Understanding Financial Statements www.som.gmu.edu March 17, 2001
Dr. Sarah E. Nutter Assistant Professor of Accounting  School of Management George Mason University Understanding Financia...
Myths & Truths:  Accounting is... <ul><li>Applied Economics </li></ul><ul><li>Applied Psychology </li></ul><ul><li>Focused...
Understanding Financial Statements <ul><li>By the end of this session you should be familiar with… </li></ul><ul><ul><li>T...
Firm Context Firm Engages in Activities GAAP Income Statement Balance Sheet Statement of Cash Flows Info. System Economic ...
Economic Activities <ul><li>Operating </li></ul><ul><ul><li>acquiring and selling goods and services during normal course ...
Corporate Strategy Deciding the Scope and Purpose of Business Organization’s Objectives Actions and Resources for  Achievi...
From Strategy to Accountability Planning and  Decision Making Actual Results Performance Evaluation Continuous Improvement
From Strategy to Action & Evaluation PLANNING &  DECISION MAKING Identify Problems ACTUAL  RESULTS Gather and analyze info...
External Reporting Framework Assets = Liabilities + Equity Resources =  Sources  Revenue Expense Balance Sheet Income Stat...
Working Definitions <ul><li>Assets: </li></ul><ul><ul><li>Resources with future benefits </li></ul></ul><ul><li>Liabilitie...
Working Definitions <ul><li>Revenue: </li></ul><ul><ul><li>Increase in owners’ equity due to selling goods or providing se...
Starbucks Income Statement For the year ended October 31, 1999 <ul><li>Sales Revenue   $  1,680 </li></ul><ul><li>Expenses...
Starbucks Balance Sheet October 31, 1999 <ul><li>Total Assets   $  1,253   </li></ul><ul><li>Liabilities:   $  292  </li><...
Starbucks Cash Flow Statement For the year ended October 31, 1999 <ul><li>Operating Activities: </li></ul><ul><li>Cash fro...
Financial Statement Linkages Cash Flow:   Operating, Investing, Financing Income:  Revenue - Expenses Balance Sheet How di...
“Aggressive Accounting” 200 100 100 150 50 100 <ul><li>Revenue </li></ul><ul><li>Expenses </li></ul><ul><li>= Net income <...
Revenue Padding
Managing Expenses COSTS Balance Sheet Income Statement Expense Asset
It’s All a Matter of Timing. . . Incurred Earned Accrual Paid Received Cash Expense Revenue
Earnings Process Project Start Project Complete Sale Cash Collection time $ Revenue Expenses
What’s missing from Financial Statements? <ul><li>Generally, market value of assets </li></ul><ul><li>Human capital </li><...
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  • Question: How did we do? Tax return (e.g. Form 1040 ) is an income statement
  • Question: Where do we stand?
  • Question: What happened to the cash?
  • session1financialsta..

    1. 1. Understanding Financial Statements www.som.gmu.edu March 17, 2001
    2. 2. Dr. Sarah E. Nutter Assistant Professor of Accounting School of Management George Mason University Understanding Financial Statements
    3. 3. Myths & Truths: Accounting is... <ul><li>Applied Economics </li></ul><ul><li>Applied Psychology </li></ul><ul><li>Focused on the Future informed by the Past </li></ul><ul><li>In other words. . . All about framing information to improve decision-making </li></ul><ul><li>Debits and Credits </li></ul><ul><li>Bookkeeping </li></ul><ul><li>Focused on the Past </li></ul><ul><li>In other words. . . DULL and BOOORRRRING </li></ul>
    4. 4. Understanding Financial Statements <ul><li>By the end of this session you should be familiar with… </li></ul><ul><ul><li>The characteristics of assets, liabilities, owners’ equity, revenues, and expenses </li></ul></ul><ul><ul><li>The dual effect of economic events and their impact on the financial statements </li></ul></ul><ul><ul><li>The implications of the accrual method on the financial statements </li></ul></ul>
