Chapter 2 - Financial Statements Flashcards
Balance sheet | The “when” of a benefit (2)
2 types, 2 examples, 2 exceptions
When a company will realize a benefit and where it goes
- Immediate benefit - recorded on the IS as an expense
- Future Benefit - the company capitallizes the cost, i.e. adds it as an asset to the BS
2 examples
- Inventory - when a company purchases or manufactures goods for resale, the cost is recorded on the BS as an asset called inventories
- When inventory is sold, it no longer has economic benefit, and its cost is transferred to the IS in cost of goods sold (COGS)
- Equipment - when a company acquires equipment, the cost is recorded on the BS in an asset called equipment (PPE)
- As the equipment is used in operations, a portion of the acquisition cost is transferred to the IS as an expense. This is called depreciation.
Assets | 2 characteristics
- It must be owned or controlled by the company
- It must confer expected future economic benefits that result from a past transaction or event
Assets | Current
e.g.’s
- Cash - currency, bank deposits, and investments with an original maturity of ≤ 90 days
- Short-term investments - marketable securities, et al.
- Accounts receivable, net - amts due from customers arising from sales and services on credit. “Net” refers to the subtraction of estimated uncollectable amounts
- Inventories - goods purchased or produced for sale to customers
- Prepaid expenses - costs paid in advance for rent, insurance, advertising, and other services
Assets | Long-term
e.g.’s
- Property, plant, and equipment (PPE), net - land, factory buildings, warehouses, office buildings, machinery, motor vehicles, office equipment, and other items used in operating activities
- Long-term investments - does not intend to sell in the next fiscal year
- Intangible and other assets - patents, trademarks, franchise rights, goodwill, et al. that will provide future benefits
Assets | Measuring
Most are reported at their original, or historical, costs
BSs only include items that can be reliably measured
Excluded intangible assets often relate to knowledge-based (intellectual) assets (e.g. strong management team, well-designed supply chain, or superior technology.
Liabilities and Equity
Represent the sources of capital a company uses to finance the acquisition of assets
Liabilities represent a company’s future economic sacrifices
Stockholders’ equity represents capital that has been invested by the stockholders, either
- Directly via the purchase of stock; or
- Indirectly in the form of retained earnings
Note:
- Debt is a less expensive source of capital than equity becuase it is tax-deductible.
- However, stockholders cannot requier a company to repurchase its stock or pay dividends, so they can’t put the company out of business like a creditor can
L & E | Current Liabilities
e.g.’s
- Accounts payable - owed to suppliers for goods and services purchased on credit
- Accrued liabilities - obligations for expenses that have been incurred but not yet paid
- Unearned revenues - cash the seller receives in advance from customers for goods or services it will deliver in the future
- Short-term debt - loans from banks or other creditors
- Current maturities of long-term debt - principal portion of long-term debt that is due to be paid within one year
Net Working Capital
Net Working Capital = Current assets - Current liabilities
Operating (or Cash) Cycle
The time between paying cash for goods and receiving cash from customers
Purchase > Sales > Returned to Cash > Settle Payables > New purchase
Note: “Purchase” can be cash or payables
Shorten the Operating Cycle (How to…)
- Decrease accounts receivable w/ tights credit-granting policies and more assertive collection procedures
- Reduce inventory levels by improved production systems and management of the depth and breadth of inventory
- Increase accounts payable (supplier credit) to minimize the cash invested in inventories
Cash Conversion Cycle
The number of days the company has its cash tied up in receivables and inventories less the number of days of trade credit provided by compoany suppliers
Used to evaluate a company’s liquidity
L & E | Noncurrent Liabilities
Obligations due after one year, e.g.
- Long-term debt - borrowed amounts that are scheduled to be repaid more than one year in the future (current maturities are any portioni of long-term debt that is due within one year)
- Other long-term liabilities - e.g. pension and long-term tax that will be settled > one year in the future
L & E | Stockholders’ Equity
Reflects financing provided from company owners.
Typical examples:
- Common stock - par value received from the original sale of common stock to investors
- Additional paid-in captial - amounts received from the orignial sale of stock to investors in excess of the par value of stock
- Preferred stock - value received from the original sale of preferred stock to investors; has fewer ownership rights than common stock
- Treasure stock - amount the company paid to reacquire its common stock from shareholders
- Retained earnings _ accumulated net income (profit) that has not been distributed to stockholders as dividends or as stock repurchases
- Accumulated other comprehensive income or loss - accumulated chagnes in asset and liability fair values that are not reported in the IS
Equity section of a BS | 2 Basic Components
- Contributed Capital - the net funding a company received from issuing and reacquiring its shares (funds received from issuing shares less any funds paid to repurchase such
- Earned Captial - primarily includes Retained earnings, which is the cumulative net income (loss) that the company has earned but not paid out to stockholders as dividends
L & E | Retained Earnings
(It’s “important relation for retained earnings that reconciles its beginning balance and its ending balance)
Beginning retained earnings
+ Net income (or - net loss)
- Dividends
- Stock repurchased and retired
= Ending retained earnings
Income Statement
Reports revenues earned from products sold and services provided during a period, the expenses incurred to produce those revenues, and the resulting net income or loss. General structure is as follows: (see image)
- Operating expenses: COGS, selling expenses, depreciation expense, and research and development expense
- Nonoperating income and expenses: relates to the company’s financing and investing activites. e.g. interest expense, interest or dividend income, and gains and losses from the sale of securities.
Financial Statement Linkages
see image
