Study Session 7 - Financial Reporting And Analysis

Front 1

Financial Reporting

Back 1

how companies show their financial performance to investors, creditors and other interested parties by preparing and presenting financial statements.

Front 2

Financial Statement Analysis

Back 2

use the information in a company's financial statements, along with other relevent information, to make economic decisions.

(i.e. invest? recommend? extend trade or bank credit to company? )

Front 3

Analysts use _________________________________ to evaluate a company's past performance and current financial position in order to form opinions about the company's ability to earn profits and generate cash flow in the future.

Back 3

financial statement analysis

Front 4

Balance Sheet

Back 4

financial position at a point in time.

Assets = Liabilities + owners' equity

Front 5

Statement of Comprehensive Income

Back 5

Reports all changes in equity except for shareholder transactions.

(i.e. issuing stock, repurchasing stock, paying dividends)

Front 6

Income Statement

Back 6

financial performance of a firm over a period of time.

- Includes: Revenues, Expenses, Other Income

Front 7

Statement of changes in equity

Back 7

reports amounts and sources of changes in equity investors' investment in the firm over a period of time.

Front 8

Statement of cash flows

Back 8

reports company's cash receipts and payments.

- Classified as: Operating CF, Investing CF, and Financing CF.

Front 9

Operating Cash Flow

Back 9

include the cash effects of transactions that involve the normal business of the firm.

Front 10

Investing Cash Flow

Back 10

are those resulting from the acquisition or sale of property, plant, and equipment; of a subsidiary or segment; of securities; and of investments in other firms.

Front 11

Financing Cash Flow

Back 11

are those resulting from issuance or retirement of the firm's debt and equity securities and include dividends paid to stockholders.

Front 12

Financial statement notes (footnotes)

Back 12

(1) Discuss basis of presentation (Fiscal Period, inclusion of Consolidated Entities)

(2) Provide information about accounting methods, assumptions and estimates used by management.

(3) Provide additional information about business acquisitions or disposals, legal actions, employee benefit plans, contingencies and commitments, significant customers, sales to related parties, and segments of the firm.

Front 13

MD&A (Management's Discussion and Analysis)

Back 13

VERY USEFUL SECTION. Discusses nature of business, past performance and future outlook. (Note that some portions may be unaudited.

- IN USA, the SEC requires that MD&A discuss trends and identify significant events and uncertainties that might affect liquidity, capital resources and results of operations.
Must also discuss:
- effects of inflation
- off-balance-sheet obligation and contractual obligations
- accounting policies requiring significant judgment by management
- Forward looking expenditures and divestitures.

Front 14

Audit

Back 14

an independent review of an entity's financial statments. Provides an opinion on FAIRNESS and RELIABILITY.

Front 15

The standard auditor's opinion contains three parts:

Back 15

(1) the preparation of the financial statements are the responsibility of management, and that the auditor has performed an independent review.

(2) Generally accepted auditing procedures were followed, providing "reasonable assurance" that the statements do not contain any material errors.

(3) The auditor is satisfied that the statements were prepared in accordance with accepted accounting procedures and that any assumptions or estimates used are reasonable.

Front 16

An "Unqualified Opinion" indicates that.... (aka Clean Opinion)

Back 16

the auditor believes that the statements are free from any material errors or omissions

Front 17

A "Qualified Opinion" is made by an auditor when....

Back 17

when the accountant believes the financial statements are, in a limited way, not in accordance with generally accepted accounting principles.

- may be issued if the auditor has concerns about the "going-concern assumption" of the company, the valuation of certain items on the balance sheet or some unreported pending contingent liabilities.

Front 18

An "adverse opinion" is ussed when an auditor believes ....

Back 18

the statements are not presented fairly or do not conform to generally accepted accounting procedures.

Front 19

What is the "going concern assumption" ?

Back 19

the assumption that the firm will continue to
operate for the foreseeable future

Front 20

Internal Controls are the processes by which....

