FINANCE ESSENTIALS IN A NUTSHELL

"Don`t worry about your failures you need to be right only once"
 Contents

Managerial Accounting
01 Three statements and ratio analysis

Financial Market
02 Money Market, Bond Market, Equity market, Hybrid market

Miscellaneous
03 Corporate finance, Economics, High frequency terminologies

Current issues
04 IL&FS, Yes Bank, NBFC crisis, others
 MODULE – 1

MANAGERIAL
ACCOUNTING
 Managerial Accounting: Fundamentals

Content Accounting questions in an interview are the quickest way to tell if one understands the
bare m inim um of finance. Some of the cases where the accounting concepts can be tested
are mentioned below:

v Financial Reporting and Analysis. Why? • Is prepaid mobile recharge an asset or a liability?

v Time value of money • W hat are my variable costs in calculating contribution margin?

v Accounting terminologies • How many units need to be sold to reach break-even point?

• W hat is the difference between deferred revenue and account receivables?

v Accounting principles
• W hat is the difference between liquidity and solvency?
v Income statement
• W hat is the difference between Current ratio and acid-test ratio?
v Balance sheet
• Walk through the income statement of XYZ company.
v Cashflow statement
In this section, we will try to cover the basics of accounting in a simplified way. For more
v Ratio Analysis information, one can refer text books available in the library of NITIE.

Reference books:
v Accounting, Anthony, Hawkins and Merchant
v For examples, refer to the website: https://www.investopedia.com
 Financial Reporting and Analysis
Financial Reporting
It refers to the way companies present their financial performance to various
stakeholders and prospects.
W hy?
It helps investors, prospects, creditors and other stakeholders in making
decisions based on financial information about the entity.
W ho set the standards for financial reporting?
Standard setting bodies like International Accounting Standards Board (IASB)
for IFRS,
Financial Accounting Standards Board (FASB) for the U.S. GAAP, etc.
W ho is responsible for enforcing the com pliance by the reporting entity?
Security Exchange Commission (SEC) in the U.S.
Security and Exchange Board of India (SEBI) in India, etc.
W hat are the required statem ents by IFRS in financial reporting?
1. Balance sheet
2. Income statement
3. Cash flow statement
4. Statement of change in owner’s equity
5. Footnotes and Accounting policies
Financial statement analysis
It refers to using the financial information along with other relevant
information to make economic decisions.
How to perform analysis?
1. State the objective.
2. Gather data (statements, primary research, etc.)
3. Process the data (Calculate ratios, prepare common-size statements)
4. Analyze and interpret the data
5. Recommend
6. Update the analysis
Audit reports
It refers to independent review of an entity’s financial statements to ensure if
accounting principles were followed.
Types of Auditor’s opinion:
1. Unqualified opinion: The auditor issues an unqualified opinion if
statements are free from material errors and omissions.
2. Qualified opinion: The auditor issues a qualified opinion if there are some
exceptions in the report which must be highlighted.
3. Adverse opinion: This opinion is issued when the reports are not
presented fairly or not conforming to the accounting standards.
 Time value of money

Present value of money Future value of money

The value of money depreciates over a period of time due to inflation and
opportunity cost. That’s why money today is worth more than the money
to be received in future. To make apple-to-apple comparison we need to
discount the future cashflows at market rate of return to arrive at a value
which is equivalent to its present worth. This discounted value is called
present value of money (PV).
Replicate this concept to normal fixed deposits one makes in a commercial
bank. Today if a bank is offering 7.5% rate of interest annually, the value of
money after five years on maturity is called future value of money.
FV = PV (1+r)n

The equation can be derived from present value calculation formula.

For example:
$ 100 deposited today has to be received after 5 years at the market rate of
return of 5%,
FV = 100 x (1.05) 5 = $127.62

For example: It means that $ 100 after five years will worth $127.62 on maturity
$ 100 to be received after 5 years but the opportunity cost (or market rate
of return) is 5%,
Application of the concept
PV = 100 / (1.05) 5 = $78.35
• Calculating the value of a bond
It means that $ 100 after five years will worth same as what $78.35 worth
• Comparing the net present values (NPV) of two revenue generating
today.
projects
• Valuation of a preferred dividend stock
This calculation of present value is also called as discounting the cashflow.

