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  1. 1. 2 <ul><li>Understating Financial Statements </li></ul>
  2. 2. Key Concepts and Skills <ul><li>Know the difference type of financial statement </li></ul><ul><li>Know the meaning of each financial statement </li></ul><ul><li>Understand the definition of each account </li></ul><ul><li>Understand how to prepare financial statement </li></ul><ul><li>Know how to determine a firm’s cash flow from its financial statements </li></ul>
  3. 3. Type of Financial Statement <ul><li>Income Statement </li></ul><ul><li>Statement of Equities </li></ul><ul><li>Balance Sheet </li></ul><ul><li>Statement of Cash Flow </li></ul>
  4. 4. Users of Financial Statement <ul><li>Managers </li></ul><ul><li>Shareholders </li></ul><ul><li>Creditors </li></ul><ul><li>Suppliers </li></ul><ul><li>Potential Investors </li></ul><ul><li>Tax Authority </li></ul>
  5. 5. Balance Sheet <ul><li>The balance sheet is a snapshot of the firm’s assets (owns) and liabilities (owes) at a given point in time. In Cambodia, an annual balance sheet is normally prepared as at 31 December of each year. </li></ul><ul><li>Balance Sheet Identity </li></ul><ul><ul><li>Assets = Liabilities + Stockholders’ Equity </li></ul></ul>
  6. 6. The Balance Sheet
  7. 7. Balance Sheet <ul><li>Current Assets </li></ul><ul><li>Cash </li></ul><ul><li>Marketable Securities </li></ul><ul><li>Accounts Receivable </li></ul><ul><li>Inventories </li></ul><ul><li>Prepaid Expenses </li></ul><ul><li>Fixed Assets </li></ul><ul><li>Machinery & Equipment </li></ul><ul><li>Buildings and Land </li></ul><ul><li>Investment </li></ul><ul><li>Intangible Assets </li></ul><ul><li>Goodwill, Patent, Brand Name, Brand Mark </li></ul>Assets Liabilities (Debt) & Equity Current Liabilities Accounts Payable Short-term Notes Payable Accrued Liabilities Unearned Revenues Current Maturity Portion of Long-term Debt Deferred Taxes Long-Term Liabilities Long-term notes Mortgages Equity Preferred Stock Common Stock (Par value) Paid in Capital Retained Earnings
  8. 8. Assets <ul><li>An asset is an item of value owned by the business. </li></ul>
  9. 9. Assets <ul><li>Current Assets : assets that are relatively liquid, and are expected to be converted to cash within a year. </li></ul><ul><ul><li>Cash, marketable securities, accounts receivable, inventories, prepaid expenses. </li></ul></ul><ul><li>Property Plant, and Equipment : machinery and equipment, buildings, and land. </li></ul><ul><li>Investment </li></ul><ul><li>Intangible Assets such as patents and copyrights. </li></ul>
  10. 10. Cash <ul><li>The most liquid of assets </li></ul><ul><li>Generally includes currency, coin, balances in checking and other demand or “near demand” accounts </li></ul>
  11. 11. Marketable Securities <ul><li>Refers to short-term investments that the firm INTENDS to hold for less than one year (thus a “current” asset) </li></ul><ul><li>Generally reported on balance sheet at market value </li></ul><ul><li>May include t-bills, CDs, stocks, bonds </li></ul><ul><li>Sometimes combined with cash and reported as Cash Equivalents </li></ul>
  12. 12. Accounts Receivable <ul><li>Arise from credit-sale transactions </li></ul><ul><li>Reported on the balance sheet at NET REALIZABLE VALUE </li></ul><ul><ul><li>Accounts Receivable 20000 </li></ul></ul><ul><ul><li>Less Allowance for Doubtful Accounts (500) </li></ul></ul><ul><ul><li>Net Accounts Receivable 19500 </li></ul></ul><ul><ul><li>Or Account Receivable, net 19500 </li></ul></ul>
  13. 13. Inventory <ul><li>Consist of items held for sale or used in manufacture of goods for sale </li></ul><ul><li>Merchandising Company </li></ul><ul><ul><li>one type of inventory (finished goods) </li></ul></ul><ul><li>Manufacturing Company </li></ul><ul><ul><li>three types of inventories (raw materials, work-in-process, finished goods) </li></ul></ul>
  14. 14. Prepaid Expenses <ul><li>Represent expenses paid in advance -- included in current assets if they expire within one year or operating cycle </li></ul><ul><li>Usually not a material item </li></ul><ul><li>Present few or no reporting or valuation issues </li></ul><ul><li>ON TO NONCURRENT ASSETS……. </li></ul>
