day one with jimmy gentry: understanding financial statements

Introduction

To Financial Statements

Understanding Financial Statements1


Types of Companies Public Private

Financial statements conforming to public company statements

Non-profits


Important Terms Unaudited Audited Accountants Certified Public Accountants (CPAs) GAAP, FASB, AICPA, PCAOB


Sarbanes-Oxley Act of 2002 Response to abuses with Enron and

WorldCom as catalysts New responsibilities and resources for

SEC Created PCAOB Major emphasis on “internal controls” More disclosure for public companies


Sarbanes-Oxley Act Analysts must disclose potential conflicts of

interest Limited types of services accounting firms

can provide to public company clients CEO, CFO attest to accuracy, completeness,

fairness of financial statements Rigorous penalties for fraud, other misdeeds


Public Company Accounting Oversight Board Created by SOX to oversee accounting SEC appoints members to five-year terms Five full-time members including a chairman Two must be or have been CPAs All members must be “financially literate” Began operating May 2003

Key SEC Documents 10-K 10-Q 8-K Proxy statement Prospectus



Annual Report (or 10-K) Strategy Auditor’s report Management’s discussion and analysis Financial statements and footnotes Management’s letter if annual report

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Basic Auditor’s Report Independent auditor’s opinion on whether

financial statements are presented fairly in all material respects, in accordance with GAAP:

We looked at these statements They’re management’s responsibility; we’re

just here to express our opinion We followed the rules in our audits and here’s

what an audit involves In our opinion, the statements fairly present

the company’s position

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Auditor’s Report by Category Clean or Unqualified Qualified Disclaimer Adverse

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New Auditor’s Report Combines traditional report with internal

controls requirement of Sarbanes-Oxley Act


MD&A Must read it Often a source of good information and

insights Densely written SEC says it wants greater transparency


Goal of Accounting Record, classify and report financial

transactions. To provide managers across the organization with information that facilitates: Control of activities and expenditure Refinement of operational plans Accountability Reporting on project outcomes Writing of bids for new funds


Goal of Finance Maximize shareholder wealth as

reflected in market price of the stock Achieving this goal requires financial

manager to focus on economic profit, not accounting profit


Financial Decisions Long-term investment decisions

Capital budgeting Long-term financing decisions

Capital structure Working capital management decisions

Net working capital


Financial Decisions Investing decisions: Types of assets

firm wants to hold. Financing decisions: Acquisition of

funds needed to support long-term investments.


Generally Accepted Accounting Principles Guidelines based on theory and

practice Evolved over time Procedures, concepts and standards


GAAP: Key Points Periodicity Going concern Economic entity Monetary unit Full disclosure


GAAP: Key Points Historical cost Revenue realization Consistency Materiality Industry practices Conservatism


Cash or Operating Cycle Cash Purchase inventory Produce product Sell product Cash


Cash or Operating Cycle (cont.) “Cash”

Cash Receivables Debt

Inventory Raw materials Work in progress Finished goods


Cash or Operating Cycle (cont.) Sell product

Accounts receivable Cash

Cash Collect receivables as cash

Pay off payables Start over

day one with jimmy gentry: understanding financial statements

Business

operating

types

cash

gaap

cont

goal

cpas

sarbanes