Back 20

the company ensures that it presents accurate financial statments.

Front 21

Under US GAAP, an auditor must express an opinion on the firm's _________________ .

Back 21

Internal Controls

Front 22

Forms:

8-K

10-K

10-Q

Back 22

Securities and Exchange Commission (SEC) filings are available from EDGAR (Electronic Data Gathering, Analysis, and Retrieval System, www.sec.gov).

These include Form 8-K, which a company must file to report events such as acquisitions and disposals of major assets or changes in its management or corporate governance.

Companies' annual and quarterly financial statements are also filed with the SEC (Form 10-K and Form 10-Q, respectively) .

Front 23

Proxy Statements

Back 23

issued to shareholders when there are matters requiring a shareholder vote.

Front 24

"Earnings Guidance"

Back 24

is often issued by companies before the financial statements are released.

Front 25

The Financial Statement Analysis Framework has 6 steps....

Back 25

(1) State the objective and context
(2) Gather Data
(3) Process Data
(4) Analyze and interpret Data
(5) Report Conclusions or Recommendations
(6) Update the Analysis

Front 26

Information about accounting estimates, assumptions, and methods chosen for reporting is most likely found in....
A. the auditor's opinion.
B. financial statement notes.
C. Management's Discussion and Analysis.

Back 26

Financial Statement Notes include....

Front 27

Information about elections of members to a company's Board of Directors is most likely found in:
A. a 1 0-Q filing.
B. a proxy statement.
C. footnotes to the financial statements.

Back 27

Proxy statements contain information related to matters that come before shareholders for a vote, such as elections of board members.

Front 28

What are "Financial Statement Elements" ?

Back 28

The major classifications of assets, liabilities, owners' equity, revenues and expenses

Front 29

What are "Financial Statement Accounts"

Back 29

The specific records within each element where various transactions are entered.

i.e. inventory, accounts payable

Front 30

What is a "Chart of accounts (COA)" ?

Back 30

a company's detailed list of the accounts that make up the five financial statement elements and the line items presented in the financial statements.

Front 31

What are "Contra Accounts" ?

Back 31

accounts that offset some part of the value of another account.

i.e. accumulated depreciation

Front 32

Assets include.....

Back 32

(1) Cash and cash equivalents
(2) Accounts receivable
(3) Inventory
(4) Financial Assets
(5) Prepaid expenses
(6) Property, Plant and Equipment
(7) Investment in affiliates
(8) Deferred tax assets
(9) Intangible Assets

Front 33

Liabilities include....

Back 33

(1) Accounts payable and trade payables .
(2) Financial liabilities such as short-term notes payable
(3) Unearned revenue. Items that will show up on future income statements as revenues
(4) Income taxes payable. The taxes accrued during the past year but not yet paid
(5) Long-term debt such as bonds payable
(6) Deferred tax liabilities

Front 34

Owners' Equity equals....

Back 34

the amount by which assets exceed liabilities.

Front 35

Owners' Equity includes...

Back 35

(1) Capital (at par value of common stock i.e. $1 per share so if 100 shares, $100)
(2) Additional paid-in capital. Proceeds from common stock sales in excess of par value.
(3) Retained earnings.
(4) Other comprehensive income. (Changes resulting from foreign currency translation,minimum pension liability adjustments, or unrealized gains and losses on
investments)
(5) Noncontrolling (minority) interest - represents minority share of net assets
(6) Treasury Stock (Portion of shares that a company keeps in its own treasury)

Front 36

Revenue includes (3 items)

Back 36

Sales, Gains, Investment Income

Front 37

Expenses include:

Back 37

(1) COGS
(2) Selling/General/Admin Expenses
(3) D & A
(4) Tax Expense
(5) Interest Expense
(6) Losses

Front 38

What is the Basic Accounting Equation?