  15. 15. Property, Plant & Equipment (PP&E) <ul><li>Often called “fixed assets” </li></ul><ul><li>Represent major resource commitments which benefit a firm for more than one year </li></ul><ul><li>Recorded at HISTORICAL cost; cost allocated over asset’s useful life through DEPRECIATION (exception: land is not depreciated) </li></ul><ul><li>PP&E is reported on balance sheet at historical cost less accumulated depreciation to date </li></ul>
  16. 16. Investment <ul><li>Investments of a business represent assets of a permanent nature that will yield benefits a year or more after the date of the financial statement. These may include: investments in related companies such as affiliates (partly owned) and subsidiaries (owned and controlled); stocks and bonds maturing later than one year; securities placed in special funds; and fixed assets not used in production. The value of these items should be shown at cost. </li></ul>
  17. 17. Intangible Assets <ul><li>Resources with expected future economic benefits but lacking a physical substance </li></ul><ul><li>Some examples are patents, copyrights, goodwill </li></ul><ul><li>Goodwill can be material if firm is heavily involved in acquisition activity </li></ul>
  18. 18. LIABILITIES & EQUITIES <ul><li>REPRESENT CLAIMS TO ASSETS </li></ul><ul><li>LIABILITIES: Creditor Claims </li></ul><ul><li>EQUITIES: Owner Claims </li></ul><ul><li>Constitute the “right” side of equation </li></ul>
  19. 19. LIABILITIES <ul><li>May be CURRENT or LONG-TERM -- same criteria of “one-year or operating cycle, whichever is longer” applies here as well </li></ul><ul><li>Represent claims by creditors of the firm </li></ul>
  20. 20. A Look at Current Liabilities <ul><li>Accounts Payable </li></ul><ul><li>Short-term Notes Payable </li></ul><ul><li>Accrued Liabilities </li></ul><ul><li>Unearned Revenues (Deferred Credits) </li></ul><ul><li>Current Maturity Portion of Long-term Debt </li></ul><ul><li>Deferred Taxes (some, not all or even most…) </li></ul>
  21. 21. …and Long-Term Liabilities? <ul><li>Notes or Mortgages Payables </li></ul><ul><li>Bonds Payable </li></ul><ul><li>Pension and Lease Obligations </li></ul>
  22. 22. Accounts Payable <ul><li>Usually defined as obligations arising from purchases of merchandise for resale or of raw materials </li></ul><ul><li>Few valuation or reporting issues </li></ul><ul><li>Significant changes from period to period often result from changes in sales volume </li></ul>
  23. 23. Short-Term Notes Payable <ul><li>Promissory notes due within a year (or operating cycle if more appropriate) </li></ul><ul><li>Usually are interest-bearing </li></ul><ul><li>Usually reported at face value because of short-term nature </li></ul>
  24. 24. Accrued Liabilities <ul><li>Result from accrual basis of accounting </li></ul><ul><li>Represent expenses that have been INCURRED and thus ACCRUED, but have NOT BEEN PAID in cash </li></ul><ul><li>Examples are Interest Payable and Wages Payable </li></ul><ul><li>In this case, cash flow follows expense recognition </li></ul>
  25. 25. Unearned Revenue <ul><li>Sometimes called “deferred credits” </li></ul><ul><li>Results from a prepayment received in advance for services or products </li></ul><ul><li>Under accrual accounting, revenue is recognized when EARNED, not when received in cash -- in this case, cash flow precedes revenue recognition </li></ul>
  26. 26. Current Maturities - LT Debt <ul><li>Represent principal payments on debt that are due within one year </li></ul><ul><li>Confirms the old adage that nothing is long-term forever -- eventually it has to be paid as a current item! </li></ul><ul><li>Now, how about those items that are STILL LONG-TERM LIABILITIES </li></ul>
  27. 27. Notes or Mortgages Payable <ul><li>Represent any mortgages or notes payable that do not have any principal repayment requirements during the coming year </li></ul>
  28. 28. Bonds Payable <ul><li>Once again, represent items that do not have any principal payment requirements within the next year </li></ul>
  29. 29. Pension & Lease Obligations <ul><li>Generally reported at the present value of expected future cash outflows </li></ul><ul><li>Can represent MAJOR liabilities for many firms and have a significant impact on the balance sheet </li></ul>
  30. 30. Stockholders’ Equity <ul><li>Represent claims to assets by OWNERS, i.e. stockholders </li></ul><ul><li>Is often referred to as a RESIDUAL; this flows from a restatement of the basic equation: </li></ul><ul><li>ASSETS - LIABILITIES = EQUITIES </li></ul>
