FINANCIAL STATEMENTS FINANCIAL STATEMENTS

AND ANALYSISAND ANALYSIS

1. Needs of financial statements

2. Financial statements1.Income Statement 2.Balance Sheet3.Statement of Cash Flows

Objectives :Objectives :

Needs of Financial Needs of Financial StatementsStatements

• Company Act 1965 required companies to expose their annual report to Company Registrar.

• Among the content of the report is financial statement, covers; income statement, balance sheet, cash flow statement, and explanation notes about those accounts.

• Financial statements can be classified into 2 types:

• External users• Internal users

Income StatementIncome Statement

Also known as profit and loss account. Shows the performance / achievement for a firm in certain period (annually, semi annually, monthly etc)

The answer for “how profitable is the business?”

Income Income StatementStatement

SALES

- EXPENSES

= PROFIT

•Cost of Goods Sold•Operating Expenses• Financing Costs•Taxes

Revenue

5 activities related to business:SalesCost of good soldOperating expensesFinancing cost Tax expenses

1. Sales – Income from sales of products or services

2. Cost of good sold – Cost of produce the product / services

3. Operation expenses – expenses related to marketing and distributing the products or services, and also administration cost

4. Financing cost – Interest paid to debtors and dividend paid to preferred stock holders (excluding dividend paid to common stock holders)

5. Tax expenses – Amount of tax depends on company’s taxable income.

SALES

- Cost of Goods Sold

GROSS PROFIT

- Operating Expenses

OPERATING INCOME (EBIT)

- Interest Expense

EARNINGS BEFORE TAXES (EBT)

- Income Taxes

EARNINGS AFTER TAXES (EAT)

- Preferred Stock Dividends

- NET INCOME AVAILABLE TO COMMON STOCKHOLDERS

Income Income StatementStatement

Financing Activities

Operating Activities

Three additional important Three additional important issues:issues:

Operating income is NOT affected by how the firm is financed.

Interest expense is subtracted from income before computing the firm’s tax liability. i.e Interest is not taxable expenses

Firm that has a +ve net income does NOT necessarily mean it has any cash.

Balance SheetBalance Sheet Balance sheet is a statement that shows the

financial position for a company at certain time.

Give information about assets, liabilities and equities of a company.

Asset – Productive sources that give return to the company.

Liability – Creditor claim Equity – Owner claim.

Total Asset = Total Liability + Total Equity

Balance SheetBalance SheetAssets Liabilities (Debt) &

EquityCurrent Assets Cash Marketable

Securities Accounts Receivable Inventories

Prepaid Expenses

Fixed Assets Machinery &

Equipment Buildings and Land

Other AssetsInvestments & patents

Current Liabilities Accounts Payable Accrued Expenses Short-term notesLong-Term Liabilities Long-term notes MortgagesEquity Preferred Stock Common Stock (Par value) Paid in Capital Retained Earnings

Balance SheetBalance Sheet Types of assets :

Current asset Fixed asset Other asset

Types of financing : Liability (Debt) Long-term liability Owners’ equity

Current AssetsCurrent AssetsIt includes the assets with high

liquidity (can be converted within 1 year.)

Among the current assets are:• Cash• Marketable securities• Account receivable• Inventory• prepaid expenses

Cash – currency or coins owned by company either in bank account or hand.

Marketable security – investment on short term financial assets with high liquidity. Example: T-bill, bankers acceptance, etc.

Account receivable – the cash payment agreement by customers whose bough by credit.

Inventory – raw materials, working in process and final products that will be sold.

Prepaid expenses – it is reported in profit and loss account and deducted as expenses income statements after has been used. Example: rent expenses and insurance.

Fixed AssetsFixed Assets Cannot be converted into cash in

short period.. Including plant and machinery,

building and land. Some businesses have more

fixed assets than the other. Example: factory

Other AssetsOther Assets Besides current and fixed assets. Example

the assets that can’t be touched or saw physically such as pattern, right and goodwill.

Information exposed is different because it reported based on cost in the time transaction occur. The value appeared known as ‘accounting book value’ of the company.

Accounting book value – Value of assets as shown in balance sheet of a firm. It represents historical cost compare to present value of the asset.

Debt CapitalDebt Capital Liability is money borrowed and must

be pay back at fixed date. It includes credit give by suppliers and bank loans.

Current debt/short-term liabilities-liability that must be paid within 12 months.

Sources of short term liability: Account payable Other payable Accrued expenses Short-term notes

Long-term DebtLong-term Debt Covers loan from bank or other

sources that provide capital for liability term more than 1 year.

Example; loan from bank where the period of payment is 5 years or loan of buying machinery, building, equipment or land for period 25 to 30 years.

EquityEquity Equity investment by shareholders in the

company and the profit which is not distributed to them will be pooled in company.

Preferred stockholders Received dividend in fixed amount. Priority after creditor pay the liability.

Common stockholders Receive whatever left over-good or bad. The firm common stock value as reported in

balance sheet includes sales value of the stocks and the firm’s retain earning.

Retain earning-earning assembled and retained and will be reinvest in the firm.

Net working capitalNet working capital Differentiate between current assets and

current liabilities. Working Capital = Current assets

– Current liabilities It is important for lenders because it give

a picture of company’s liability to determine the ability to pay back.

Liquidity means how fast & how easy an asset can be converted into cash without losing its value.

More current assets than current liabilities in a company means higher liquidity.

EquityEquity Equity shows the company’s

financing structure , it means how many percent of the assets finance by debt and how many contribute by owners.

Relationship between debt and equity is important to the debtors and investors in certain situation. We will discuss about it in others topic later.