Financial Statement Analysis Flashcards
Converged standards (IFRS and US GAAP) revenue recognition process (5 steps)
1) Identify the contract with the customer
2) Identify separate/ distinct performance obligations in contract
3) Determine transaction price
4) Allocate transaction price to performance obligations
5) Recognise revenue when the entity satisfies the performance obligations
What appears on balance sheet if a sale is made on credit?
Accounts receivable ASSET on BS and revenue recognised.
What appears on balance sheet if payment is made pre exchange of g/s?
Unearned revenue liability on BS and revenue not recognised till goods transferred.
How do converged standards define a contract?
Contract: An agreement between two or more parties that specifies their obligations and rights.
Performance obligation
Performance obligation: A promise to deliver a good/ service.
A distinct good/ service must meet the following criteria (2):
1) The customer can benefit from it on its own or in combination with other readily available resources
2) the promise to transfer it can be identified separately from any other promises
A performance obligation is met over long period of time if ANY of the following conditions are met (3):
1) customer receives and benefits from g/s over time as supplier meets PO of contract (e.g service and maintenance)
2) Supplier enhances/ creates asset that the client controls over that period
3) The asset has no alternative use for the supplier and they have the right tu enforce payment for the work completed to date
Required disclosures under converged standards (4):
1) Contracts with customers by category
2) A&L related to contracts including balances and changes
3) Outstanding POs and the transaction prices allocated to them
4) Management judgements asked ti determine amount and judgment of revenue recognition, including changes to judgement
3 methods of expense recognition in accrual accounting
1) Matching principle
2) Capitalisation
3) Expensing as incurred
Matching principle
Expenses to generate revenue are recognised in the same period as the revenue
Capitalisation
Application of matching principle: Costs as capitalised as assets on BS and then expenses used D/A over useful life
Expensing as incurred
Period costs (not directly tied to revenue e.g. administrative) are expensed as incurred
How is cost of a capitalised asset allocated to the income statement (3)?
1) Depreciation (tangible asset)
2) Amortisation (intangible asset with finite life)
3) Depletion (natural resource)
How is cost of a capitalised asset allocated to the income statement (3)?
1) Depreciation (tangible asset)
2) Amortisation (intangible asset with finite life)
3) Depletion (natural resource)
What are tax-deductible expenses?
Tax-deductible expenses are expenses you can legally deduct from your total profits. This reduces your gross profits and hence the amount of tax you pay.
Total asset turnover =
Sales/ average total assets
Net Profit Margin =
Net income/ sales
Return on Equity =
Net income/ average stockholders equity
Effect of capitalisation/ expensing on total asset turnover, net profit margin and return on equity.
TAT: Lower if costs are capitalised due to higher balance sheet assets. Different between for cap and expenses converges over time as asset depreciates and retained earnings converge
NPM: Higher in year 1 if cap as higher net income, but in subsequent years expensing takes over
ROE: Higher in Y1 if cap but lower in subsequent years due to impact on net income
What happens to interest on asset created by firm?
It can be capitalised, not reported as an interest expense on income statement. Reported in CF statement as an outflow from investing activities.
Interest Coverage
EBIT/ Interest Expense
Equilibrium interest rates
Required rate of return for an investment
Difference between financial and operating lease
In an operating lease either the benefits or risks aren’t substantially transferred to the leasee
