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Financial Reporting & Analysis > Chapter 1 A FRAMEWORK FOR BUSINESS ANALYSIS AND VALUATION USING FINANCIAL STATEMENTS > Flashcards

Chapter 1 A FRAMEWORK FOR BUSINESS ANALYSIS AND VALUATION USING FINANCIAL STATEMENTS Flashcards

1
Q

What is a critical challenge for any economy?

A

Allocation of savings to business opportunities. Economies that do well spur innovation creating jobs and wealth. The ones that do badly dissipate wealth and fail to support business opportunities.

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2
Q

What’s a lemons problem.

A

Information and incentives problems between savers, entreprenuers and investors (page 24).

MORE BACKGROUND: It can potentially break down the functioning of capital markets. It works
like this: Consider a situation where half the business ideas are “good” and the other half are
“bad.” If investors cannot distinguish between the two types of business ideas, entrepreneurs
with bad ideas will try to claim that their ideas are as valuable as the good ideas. Realizing this
possibility, investors value both good and bad ideas at an average level. Unfortunately, this
penalizes good ideas, and entrepreneurs with good ideas find the terms on which they can
get financing to be unattractive. As these entrepreneurs leave the capital market, the proportion
of bad ideas in the market increases. Over time, bad ideas “crowd out” good ideas, and
investors lose confidence in this market.

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3
Q

What are financial intermediaries?

A

Venture capital and private equity firms, banks, mutual funds, and insurance companies. They focus on aggre
gating funds from individual investors and distributing those funds to businesses seeking sources of capital.

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4
Q

What are information intermediaries?

A

auditors and company audit committees serve as credibility enhancers to provide an independent assessment of business claims

They also include Information analyzers and advisors such as financial analysts, credit rating agencies and the financial press are another type of information intermediary that collect and analyze business information used to make business decisions.

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5
Q

What are transaction facilitators?

A

Transaction facilitators such as stock exchanges and brokerage houses play a crucial role in capital markets by
providing a platform that facilitates buying and selling in markets.

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6
Q

What’s the framework image of capital markets?

A
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7
Q

What are regulators/adjudicators?

A

Securities and Exchange Commission (SEC) and the Financial Accounting Standards Board (FASB) in the United States create appropriate regulatory policy that
establishes the legal framework of the capital market system, while adjudicators such as the court system resolve disputes that arise between participants.

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8
Q

what prevents lemons from occurring?

A

In a well-functioning capital market, the market institutions described above add value by both helping investors distinguish good investment opportunities from bad ones and by directing funding to those business ideas deemed most promising.

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9
Q

What summarizes the economic consequences of a firm’s business activities?

A

Financial statements

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10
Q

What features of the accounting system affect the quality of the data in the financial statement?

A
  1. Accrual accounting
  2. Accounting conventions and standards
  3. Managers’ reporting strategy
  4. auditing

BACKGROUND:

ACCRUAL ACCOUNTING: transactions are recorded on the basis of expected, not necessarily actual, cash
receipts and payments

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11
Q

What are some of the business activities that help build the financial statements?

A
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12
Q

What act was passed because of the dot-com bubble and high-profile accounting scandals such as Enron and WorldCom,

A

Sarbanes Oxley Act

BACKGROUND: The act man fundamental changes to corporate governance as related to financial reporting and altered the relationship between a firm and its auditor.

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13
Q

What act was passed in reponse to the financial crisis on Wall Street in 2010?

A

Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010

Mandated new changest in the governance of banks.

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14
Q

What 4 analyses are accomplished by business intemediaries using financial statements?

A

(1) business strategy analysis
(2) accounting analysis
(3) financial analysis
(4) prospective analysis

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15
Q

Analysis Step 1: Business Strategy Analysis

What is the purpose of business strategy analysis?

A

Identify key profit drivers and business risks, and to assess the company’s profit potential at a qualitative level.

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16
Q

Analysis Step 2: Accounting Analysis

What is the purpose of accounting analysis?

A

Evaluate the degree to which a firm’s accounting
captures its underlying business economics.

