1/25/2015

WileyPLUS

3 FinancialStatements,CashFlows,andTaxes
LearningObjectives
1Discussgenerallyacceptedaccountingprinciples(GAAP)andtheirimportancetothe
economy.
2Explainthebalancesheetidentityandwhyabalancesheetmustbalance.
3Describehowmarketvaluebalancesheetsdifferfrombookvaluebalancesheets.
4Identifythebasicequationfortheincomestatementandtheinformationitprovides.
5Understandthecalculationofcashflowsfromoperating,investing,andfinancing
activitiesrequiredinthestatementofcashflows.
6Explainhowthefourmajorfinancialstatementsdiscussedinthischapterarerelated.
7Identifythecashflowtoafirm'sinvestorsusingitsfinancialstatements.
8Discussthedifferencebetweenaverageandmarginaltaxrates.

LuayBahoora/Alamy
OnJuly20,2010,afterthecloseofU.S.financialmarkets,AppleInc.announcedthatitscorporate
earningsforthequarterendedJune26,2010were$3.253billion,or$3.51percommonshare
outstanding.Thiswasconsiderablygreaterthanthe$3.08persharethatfinancialanalysts
coveringApplewereexpecting.Asaresult,Apple'sstockpricejumpedatthenews,tradingfrom
alowof$240.65pershareonJuly20toahighof$265.22thenextmorning.Appleattributedits
strongearningsduringtheperiodtohigherthanexpectedsalesofitsproducts,includingthenewly
releasediPhone4andiPaddevices.
Thisexampleillustratestherelationbetweentheinformationcontainedinafirm'saccounting
statementsanditsstockperformance.PubliccorporationsintheU.S.communicatetheirfinancial
performancetotheirinvestorsthroughtheirfinancialstatements,leadingtoWallStreet'svirtual
obsessionwithaccountingearnings.Analystsestimatehowmuchfirmsshouldearninaparticular
reportingperiod,andfirmsthatfailtomeettheseestimatescanbepunishedbyfallingstock
prices.Ifafirmconsistentlyfailstomeettheseestimates,itsCEOcanbeoutofajob.Pressureto
meetanalystexpectationshasoccasionallyledmanagerstomisstateaccountingresultsinefforts
tomisleadanalystsandinvestors.Inthewakeofseveralespeciallylargescaleaccountingfrauds,
involvingfirmssuchasEnronandWorldCom,Congressandfederalregulatorstightened
accountingstandardsandoversightoftheaccountingprofessionintheearly2000s.Passageofthe
SarbanesOxleyAct,discussedinChapter1,isanexampleofthesesteps.
data:text/htmlcharset=utf8,%3Cdiv%20class%3D%22opener%22%20style%3D%22color%3A%20rgb(0%2C%200%2C%200)%3B%20fontfamily%3A%

1/2

1/25/2015

WileyPLUS

Clearly,thecorrectpreparationoffinancialstatementsiscrucialforinvestors.Inthischapterand
thenext,wefocusonthepreparation,interpretation,andlimitationsoffinancialstatements.The
conceptsthatwediscussinthesechaptersprovideanimportantfoundationforthematerial
discussedintherestofthisbook.
CHAPTERPREVIEW
InChapter1wenotedthatallbusinesseshaveownersandstakeholdersmanagers,creditors,
suppliers,andthegovernment,amongotherswhohaveclaimsonthefirms'cashflows.The
ownersandstakeholdersinafirmneedtomonitorthefirm'sprogressandevaluateits
performance.Financialstatementsenablethemtodothis.Theaccountingsystemisthe
frameworkthatgathersinformationaboutthefirm'sbusinessactivitiesandtranslatesthe
informationintoobjectivenumericalfinancialreports.
Mostfirmspreparefinancialstatementsonaregularbasisandhaveindependentauditorscertify
thatthefinancialstatementshavebeenpreparedinaccordancewithgenerallyaccepted
accountingprinciplesandcontainnomaterialmisstatements.Theauditincreasestheconfidence
oftheownersandstakeholdersthatthefinancialstatementspreparedbymanagementpresenta
fairandaccuratepictureofthefirm'sfinancialconditionataparticularpointintime.Infact,
itisdifficulttogetanytypeoflegitimatebusinessloanwithoutauditedfinancialstatements.
Thischapterreviewsthebasicstructureofafirm'sfinancialstatementsandexplainshowthe
variousstatementsfittogether.Italsoexplainstherelationbetweenaccountingearningsand
cashflowtoinvestors.Weexaminethepreparationofthebalancesheet,theincomestatement,
thestatementofretainedearnings,andthestatementofcashflows.Asyoureadthroughthis
partofthechapter,payparticularattentiontothedifferencesbetween(1)bookvalueandmarket
valueand(2)accountingincomeandcashflowtoinvestors.Understandingthedifferences
betweentheseconceptsisnecessarytoavoidseriousanalyticalanddecisionmakingerrors.The
lastpartofthechapterdiscussesessentialfeaturesofthefederaltaxcodeforcorporations.In
financewemakemostdecisionsonanaftertaxbasis,sounderstandingthetaxcodeisvery
important.

Copyright2012JohnWiley&Sons,Inc.Allrightsreserved.

data:text/htmlcharset=utf8,%3Cdiv%20class%3D%22opener%22%20style%3D%22color%3A%20rgb(0%2C%200%2C%200)%3B%20fontfamily%3A%

2/2