Accounting for finance

Lecture 1
Financial Statement

- Who finances a company? USE OF ACCOUNTING

- What do they expect for? - Measures the revenue, the expenses, the profit of
- Goal of a firm business
- How to convey the performance - Measures the asset, liability and equity of a firm
- Shows the cash flow of a firm
Bookkeeping - The language of business
Involves only the recording of economic events. - The information system that measures business
Just one part of the accounting process.
activities, processes that information into reports
Accounting
Involves identifying, recording, and and communicates the results to decision makers.
communicating economic events FINANCIAL STATEMENTS
Documents that report financial information about a
TYPES OF ACCOUNTING business entity to decision makers.
- Financial Income Statement
- Managerial • Summarize how well did the company
perform during the period.
Financial Accounting • Report company’s revenues, expenses and
Provides information to managers and to people
outside the firm such as investors. net income/loss.
Management Accounting e.g. For the year ended December 31, 2016.
Must meet certain standards of relevance and reliability. Statement of Change in Equity
• Provide the details of the change in equity
during a period.
e.g. Dividend, Issuance of shares, Net profit
earned
Balance Sheet / Stmt. of Financial Position
• Show what is the company’s financial
position at the end of the accounting period.
• Dated the end of a fiscal year, a snapshot of
the company’s financial position at a time.
• Divided into Assets, Liabilities and Owner’s
Equity
Cash Flow Statement
• Explains changes in company’s cash
balance during accounting period
• Communicates sources and uses of cash for:
Operating activities
Investing activities
Financing activities

THE ACCOUNTING EQUATION

 ASSETS = LIABILITIES + STOCKHOLDER’S EQUITY

Total assets Creditor claims on assets Stockholder’s claims on assets

- Assets are resources that possess future TRANSACTIONS AFFECTING STOCKHOLDERS’

economic benefits. EQUITY
- Liabilities are creditor claims on the assets Investments by owners (+)
and represent the debts and obligations of Revenues (+)
the entity. • Increases in retained earnings resulting
- Stockholders’ equity is the stockholder’s from sales of products or services to
residual claim on total assets. customers or clients.
e.g. Receipt of cash
An asset is- • Informal promise by customer at time of
• Something a company owns that has future sale to pay for products.
economic value resulting from a past e.g. Accounts receivable
transaction or event. Expenses (-)
e.g. cash, office supplies, merchandise/inventory, • Decrease in retained earnings resulting
land, furniture, promise to receive (account from cost of selling products or providing
receivable), prepaid expenses services paid for merchandise sold to
customers.
A liability is- • Informal promise by company to pay for
• Economic obligations or debts payable to various expenses necessary to run the
outsiders, called creditors. Obligating the business.
company to give up assets or other e.g. Salaries, Rent (Accounts payable)
economic benefits in the future, resulting Distributions to owners (-)
from a past transaction or event. • Disbursement of cash or other business
e.g. accounts payable, notes payable, mortgage assets to the owners.
payable, taxes payable, unearned revenue • Cash dividends paid to stockholders out of
net income.
Stockholders’ equity is- • Not expenses. It is made after expenses
• What’s left of the company’s assets after it and revenues are recorded.
pays liabilities, also referred to as net
assets.
Comprised of
Amount invested in organization by owners (paid-in
capital)
e.g. common stock
+
Amount earned by organization and retained in the
business
e.g. retained earnings or accumulated profit
E.g. RAY’s Seafood Shack

Income Statement for the month ended July 31 Stmt of Change in Equity for the month ended

Revenue July 31, 20XX

Food sales $1,800
Total Equity, July 1, 20XX $0
Expenses
Issuance of share capital $95,000
Cost of sales ($200)
Wages expense ($600) Net Income / Profit $600
Office maintenance expense ($100) Cash dividends ($500)
Utilities and telephone expense ($300) End Equity, July 31, 20XX $95,100
Net Income / Profit $600

Assets Liabilities
Cash $34,500 Accounts payable $200
Accounts receivable $200 Stockholder’s Equity
Supplies $600 Common stock $95,000
Land $60,000 Retained earnings $100

Total Assets $95,300 Total Liabilities and Equity $95,300

Stmt. of Cash flows for the month ended July 31, 20XX

Cash from Operating Activities

Cash received from customers $1,600
Cash paid to suppliers and employees ($1,600)
Net cash from operating activities $0
Cash from Investing Activities
Cash paid for land ($60,000)
Net cash from investing activities ($60,000)
Cash from Financing Activities
Issuance of stock $95,000
Cash dividends paid ($500)
Net cash from financing activities $94,500
Net Increase in Cash $34,500
Beginning cash $0
Ending Cash $34,500
Accounting for finance
Lecture 2
Financial Statement Analysis

HORIZONTAL ANALYSIS III. Measure ability to pay long-term debt.