Back 38

Assets = Liabilities + Owners' Equity

Front 39

What is the Expanded Accounting Equation?

Back 39

Assets = Liabilitiles + contributed capital + ending retained earnings

or

Assets = Liabilities
+ contributed capital
+ beginning retained earnings
+ revenue
- expenses
- dividends

Front 40

In "Double-entry accounting" if you buy equipmant for $10,000 Cash, what two entries are generated?

Back 40

(1) Property, Plant, and Equipment (ASSET) + $10,000

(2) Cash (ASSET) - $10,000

Front 41

In "Double-entry accounting" if you borrow $10,000 to purchase equpment, what two entries are generated?

Back 41

(1) P, P & E (Asset) +$10,000
(2) Notes Payable (Liability) +$10,000

Front 42

In "Double-entry accounting" if you Buy inventory for $8,000 and sell it for $10,000, what entries are generated?

Back 42

STEP 1: Purchase Inventory
(1) Cash (Asset) - $8,000
(2) Inventory (Asset) + $8,000

STEP 2: Sell Inventory for Cash
(1) Cash (Asset) + $10,000
(2) Inventory (Asset) - $8,000
(3) Sales (Revenue) + $10,000
(4) COGS (Expense) + $8,000

Front 43

The principal of accrual accounting requires.....

Back 43

revenue be recorded when the firm earns it, and expenses recorded when incurred.

Front 44

What are the four categories of Accruals?

Back 44

(1) Unearned Revenue
(2) Accrued Revenue
(3) Prepaid Expense
(4) Accrued Expense

Front 45

How can you account for Unearned Revenue? (Accrual)

Back 45

STEP 1: firm recieves cash before providing the good or service.
(1) Cash + (Asset)
(2) Unearned Revenue + (Liability)

STEP 2: Firm provides good or service
(1) Revenue + (Revenue)
(2) Unearned Revenue - (Liability)

I.e. newspaper subscriptions are often paid in advance

Front 46

How can you account for Accrued Revenue? (Accrual)

Back 46

STEP 1: Firm provides G/S before recieving revenue
(1) Accounts Recievable + (Asset)
(2) Revenue + (Revenue)

STEP 2: Customer Pays
(1) Accounts Recievable - (Asset)
(2) Cash + (Asset)

i.e. a manufacturer that sells goods to a retail store on account.

Front 47

How can you account for a Prepaid Expense? (Accrual)

Back 47

STEP 1: Firm pays cash ahead of time for an anticipated expense
(1) Cash - (Asset)
(2) Prepaid Expense + (Asset)

STEP 2: Expense Incurred
(1) Prepaid Expense - (Asset)
(2) Expense + (Expense)

i.e. prepaid rent.

Front 48

How can you account for an Accrued Expense? (Accrual)

Back 48

STEP 1: firm owes for expense that has already been incurred.
(1) Expense + (Expense)
(2) Accrued Expenses + (Liability)

Front 49

What is a "Valuation Adjustment" and why might it be necessary?

Back 49

Accounting standards require certain assets to reflect their current market values.

Front 50

Journal Entries

Back 50

record every transaction, showing what accounts are changed by what amount

Front 51

What is a "General Journal"

Back 51

a listing of all the journal entries in order of their dates

Front 52

What is a "General Ledger"

Back 52

sorts entries in the general journal by account

Front 53

What is an "Initial Trial Balance"

Back 53

At the end of the accounting period, this shows the balances of each account (before accruals)

Front 54

What is an "Adjusted Trial Balance"

Back 54

At the end of the accounting period, this shows the balances of each account (after accruals)

Front 55

Q: If a firm raises $ 1 0 million by issuing new common stock, which of its financial statements will reflect the transaction?

A. Income statement and statement of owners' equity.
B. Balance sheet, income statement, and cash flow statement.
C. Balance sheet, cash flow statement, and statement of owners' equity.