BACKGROUND:

  • Also identifys accounting flexibility
  • Evaluates the appropriateness of the firm’s accounting policies and estimates
  • analysts can assess the degree of distortion in a firm’s reported numbers.
  • Another important step in accounting analysis is to undo” any distortions by recasting a firm’s accounting numbers to create unbiased accounting data.
17
Q

Analysis Step 3: Financial Analysis

What is the goal of financial analysis?

What are 2 important skills are related to financial analysis?

What are the 2 important tools used for financial analysis?

A

Use financial data to evaluate the current and past
performance of a firm and to assess its sustainability.

2 important skills:

  1. systematic and efficient
  2. Explore business issues using two financial tools:
    • Ratio analysis and cash flow analysis are the two most commonly used financial tools.
      • Ratio analysis focuses on evaluating a firm’s product market performance and financial policies
      • cash flow analysis focuses on a firm’s liquidity and financial flexibility
18
Q

Analysis Step 4: Prospective Analysis

What does prospective analysis focus on?

What are 2 commonly used techniques in prospective analysis?

A

Focuses on forecasting a firm’s future.

2 commonly used techniques

  1. forecasting
  2. valuation
19
Q

The _________ value is an estimate of the actual value of a company, separate from how the market values it.

The _____ value is a function of its future cash flow performance.

A

intrinsic

intrinsic

20
Q

What 3 analysis in the business analysis framework provide an excellent foundation for estimating a firm’s intrinsic value?

A
  1. business strategy analysis
  2. accounting analysis
  3. financial analysis
21
Q

when can financial analysis can add value, even if capital markets are generally seen as being efficient?

A
  • credit analysis,
  • competitive benchmarking
  • analysis of mergers and acquisitions
22
Q

What are the 4 financial statements used to report on business activities?

POWERPOINT

A
  1. Balance sheet (point of time)
  2. Income statement (period of time)
  3. Statement of cash flows (period of time)
  4. Statement of stockholders’ equity (period of time)
23
Q

The ending balance from one period = The beginning balance for the next period.

Which financial statement represents this?

POWERPOINT

A

Balance statement

24
Q

Balance sheet accounts are called “_______ accounts’ in that they carry over from period to period.

POWERPOINT

A

permanent

25
Q

There are 2 kinds of assets:

  1. ___ asset, expected to be converted to cash within a year
  2. ___-____ asset, not intended to be turned into cash within a year

POWERPOINT

A

current

non-current

26
Q

What are the 2 types of LIABILITIES? (company’s financial obligations)

  • ___ liability; due within a year
  • ___-____ liability; due after a year

POWERPOINT

A

current

non-current

27
Q

Cash Flow statements report cash inflows and outflows by operating, investing, and financing activities

  1. ________ activities: Cash flows from the company’s transactions and events that relate to its operations
  2. _________ activities: Cash flows from acquisitions and divestitures of investments and long-term assets
  3. _________activities: Cash flows from issuances of and payments toward borrowings and equity

POWERPOINT

A

Operating

Investing

Financing

28
Q

The Statement of Shareholder’s ________ reports on changes in type of equity over a period of time.

POWERPOINT

A

Equity

29
Q

Where are the two places that we can find financial statements?

POWERPOINT

A

SEC webpage

Company’s investor’s page

30
Q

The purpose of _________ strategy analysis is to identify key profit drivers and business risks, and to assess the company’s profit potential at a qualitative level

A

business

31
Q

The purpose of _________ analysis is to evaluate the degree to which a firm’s accounting captures its underlying business economics

  • Evaluate the appropriateness of accounting policies and estimates
  • Degree of distortion
  • “Undo” any distortions
A

accounting

32
Q

The purpose of ___________analysis is to use financial data to evaluate the current and past performance of a firm and to assess its sustainability

POWERPOINT

A

financial

33
Q

Business ___________ use financial statements to accomplish four key objectives:

  1. Business strategy analysis
  2. Accounting analysis
  3. Financial analysis
  4. Prospective analysis

POWERPOINT

A

intermediaries

34
Q

______ basis accounting attempts to accurately reflect expectations of economic performance, but requires careful analysis.

POWERPOINT

A

accrual

Financial Reporting & Analysis (6 decks)

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