  31. 31. More on Stockholders’ Equity <ul><li>Usually consists of STOCK ACCOUNTS AND ADDITIONAL PAID-IN CAPITAL and RETAINED EARNINGS -- may have other equity accounts </li></ul><ul><li>May have more than one “class” of stock: common stock and one or more issues of preferred stock </li></ul><ul><li>Shares of common stock represent ownership of the firm </li></ul><ul><li>Stock usually has a PAR VALUE </li></ul>
  32. 32. STOCK AND ADDITIONAL PAID-IN CAPITAL <ul><li>Common and Preferred Stock accounts often carry balances representing “par value” of outstanding shares </li></ul><ul><li>Preferred Stockholders : received fixed dividends, and have higher priority than common stockholders in event of liquidation of the firm. </li></ul><ul><li>Common Stockholders : residual owners of a business. They receive whatever is left after creditors and preferred stockholders are paid. </li></ul><ul><li>Additional paid-in Capital accounts reflect balances over and above par value (from original sales of stock) </li></ul>
  33. 33. Retained Earnings <ul><li>In simplest terms, represents the cumulative undistributed earnings of the business since its inception </li></ul><ul><li>Represent funds the company has chosen to “retain” and reinvest in the business </li></ul><ul><li>RETAINED EARNINGS DOES NOT REPRESENT A PILE OF CASH!!!!!!! </li></ul>
  34. 34. Income Statement <ul><li>The income statement is more like a video of the firm’s operations for a specified period of time – “between balance sheets” (IS Equation: Rev-Expenses=Income). </li></ul><ul><li>In Cambodia, the normal accounting period is the year ended 31 December. </li></ul><ul><li>You generally report revenues first and then deduct any expenses for the period </li></ul><ul><li>Matching principle – GAAP say to show revenue when it accrues (not necessarily when the cash comes in) and match the expenses required to generate the revenue </li></ul>
  35. 35. <ul><li>SALES </li></ul><ul><li>Less: Cost of Goods Sold </li></ul><ul><li>GROSS PROFIT </li></ul><ul><li>Less: Operating Expenses </li></ul><ul><li> OPERATING PROFIT (EBIT) </li></ul><ul><li>Less: Interest Expense </li></ul><ul><li>EARNINGS BEFORE TAXES (EBT) </li></ul><ul><li>Less: Income Taxes </li></ul><ul><li>EARNINGS AFTER TAXES (EAT) </li></ul><ul><li>Less: Preferred Stock Dividends </li></ul><ul><li>NET INCOME AVAILABLE </li></ul><ul><li>TO COMMON STOCKHOLDERS </li></ul>Income Statement
  36. 36. Major Categories <ul><li>NET SALES : A firm’s sales are usually reported as Sales less Sales Returns less Sales Allowances </li></ul><ul><ul><li>the major source of revenue for most companies </li></ul></ul><ul><ul><li>trends are important </li></ul></ul>
  37. 37. Major Categories (continued) <ul><li>Cost of Goods Sold (CGS) </li></ul><ul><ul><li>cost to seller of products sold to customers </li></ul></ul><ul><ul><li>relationship between CGS and sales is an important one </li></ul></ul><ul><li>Gross Profit (first step of profit determination) </li></ul><ul><ul><li>difference between net sales and CGS </li></ul></ul>
  38. 38. Major Categories (continued) <ul><li>Operating Expenses </li></ul><ul><ul><li>Selling Expenses: Advertising Exp, Salary for Sale Staff, Commission………… </li></ul></ul><ul><ul><li>Administrative Expenses: Depreciation, Amortization, Repairs and Maintenance,………. </li></ul></ul>
  39. 39. Major Categories (continued) <ul><li>Operating Profit (second step of profit determination) -- also called EBIT </li></ul><ul><ul><li>measures overall performance of company’s operations: sales revenue less expenses. </li></ul></ul><ul><li>Interest Expense: </li></ul>
  40. 40. Major Categories (continued) <ul><li>Earnings before income taxes </li></ul><ul><ul><li>profit recognized before deduction of income tax expense </li></ul></ul><ul><li>Income Tax Expense: </li></ul><ul><li>Earning After Taxes or Net Income </li></ul><ul><ul><li>“bottom line” -- firm’s profit after consideration of ALL revenues & expenses </li></ul></ul>
  41. 41. Major Categories (continued) <ul><li>Preferred Stock Dividend: </li></ul><ul><li>Net Income Available to Common Stockholders: </li></ul><ul><li>Earnings per Common Share </li></ul><ul><ul><li>Determined by dividing earnings available to common shareholders (earnings less any preferred dividend requirements) by average number of common shares outstanding during the period </li></ul></ul>
  42. 42. <ul><li>End of Chapter </li></ul>