Back 55

C The $ 10 million raised appears

- on the cash flow statement as a cash inflow from financing

- on the statement of owners' equity as an increase in contributed capital.

- Both assets (cash) and equity (common stock) increase on the balance sheet.

- The income statement is unaffected by stock issuance.

Front 56

"Standard-setting bodies" are....

Back 56

_______________ are professional organizations of accountants and auditors that ESTABLISH financial reporting standards.

Front 57

"Regulatory authorities" are....

Back 57

_________________ are professional government agencies that have the legal authority to enforce compliance with financial reporting standards.

Front 58

What is the FASB?

Back 58

Financial Accounting Standards Board is the standard-setting body in the US.

Front 59

What is the IASB?

Back 59

International Accounting Standards Board is the standard-senting body outside of the US.

Front 60

The FASB (Financial Accounting Standards Board) sets fourth.....

Back 60

The _____________ sets fourth US GAAP

Front 61

The IASB (International Accounting Standards Board) sets fourth.....

Back 61

The _______________ sets fourth IFRS

Front 62

What is US GAAP?

Back 62

Generally Accepted Accounting Principles as set fourth by the FASB in the US.

Front 63

What is IFRS?

Back 63

International Financial Reporting Standards as set forth by the IASB outside of the US.

Front 64

What are some desirable attributes of "standard-setting bodies"?

Back 64

- Observe high professional standards.
- Have adequate authority, resources, and competencies to accomplish its mission.
- Have clear and consistent standard-setting processes.
- Guided by a well-articulated framework.
- Operate independently while still seeking input from stakeholders.
- Should not be compromised by special interests.
- Decisions are made in the public interest.

Front 65

Regulatory Authorities

- UK ?
- US ?

Back 65

UK - Financial Services Authority (FSA)
US - Securities and Exchange Commission (SEC)

Front 66

What is the IOSCO?

Back 66

International Organization of Securities Commissions.

Front 67

What are the three main objectives of financial regulation according to IOSCO (International Organization of Securities Commissions) ?

Back 67

What are these?

(1) Protect Investors
(2) Ensure Fairness, Efficiency and Transparency of markets
(3) Reduce Systematic Risk.

Front 68

SEC required filing:

Form S-1 WHITE

Back 68

Registration statement filed prior to the sale of new securities to the public. The registration statement includes audited financial statements, risk assessment, underwriter identification, and the estimated amount and use of the offering proceeds.

Front 69

SEC required filing:

Form 10-K BLACK

Back 69

Required annual form including info about the business and its management, audited financial statements and disclosures, and disclosures about legal matters involving the firm.
- Similar to an annual report but an annual report is not a substitute for this form.
- Equivalent SEC forms for foreign issuers in the U.S. markets are Form 40-F for Canadian companies and Form 20-F for other foreign issuers.

Front 70

SEC required filing:

Form 10-Q GREY

Back 70

US Firms are rquired to file this quarterly, with updated financial statements and disclosures about certain events such as significant legal proceedings or changes in accounting policies.
- Unlike 10-K, this form doesn´t have to be audited
- Non-US Companies file the equivalent 6-K semiannually.

Front 71

SEC required filing:

Form DEF-14A ORANGE

Back 71

When a company prepares a proxy statement for its shareholders prior to the annual meeting or other shareholder vote, it also files this statement with
the SEC

Front 72

SEC required filing:

Form 8-K BLUE

Back 72

Companies must file this form to disclose material events including significant asset acquisitions and disposals, changes in management or corporate
governance, or matters related to its accountants, its financial statements, or the markets in which its securities trade.

Front 73

SEC required filing:

Form 144 YELLOW

Back 73

A company can issue securities to certain qualified buyers without registering the securities with the SEC but must notify the SEC that it intends to do so.

Front 74

SEC required filing:

Form 3, 4 and 5 GREEN

Back 74

involve the beneficial ownership of securities by a company's officers and directors. Analysts can use these filings to learn about purchases and sales of company securities by corporate insiders.

