Accounting Reading

Question 1

Gross Margin

Answer 1

Revenue - COGS

Question 2

Basic Order of Income Statement

Answer 2

Revenue - Cogs = Gross Margin
Gross Margin - Operating Expenses = Operating Income (EBIT - Earnings Before Interest & Taxes)
Operating Income - Interest = EBT
EBT - Taxes = Net Income

Question 3

What can cause differences between Net Income and actual cash?

Answer 3

• Installment Payments
• Prepaid Expenses
• Prepaid Services
• Monthly subscription / deferred revenue

Question 4

Why is depreciation a non cash expense?

Answer 4

Reduces company taxes (income statement), but it doesn’t effect cash and is backed out of cash flow statement.

Question 5

Deferred tax impact on income statement and cash floww

Answer 5

Show the entire tax expense on the income statement and on cash flow adjust the non cash portion

Question 6

How to asset write downs produce tax savings?

Answer 6

They show up on income statement as loss

Question 7

Stock based compensation effect on income statement, tax, and cash flow?

Answer 7

Shows up as an expense on income statement, reduces tax, but is a non cash transaction that gets back out

Question 8

How does amortization effect income statement, tax, balance sheet, cash flow
(END KEY RULE 2)

Answer 8

Reduces income, reduces taxes, backed out of cash flow because non cash expense

Question 9

Where are Depreciation and Amortization on income statement?

Answer 9

Embedded within cogs

Question 10

Where is stock based compensation on income statement?

Answer 10

Embedded within operating expenses

Question 11

2 Criteria for showing up on income statement

END KEY RULE 3

Answer 11

Current period and have an impact on tax

Question 12

How does balance sheet link up to cash flow statement

Answer 12

Changes in accounts are tracked on B/S and put in SCF, and SCF calculates final cash amount which links up to cash amount on B/S

Question 13

How does net income link to B/S

Answer 13

Net income falls within retained earnings section under the equity section of balance sheet

Question 14

2 criteria for showing up on cash flow statement

Review Question 9

Answer 14

It affects net income but is a non cash transaction that needs to be adjusted for.

It does not effect net income but it was a cash transaction.

Question 15

Cash based vs accrual accounting

Answer 15

With cash based accounting, sales can’t be recorded as revenue until cash is delivered, even if item changes hands.

With accruel accounting, you can record A/R and make a sale

Question 16

Which financial statement has the correct value for depreceation?

Answer 16

Statement of cash flow show actual depreciation amount.

Income statement will embed or hide full depreciation amount.

Question 17

Difference between A/P and accrued expenses (Review Question 16)

Answer 17

A/P is for invoices and specific things while accrued expenses is for monthly recurring items.

Question 18

If you buy equipment for 100 and sell for 85 - what happens on income statement and SCF

Answer 18

Income statement decreases by 15 for loss on sale of equipment.

The 15 gets backed out SCF because it’s not like your actually losing 15 dollars in that moment - thus it’s a non cash expense.

Question 19

How does interest income from investments effect income statement and SCF (end Conceptual Accounting Questions)

Answer 19

Interest Income earned on these investments will appear on the Income Statement and boost the company’s Pre-Tax Income, Net Income, and its Cash balance

Question 20

Common Stock & Additional Paid-In Capital (APIC) on B/S

Answer 20

The value of shares issues - value of shares does not change with the market - this stays constant

Question 21

Retained Earnings on B/S

Answer 21

Earnings after tax and dividends are paid out

Question 22

Treasury Stock

End Key Rule 4

Answer 22

This item represents the cumulative value of shares the company has
repurchased from shareholders. Just like Common Stock & APIC, the values here are
based on the share prices at the time the company repurchased the shares. This value
does NOT change even if the company’s share price changes afterward.

Question 23

What is CFO part of SCF derived from

Answer 23

Net income on income statement and accounts on balance sheet

Question 24

How does CFI on SCF link to balance sheet

Answer 24

PPE / Long term assets

Question 25

How CFF on SCF link to balance sheet?

Answer 25

Long term liabilities / debt

Question 26

True cash items on income statement question (What happens if rev increases by 100?)

Answer 26

All that happens is that revenue or expenses on the Income Statement change, Net Income changes, and Cash and Retained Earnings on the Balance Sheet change.

Net income increases by 100*(1-tax) / pretax income increases by 100,

Question 27

Changes to Non-Cash or Re-Classified Items on the Income Statement (Depreciation of 10)

Answer 27

You record the $10 extra of Depreciation on the Income
Statement, which reduces the company’s Pre-Tax
Income by $10, and its Net Income by $6 (assuming a
40% tax rate).

On the Cash Flow Statement, Net Income is down by $6, but you add back the $10 in
Depreciation, so cash is up by $4 at the bottom. On the Balance Sheet, cash is up by $4, PP&E is
down by $10, and so the Assets side is down by $6.

Question 28

Effect of A/R changes on B/S effect on IS BS SCF

Answer 28

Increases: IS, BS, and CFS all change; represents recorded revenue.
Decreases: Only the BS and CFS change; represents cash collection.

Question 29

Effect of prepaid expenses changes on B/S effect on IS BS SCF

Answer 29

Increases: Only the BS and CFS change; represents payment for expenses not yet incurred.
Decreases: IS, BS, and CFS all change; represents recognition of an expense previously paid in cash.

Question 30

Effect of inventory change on B/S effect on IS BS SCF

Answer 30

Increases: Only the BS and CFS change; represents spending on goods that have not yet been sold or delivered.

Decreases: IS, BS, and CFS all change; represents recognition of an expense previously paid in cash

Question 31

Accrued Expenses and Accounts Payable effect on IS BS SCF

Answer 31

Increases: IS, BS, and CFS all change; represents recognition of an expense that
has not yet been paid in cash.
Decreases: Only the BS and CFS change; represents cash payment of an expense
that was previously recognized.

Question 32

Deferred Revenue effect on IS BS SCF

Answer 32

Increases: Only the BS and CFS change; represents cash collection for sales that
cannot yet be recognized as revenue.
Decreases: IS, BS, and CFS all change; represents recognition of revenue that has
already been collected in cash.

Question 33

Discretionary Cash Flow

Answer 33

The cash amount you use in DCF analysis

Cash flow it earns after paying for the items that it truly needs to run the business.

Cash Flow from Operations minus Capital Expenditures (CapEx).

Question 34

Working Capital Definition

Answer 34

Current Assets (Excluding Cash and Investments) – Current Liabilities (Excluding Debt)