoms up is more common and is taken more seriously because estimating a big picture number is almost impossible
TAM total market demand total addressable market
SAM serviceable available market segment of TAM in your region
SOM serviceable obtainable market portion of SAM you can obtain
Walk me through how you create an expense model for a company?
To do a true bottoms up, build you start with each different department of a company the number of employees in each the average salary, bonuses, and benefits, then make assumptions on those going forward
Usually assume number of employees is tied to revenue, and then you assume growth rates for salary, bonuses, benefits, and other metrics.
COGS should be tied directly to revenue and each unit produced should incur an expense
Other items, such as rent, cap X other miscellaneous expenses are either linked to companies internal plans for building expansion plans if they have them or to revenue for more simple model
Let’s say we’re trying to create these models, but don’t have enough information on the company or the company doesn’t tell us enough in it’s filings. What do we do?
Use estimates for revenue if you don’t have enough info, look at separate product lines or divisions of the company assume a simple growth rate into future years.
For expenses, if you don’t have employee level info, assume that major expenses like SG and A are a percent of revenue and carry that assumption forward.
Walk me through the major items and shareholders equity?
Common items include common stock simply the par value of however much stock the company has issued
Retained earnings how much of the companies net income It has saved up overtime.
Additional paid in capital keeps track of how much stock based compensation has been issued and how much new stock employees exercising options have created. It also includes how much over par value a company raises in an IPO or other equity offering.
Treasury stock the dollar amount of shares that the company has bought back
Accumulated other comprehensive income this is a catch all that includes other items that don’t fit anywhere else like the effect of foreign currency exchange rates changing.
Walk me through what flows into retained earnings?
R/E = old R/E balance + net income - dividends issued
If you’re calculating R/E for the current year take last years R/E number and this year‘s NI and subtract however, much company paid out in dividends, cash or stock dividends.
Walk me through what flows into APIC?
APIC = old APIC + stock based compensation + value of stock created by option exercises
Take balance from last year at this year stock base compensation number and then add in the value of new stock created by employees exercising options this year
Exercising options betting on if a stock will increase or remain the same call and put options called buy put to sell.
What is the statement of shareholders equity and why do we use it?
You don’t use it too much, but it can be helpful for analyzing companies with unusual stock based compensation and stock option situations.
Moving in time
Encompasses R/E and other statements
Highlights everything that contributes to the increase or decrease in the netbook value of a companies equity
Equity is positive. The company has enough assets to cover its liabilities.
What are examples of non-recurring charges we need to add back to a companies EBIT/EBITDA when looking at its financial statements?
Restructuring charges, Goodwill impairment, asset, write downs, bad debt, expenses, disaster expenses changes in accounting procedures
One time charges, large, impairments, uncommon, natural operations of a business
Note that to be an ad back or non-recurring charge for EBITDA/EBIT purposes it needs to affect operating income on the income statement
If you have one of these charges below the line, then you do not add it back for the EBITDA/EBIT calculation
do add back depreciation amortization and sometimes SBC for EBITDA/EBIT these are not non-recurring charges all companies have them every year. These are non-cash charges.
How do you project balance sheet items like A/R and accrued expenses in a three statement model?
Normally, you make very simple assumptions, and assume these are percentages of revenue, operating expenses or COGS
A/R percentage of revenue
Deferred revenue percentage of revenue
Accounts payable percentage of COGS
Accrued expenses, percentage of operating expenses or SGA
Either carry same percentages across in future years or assume slight charges, depending on the company
How should you project depreciation and capital expenditures?
Simple way project each one as a percentage of revenue or previous PP&E balance
Complex way create a property plant and equipment schedule that splits out different assets by their useful lives, assuming straight line depreciation over each assets, useful life, and then assume capital expenditures based on what the company has invested historically
How do net operating losses NOLS affect a companies three statements?
Quick and dirty, reduce the taxable income by the portion of the NOLS that you can use each year apply the same tax rate then subtract that new tax number from your old pretax income number
Proper way to create a book versus cash tax schedule, where you calculate the taxable income based on NOLS and then look at what you would pay in taxes without the NOLS
Then book the difference as an increase to the deferred tax liability on the balance sheet. This method reflects that you’re saving on cash flow since the deferred tax liability a liability is rising, but correctly separates the NOL impact into book versus cash taxes.
What’s the difference between capital and operating leases?
Operating leases are used for short-term leasing of equipment and property and do not involve ownership of anything
Operating leases expenses show up as operating expenses on the income statement
Capital leases are used for longer-term items and give the lessee ownership rights
They depreciate and incur interest payments and are counted as debt
It is a capital Lease if one of the following four conditions are true
1 if there’s a transfer of ownership at the end of the term
2 if there’s an option to purchase the asset at a bargain price at the end of the term
3 If the term of the lease is greater than 75% of the useful life of the asset
4 if the present value of the lease payments is greater than 90% of the assets fair market value
Why would the depreciation and amortization number on the income statement be different from what’s on the cash flow statement?
Happens if D and A is embedded in other income statement line items when this happens, you need to use the cash flow number to arrive at EBITDA because otherwise you’re undercounting D&A
EBITDA calculated by adding back D&A to net income so if D&A is not reported separately, you can end up under counting it