Asset : The resources that are controlled by a company
and are expected to generate income in future.
Ex: Plant, Property and equipment (PPE), Cash, Trading
securities, Inventory, Account receivables, prepaid
accounts, Patents, trademarks, goodwill, etc.
Liability : The obligations that a company is liable to
fulfill/ pay and that are expected to require an outflow
of economic resources.
Ex: Long term debts, bank loans, Commercial paper,
accounts payable, deferred revenue, accrued expenses
deferred tax liabilities, etc.
Equity : The owner’s residual interest after deducting all
the liabilities from the assets.
Trading securities : The equity investments made by a
company in the stock market to earn uncorrelated gains.
Deferred revenue : The amount which is received in
advance for the service yet to be delivered.
Accrued expenses : The amount which is due, to be paid
for services already received. Ex: Post-paid bills
Terminologies
Depreciation: The long-lived assets are expected to US GAAP : In the United States, Financial
provide benefits for multiple accounting periods. The Accounting Standards Board (FASB) has
allocation of cost over an asset’s life is called as set the accounting standards which are
depreciation. called as Generally Accepted Accounting
Principles (GAAP).
Am ortization: W hen the long-lived asset is intangible,
like patent, copyright, etc. with a finite life, we amortize IFRS : International Accounting
the cost over its useful life. Standards Board (IASB) has set common
For such an asset with indefinite life, we test for its global standards for companies and
impairment at least once a year. these standards are known as
International Financial Reporting
Liquidity : Ability of a company to meet short-term Standards (IFRS).
obligations as it approaches the due date is called as
liquidity. Footnotes : These are the disclosures in a
M easured by liquidity ratios: Current ratio, Acid-test financial statement which provide
ratio( or Quick ratio), etc. further details about the statements.
It can include accounting methods used,
Solvency : Ability of a company to meet long-term assumptions made, estimates used,
obligations (ability to repay long-term debts) is called as legal actions, benefit plans, etc.
solvency.
M easured by solvency ratios: debt-to-equity ratio, debt M anagem ent’s Discussion and analysis :
ratio, etc. These are the disclosures in an annual
report which give details on
Leverage : The amount of interest bearing debt in a management’s objectives, risks, key
firm’s capital structure is referred to as leverage. Interest relationships, future divestures, etc.
bearing debt does not consider accounts payable.
 Accounting principles
Econom ic entity : Business is an entity separate from its
owner. A company’s assets and liabilities can not be
attached to it’s owner’s asset and liabilities.
Ex: XYZ Co. is owned by M r. ABC but assets belonging to
M r. ABC can not be liquidated to service the debt of XYZ.
M onetary unit : Any economic activity is recorded as a
transaction if it can be expressed in terms of money.
Gifts, support out of courtesy, etc. can not be recorded
as transaction.
Accounting period : The activities can be reported in
distinct time-periods. Long-term debts can be recorded
as annual expense (interest belonging to that period) in
an income statement.
M atching Concept : The principle requires that expenses
must match with revenues. For examples, sales
commission expense should be reported in the period in
which those sales were actually made and not in the
period when commission is paid.
Cost principle : The assets are recorded at purchase cost
in all statements. Any inflation due to market
fluctuations is not adjusted in the statements.
Going concern principle : It is assumed that a business is
a perpetual activity and a company will continue to exist
for the foreseeable future.
Revenue recognition principle: Revenues are recognized
as soon as the product is sold or the services have been
performed, regardless of when amount is physically
received.
Conservatism : Disclose all expected losses but do not
account expected gains in near future. This approach is
called conservatism.
Consistency : M easurement scales, methods, reporting,
etc. should be consistent with previous periods and
other associated statements. If any changes are made in
accounting standards, it must be done retrospectively
and disclosed.
 Income statement

• The statement reports a company’s revenue, expenses and taxes over a period of tim e .
• The reported expense or income must necessarily belong to that period only.
• The reported entities m ust directly affect the taxes of the company. For example:
Interest expense of a long term debt will affect the taxes and must be included in the
income statement but the principal amount should not be (which is capitalized).

Description of various com ponents

• CoGS : Cost of goods sold must include the cost of raw material, transportation and

processing from raw material to finished goods.