Study of percentage changes from year-to-year. Debt ratio
e.g. Trend percentage • Indicates the proportion of assets financed
VERTICAL ANALYSIS with debt.
Reveals the relationship of each statement item to Debt Equity ratio
a specified base, which is the 100% figure. • Compares the relative size of debt with
COMMON-SIZE STATEMENTS equity.
Each item is expressed as a percentage of net Times-interest-earned ratio
sales. In the balance sheet, the common size is • Measures the number of times operating
total assets. income can cover interest expense.
Eases the comparison of different companies. IV. Measure profitability.
BENCHMARKING Return on net sales (Net profit margin)
Is the practice of comparing a company to other • Shows the percentage of each sales dollar
companies. earned as net income.
RATIO CLASSIFICATION Return on assets (ROA)
I. Measure ability to pay current liabilities. • Measures how profitably a company uses its
Current ratio assets.
• Measures the company’s ability to pay Return on common stockholder’s equity (ROE)
current liabilities with current assets. • Measures how profitably a company uses its
Quick ratio equity
• Show’s the company’s ability to pay all Asset turnover
current liabilities if they come due • Measures how efficiently a company uses its
immediately. assets to generate sales
II. Measure ability to sell inventory and collect The DuPont System
receivables. Earnings per share of common stock (EPS)
Inventory turnover V. Analyze stock as an investment.
• Measures the number of times the average Price / earnings ratio (PE)
level of inventory is sold during a year. • The ratio of market price per share to
• A high number indicates an ability to quickly earnings per share.
sell inventory. Dividend yield
Accounts receivable turnover • Shows the percentage of a stock’s market
• Measures a company’s ability to collect cash value returned as dividends to stockholders
from credit customers. each period.
Income Statement for the month ended July 31

Net sales (Year 2016) $858,000 E.g. SL Company

Cost of goods sold ($513,000)
Gross profit $345,000 Stmt of Change in Equity
Total operating expenses ($244,000) July 31, 20XX
Income from operations $101,000
Interest revenue $4,000 Stockholders’ Equity 2016 2015
Interest expense ($24,000) Common stock, no par $186,000 $186,000
Profit before tax $81,000 Retained earnings $17,000 $134,000
Income taxes ($33,000) Total stockholders’ equity $356,000 $320,000
Net profit $48,000
Assets 2016 2015 Liabilities 2016 2015
Current assets: Current liabilities
Cash $29,000 $32,000 Notes payable $42,000 $27,000
Receivables net $114,000 $85,000 Accounts payable $73,000 $68,000
Inventories $113,000 $111,00 Accrued liabilities $27,000 $31,000
Prepaid expenses $6,000 $8,000 Total current liabilities $142,000 $126,000
Total current assets $262,000 $236,000
Long-term investments $18,000 $9,000 Long-term debt $289,000 $198,000
Plant and equipment, net $507,000 $399,000
Total Assets $787,000 $644,000 Total Liabilities and Equity $431,000 $324,000

Working capital = Current assets - Current liabilities

Current ratio = Current assets / Current liabilities

Quick ratio/Acid-test ratio = (Current assets - Inventory) / Current liabilities

Inventory turnover = Average inventory

Inventory turnover period = 365 / Inventory turnover

Accounts receivable turnover = Net credit sales/ Average accounts receivable

Accounts receivable turnover period = 365/ Accounts receivable turnover

Debt ratio = Total liabilities / Total assets

Debt equity ratio = Total liabilities / Total equity

Times-interest-earned ratio = Income from operations/ Interest expense

Rate of return on sales = Net profit / Net sales

Rate of return on assets = Net profit / Average total assets

Return on common stockholders’ equity = Net profit / Average common stockholders’ equity

Asset turnover = Net sales / Average total assets

Earnings per share of common stock = (Net profit - preferred dividends) / Number of shares of common stock

Price earnings ratio = Market price per share of common stock / EPS

Dividend yield = Dividend per share of common stock/ Market price per share of common stock

Dividend payout = Total dividend paid / Net profit