    5. 5. Firm Context Firm Engages in Activities GAAP Income Statement Balance Sheet Statement of Cash Flows Info. System Economic Events Managers (e.g. Budgets, Marketing) Tax Authorities (e.g. IRS, States) Investors and Creditors
    6. 6. Economic Activities <ul><li>Operating </li></ul><ul><ul><li>acquiring and selling goods and services during normal course of business </li></ul></ul><ul><li>Investing </li></ul><ul><ul><li>acquiring and disposing of resources used in the business </li></ul></ul><ul><li>Financing </li></ul><ul><ul><li>obtaining and remitting resources used to finance the business from creditors and owners </li></ul></ul>
    7. 7. Corporate Strategy Deciding the Scope and Purpose of Business Organization’s Objectives Actions and Resources for Achieving Objectives
    8. 8. From Strategy to Accountability Planning and Decision Making Actual Results Performance Evaluation Continuous Improvement
    9. 9. From Strategy to Action & Evaluation PLANNING & DECISION MAKING Identify Problems ACTUAL RESULTS Gather and analyze information DECIDE ! Measure Internal External PERFORMANCE EVALUATION PERFORM! Specify Expected Outcome
    10. 10. External Reporting Framework Assets = Liabilities + Equity Resources = Sources Revenue Expense Balance Sheet Income Statement
    11. 11. Working Definitions <ul><li>Assets: </li></ul><ul><ul><li>Resources with future benefits </li></ul></ul><ul><li>Liabilities: </li></ul><ul><ul><li>Future sacrifice of a resource </li></ul></ul><ul><li>Owners’ Equity </li></ul><ul><ul><li>Residual claims of owner on the entity’s assets </li></ul></ul>
    12. 12. Working Definitions <ul><li>Revenue: </li></ul><ul><ul><li>Increase in owners’ equity due to selling goods or providing services </li></ul></ul><ul><li>Expenses: </li></ul><ul><ul><li>Decrease in owners’ equity due to “using up” of assets </li></ul></ul>
    13. 13. Starbucks Income Statement For the year ended October 31, 1999 <ul><li>Sales Revenue $ 1,680 </li></ul><ul><li>Expenses: </li></ul><ul><li>Cost of Goods Sold $ 939 </li></ul><ul><li>Other Expenses 577 1,516 </li></ul><ul><li>Income before tax 164 </li></ul><ul><li>Tax 62 </li></ul><ul><li>Net income $ 102 </li></ul>
    14. 14. Starbucks Balance Sheet October 31, 1999 <ul><li>Total Assets $ 1,253 </li></ul><ul><li>Liabilities: $ 292 </li></ul><ul><li>Owners’ Equity: </li></ul><ul><li>Common Stock $ 651 </li></ul><ul><li>Retained Earnings 310 $ 961 </li></ul><ul><li>Total Liabilities & Equity $ 1,253 </li></ul>
    15. 15. Starbucks Cash Flow Statement For the year ended October 31, 1999 <ul><li>Operating Activities: </li></ul><ul><li>Cash from Operating Activities $ 211 </li></ul><ul><li>Investing Activities: </li></ul><ul><li>Cash used for Investing Activities (336) </li></ul><ul><li>Financing Activities: </li></ul><ul><li>Cash from Financing Activities 91 </li></ul><ul><li>Decrease in Cash $ (34) </li></ul>
    16. 16. Financial Statement Linkages Cash Flow: Operating, Investing, Financing Income: Revenue - Expenses Balance Sheet How did we do? What happened to the cash? Where do we stand? Balance Sheet
    17. 17. “Aggressive Accounting” 200 100 100 150 50 100 <ul><li>Revenue </li></ul><ul><li>Expenses </li></ul><ul><li>= Net income </li></ul>150 100 50
    18. 18. Revenue Padding
    19. 19. Managing Expenses COSTS Balance Sheet Income Statement Expense Asset
    20. 20. It’s All a Matter of Timing. . . Incurred Earned Accrual Paid Received Cash Expense Revenue
    21. 21. Earnings Process Project Start Project Complete Sale Cash Collection time $ Revenue Expenses
    22. 22. What’s missing from Financial Statements? <ul><li>Generally, market value of assets </li></ul><ul><li>Human capital </li></ul><ul><li>Goodwill </li></ul><ul><li>Self-developed assets </li></ul><ul><li>Complete comparability </li></ul>

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