• Operating expenses : The indirect expenses like salaries, sales cost, marketing, R&D

cost, depreciation, amortization, etc.

• Interest expense : Interest payment for debt

• Other incom e : Gain/Loss from sale of assets or write-downs

• Net Incom e: The net income represents a company’s bottom line i.e. how much

income it has earned after payment of taxes.

W hat never appears on Incom e statem ent?

Capital expenditure, Purchase and sale of investments, repayment or issue of debt

principal, issuance or repurchase of shares, dividends and so on.

 Balance sheet

• It reports all the assets and liabilities that belongs to a company at a specific point in tim e .

• The basic equation that a balance sheet follows is:

Assets = Liabilities + Equity

• Liabilities plus equity is also known as capital of a company.

• Assets and liabilities are further bifurcated into current and long-term components. Current assets

and liabilities indicates the liquidity health of a company which long-term debts indicate the solvency

of the company.

• Net working capital is the difference between Current assets and current liabilities.

• Goodwill is the premium which a company has paid over other company’s equity during acquisition.

It is reflected in balance sheet only if the company has acquired another company before.

• Deferred tax Asset/Liability is created if there are any tax assets/liabilities to be adjusted.

• Treasury stock is the common shares that company has repurchased from the investors. The treasury

stock is devoid of any voting rights or dividends.

• Accumulated other comprehensive income takes exchange rate changes, unrealized gains/losses, etc.

into consideration.
 Cash flow statement

• Cash flow statement tracks changes in cash over a period of tim e . It takes only cash components into

consideration.

• It tries to exclude non-cash expenses and revenues to find out how much cash a company has

received or expensed during that period.

• A cash flow statement may be divided in to three components:

• Cash flow from operations – It entails cash flow due to operating activities, including cash

expensed actually and excluding non-cash expenses like depreciation, account receivables/

payables, etc.

• Cash flow from investing – It comprises of investment related activities like purchase or sale of

PP&E, acquisition, purchase of bonds and market instruments, etc.

• Cash flow from financing – It includes debt financing, common equity, dividend payments,

repurchasing of shares, etc.

 Ratio Analysis
Earnings per share (EPS) : Profitability performance Current Ratio: The ratio of current assets to current Return on equity : It is the ratio of net
measure for publicly traded firms. It refers to per share liabilities is called current ratio. income to average total equity
income available to com m on shareholders. Include cash, marketable securities, inventory, account (including preferred shares).
receivables in current assets.
EPS = Net Incom e – Preferred Dividends RoE = Net Incom e
Wgt. Avg. No. of com m on shares outstanding CR = Current Assets Average total equity
Current Liabilities
Net profit m argin : It refers to how much net income is
earned on each monetary value of sales.
Quick ratio (Acid-test ratio) : The ratio of highly liquid Return on assets : It is the ratio of net
assets to current liabilities is called quick ratio. income to average total assets.
Net profit M argin = Net Incom e
Include cash, marketable securities, inventory, account
Revenue
receivables in current assets. RoA = Net Incom e
Average total assets
Price to earning ratio (PE) : It refers to how much one
pays to buy a share of that company to earn single value QR = Current Assets - Inventory
of earnings. Current Liabilities
Dividend payout ratio : It refers to out of
It is simply the ratio of m arket price of a share to its EPS. Debt to equity ratio : The ratio measures a company’s total net income, how much value is
ability to meet long term obligations. received as dividends.
W hich EPS should be considered? Past or future? If we
consider past 12 months EPS, it is called as trailing PE DE = Long-term debt It is the ratio of dividend amount
ratio. If future EPS is considered, we call it forward PE . Total Equity declared to net income to common
shareholders.
PE ratio = M arket price of a share
EPS of the share Financial Leverage : It refers to the ratio of a company’s DPR = Dividends declared
total assets to its average total equity. NI to com m on shares
 Finance Essentials

Module – 2 Content Module – 3 Content Module – 4 Content

v Equity market and indexes v Foreign exchange v IL&FS

v Fixed Income market v Demand and supply v Yes Bank
v Derivatives v Market structure v NBFC crisis
v Alternative Investment Funds v Macro-economics v Rise of passive investment and AIFs
v Current Scenario of financial markets v Capital budgeting

v Risk and return of a portfolio

v Terminologies