Front 75

What are some barriers to convergence of accounting standards?

Back 75

(1) different standard-setting bodies and regulatory authorities of different countries disagree on best treatment of an issue.

(2) political pressures

Front 76

Financial Statements are "Relevant" if....

Back 76

the information provided influences decisions, evaluations, forecasts, etc.

Front 77

Fainancial Statements have "Faithful Representation" if...

Back 77

representation is complete, neutral (absence of bias), and free from error.

Front 78

What are the various measurement bases? (5)

Back 78

(1) historical cost (the amount originally paid for the asset),
(2) amortized cost (historical cost adjusted for depreciation, amortization, depletion, and impairment),
(3) current cost (the amount the firm would have
to pay today for the same asset),
(4) realizable value (the amount for which the firm could
sell the asset), present value (the discounted value of the asset's expected future cash flows)
(5) fair value (the amount at which two parties in an arm's-length transaction would exchange the asset).

Front 79

According to IAS, (International Accounting Standards) the required financial statements are (5)

Back 79

• Balance sheet.
• Statement of comprehensive income.
• Cash flow statement.
• Statement of changes in owners' equity.
• Explanatory notes, including a summary of accounting policies.

Front 80

According to IAS, (International Accounting Standards) the general features for preparing financial statements are:

Back 80

(1) Fair presentation
(2) Going Concern Basis
(3) Accrual Basis
(4) Consistency
(5) Materiality
(6) Aggregation (of similar items and separation of dissimilar items)
(7) No offsetting of assets against liabilities or income against expenses (unless a specific standard permits or requires it.)
(8) Annual reporting frequency (Minimum)
(9) Comparative information for prior periods should be included (unless a specific standard says otherwise.)

Front 81

Also stated in lAS No. 1 are the structure and content of financial statements : (3)

Back 81

(1) Most entities should present a classified balance sheet showing current/noncurrent assets & Liabilities
(2) Minimum information requried on face of each financial statement.
(3) Comparative information for prior periods.

Front 82

What characterizes a coherent financial statement?

Back 82

(1) Transparency
(2) Comprehensiveness
(3) Consistency

Front 83

What are the barriers to creating a coherent financial reporting framework?

Back 83

(1) Valuation - historical cost vs. fair value ? ?
(2) Standard Setting - principle based, rules based, objectives oriented, ???
(3) Measurement -

Front 84

According to the IASB Conceptual Framework, the fundamental qualitative characteristics that make financial statements useful are:

Back 84

Relevance and Faithful Representation

Front 85

A company's financial position can be measured by what reporting elements?

Back 85

Assets, Liabilities, Equity

Front 86

A company's performance can be measured by what reporting elements?

Back 86

Income, Expenses, Capital Adj.

Front 87

What comments are required in MD&A?

Back 87

(1) accounting policies and estimates
(2) significant policies and estimates requiring management judgement
(3) Likely impact of implementing recently issued accounting standards.
(4) Impact of adopting a enw standards (will or will not affect financial statements materially)

Front 88

What is a "Provision" ?

Back 88

an estimated expense, for example:

Restructuring Liabilities
Provisions for bad debts
Tax Expense (estimated)
Guarantees
Depreciation
Accruals
Pension

Front 89

What is the key link between the Income Statement and the Balance Sheet ?

Back 89

Retained Earnings

Front 90

When someone refers to "Net Assets" or "Net Worth", they refer to....

Back 90

Assets - Liabilities

Front 91

Anything that affects the Income Statement will affect...

Back 91

Owners' Equity.

Owners' Equity = Contributed Capital + Retained Earnings

(Retained Earnings connects Income Statement to Balance Sheet)

Front 92

What is the Retained Earnings Formula?

Back 92

Beginning Retained Earnings
+ Net Income (Loss)
- Dividends
---------------------------------------
Ending Retained Earnings