understanding financial statement + cash flow

23
Chapter 3 Understanding Financial Statements and Cash Flows Foundations of Finance Arthur J. Keown John D. Martin J. William Petty David F. Scott, Jr.

Upload: wisnu-dewobroto

Post on 21-Jan-2018

146 views

Category:

Business


1 download

TRANSCRIPT

Chapter 3

Understanding Financial Statements and Cash Flows

Foundations of FinanceArthur J. Keown John D. MartinJ. William Petty David F. Scott, Jr.

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 2

Chapter Objectives

• Compute a company’s profits as reflected by an income statement.

• Determine a firm’s accounting book value, as presented in a balance sheet.

• Measure a company’s free cash flows.

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 3

Principles Used in this Chapter

Principle 3: Cash-Not Profits-Is King

Principle 7: Managers Won’t Work for the Owners Unless It’s in Their Best Interest

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 4

Basic Financial Statements

• Income Statement

• Balance Sheet

• Statement of Cash Flows

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 5

Income Statement

• Profit/Loss Statement• Indicates the amount of profits

generated by a firm over a given period of time

• Sales – Expenses = Profit

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 6

Income Statement Terminology

• Revenue (Sales)– Money derived from selling the company’s product or

service• Cost of Goods Sold (COGS)

– The cost of producing or acquiring the goods or services to be sold

• Operating Expenses– Expenses related to marketing and distributing the

product or service and administering the business• Financing Costs

– The interest paid to creditors and the dividends paid to preferred stockholders

• Tax Expenses– Amount of taxes owed, based upon taxable income

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 7

Income Statement

SalesLess cost of goods sold

= Gross profitLess operating expenses

= Operating incomeLess interest expense

= Earnings before taxesLess corporate taxes

= Earnings before preferred dividendsLess preferred stock dividends

= Net income available to common stockholders

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 8

Starbucks Corporation Income Statement 2003 ($M)

Sales $4,076Cost of Goods Sold 3,207Gross Profit $ 869Operating Expenses

Marketing expenses and general and Administrative expenses $227Depreciation Expense 206

Total Operating Expenses $ 433Operating Profits $ 436 Interest Expense 3Earnings before taxes $ 433Income taxes 165Net income $ 268

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 9

Balance Sheet

• Provides a firm’s financial position at a specific point in time

• Assets are resources owned by the firm• Liabilities and owner’s equity indicate how

those resources are financed

Total Assets = Liabilities (debt) + Shareholder’s Equity

Or…A= L+OE

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 10

Balance Sheet Terminology

• Current assets or gross working capital comprise assets that are relatively liquid, or expected to be converted into cash within 12 months.

• Current assets typically include:– Cash– Accounts Receivable

payments due from customers who buy on credit– Inventory

raw materials, work in process, and finished goods held for eventual sale

– Other expensesPrepaid expenses are those items paid for in

advance

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 11

• Fixed Assets – Assets held for more than one year. Typically Include:– Machinery and equipment– Buildings– Land

• Other Assets – Assets that are not current assets or fixed assets– Patents– Copyrights– Goodwill

Balance Sheet Terminology

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 12

• Debt (Liabilities)– Money that has been borrowed and must

be repaid at some predetermined date– Debt Capital

• financing provided by a creditor• Current or short-term debt and long-term debt• Current or short-term must be repaid within

the next 12 months

Balance Sheet Terminology

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 13

• Current Liabilities:– Accounts payable

• Credit extended by suppliers to a firm when it purchases inventories

– Accrued expenses• Short term liabilities incurred in the firm’s

operations but not yet paid for– Short-term notes

• Borrowings from a bank or lending institution due and payable within 12 months

• Long-Term Debt– Loans from banks or other institutions for longer than

12 months

Balance Sheet Terminology

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 14

• Equity• Includes the shareholder’s investment

– Preferred stock– Common stock

• Treasury Stock– stock that was once outstanding and has been

re-purchased by the company

• Retained Earnings– cumulative total of all the net income over the

life of the firm, less common stock dividends that have been paid out over the years

Balance Sheet Terminology

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 15

Balance Sheet

• ASSETS– Current Assets– Fixed Assets

• Total Assets

• LIABILITIES– Current Liabilities– Long-Term Liabilities

• Total Liabilities• OWNER’S EQUITY

– Preferred Stock– Common Stock– Retained earnings

• Total Owner’s Equity• Total liabilities + OE

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 16

Terms

• Net Working CapitalCurrent assets – current liabilities

• Debt RatioPercentage of debt a firm uses to finance its

assets

• Accrual Basis AccountingRecording revenues when earned and expenses

when incurred, rather than when cash is exchanged

• Free Cash FlowsCash flow that is free and available to be

distributed to the firm’s investors.

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 17

Free Cash Flows

Free cash flows:(After-tax cashflows from operations)Less(Increase or decrease in net working

capital)Less(Increase or decrease in gross fixed

assets)

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 18

Traditional Statement of Cash Flows

• Three sections:– Cash flows from Operating

Activities– Cash flows from Investing

Activities– Cash flows from Financing

Activities

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 19

After-Tax Cash Flows From Operations

Operating Income (EBIT)+ Depreciation- Income tax expense= After-tax cash flows from

operations

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 20

Change in Operating Working Capital

Change in operating working capital = (change in current assets) -

(change in current liabilities)

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 21

Compute the Change in Fixed Assets

• The final step involves computing the change in Gross Fixed Assets (not net Fixed Assets)

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 22

Starbucks Free Cash Flows ($M)

After-tax cash flows from operations $477

Less 2003 investments in:

Investments in net working capital $ 4

Investments in Long Term Assets 566

Total investments $ 570

Free cash flows $ (93)

Chapter 3 Understanding Financial Statements and Cash Flows

Pearson Prentice HallFoundations of Finance3 - 23

Financing Cash Flows

A firm can either receive money from or distribute money to its investors. The firm can:

1. Pay interest to lenders2. Pay dividends to stockholders3. Increase or decrease in long-term debt4. Issue stock to new shareholders or

repurchase stock from current shareholders