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83 Cards in this Set
- Front
- Back
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examples of hybrid securities
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1. Preferred stock subject to mandatory redemption (liability)
2. Bonds convertible to common stock 3. Interest payments on debt tied to operating performance |
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examples of off balance sheet financing
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1. sales of an existing asset
2. output purchase commitments 3. special purpose entities 4. sale of A/R (factoring) with recourse 5. Joint ventures -take or pay or throughput |
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take or pay joint ventures
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promise to pay along the way
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special purpose entities
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allows you to have contractual benefits of activity without taking ownership
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derivatives
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financial instrument that derives its value from some other financial instrument
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2 goals of derivatives
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1. hedge risks (FV or CF hedges)
2. Speculation |
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FV hedges
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mark to market on balance sheet at each period
-charge gains/ losses to NI -related to assets |
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cash flow hedge
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mark to market each period
-charge gain/loss to comprehensive income -relate to CF's |
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Speculation
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mark to market each peirod
-run through income statement |
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Value atrisk
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-measures worst expected loss over a given time interval under normal market conditions at a given confidence level
-attempts to make risk assessment in one measure -VAR's based on historical data can't capture potential losses |
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5 elements of pensions
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1. Service cost
2. Interest on pension liability 3. Actual return on plan assets 4. amortization of PSC 5. Amortization of unrecognized net gain or loss |
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SFAS 158
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-requires use of PBO
-firms can't show excess of plan FMV over PBO as asset |
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post retirement healthcare costs
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-firms must recognize cost of post-retirement healthcare costs during employee's years of srvice
-effects shown in comprehensive income (SFAS 158) |
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reserves in US
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flows through IS in NI or other comprehensive income
-may appear as reduction to assets or liabilities |
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reserves in foreign firms
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-equity accounts adjusted directly in some cases with no IS effect
-some countries allow income shifting between periods |
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what influences an accounting system
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1. business activities
2. accounting environment 3. accounting strategy |
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inputs to financial analysis
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1. Financial statement
2. credit analysis 3. securities analysis 4. M&A Analysis 5. General business analysis |
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accounting analysis
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evaluate quality of acct information
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financial analysis
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evaluating performance using ratios & cash flows
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prospective analysis
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making financial forecasts and valuing the firm
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profit and growth drivers
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1. product market strategies
2. financial market strategies |
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product market strategies
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1. operating management
2. investment management |
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financial market strategies
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1. financing strategy
2. dividend policy |
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steps in financial statement analysis
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1. ID industry economic characteristics
2. ID company strategies 3. Assess the quality of financial statements 4. Analyze profitability and risk Forecast future financial results 5. and (possibly) value the company |
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questions for id industry economic characteristics
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1. What is the nature of the industry?
2. Is the demand for the product derived from the demand for some other product? 3. What is the likely industry growth rate in sales? 4. What are the industry ROA and ROE? 5. How important are R&D and technology? 6. Where are the profits made? |
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tools for id economic characteristics
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1. value chain analysis
2. Porter's 5 forces 3. Economic attributes framework |
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value chain analysis
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1. ID major steps in getting a product to market from raw material to end of life cycle
2. Determine which of the steps the firm being analyzed participates 3. Draw inferences |
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Economic Attributes Framework and framework for strategy analysis
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1. Nature of product or service
2. Degree of integration within value chain 3. Degree of geographical diversification 4. Degree of industry diversification |
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Questions to id company strategies
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1. What are the company’s announced market strategies?
2. What are the company’s market niches, both in terms of products and geography? 3. What changes are taking place in the product mix? 4. Nature of vertical integration? |
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Profit/risk analysis tools
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1. common size FS
2. % change statements 3. ratios-profitability and risk |
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why cash flows don't equal income flows
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1. accrual accounting used for net income
2. noncash expenses |
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2 types of adjustments in indirect CF method
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1. non "working capital" accounts (Type 2)
2. Adj. for changes in working capital accounts (Type 2) |
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working capital
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current assets minus current liabilities
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non "working capital" accounts
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depreciation
deferred income taxes stock option expense gain/loss on disposition of PP&E |
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working capital accounts
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1. accounts receivable, inventories, etc
2. accounts payable, current liabilities, etc |
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Type 1 adjustments
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adjustments to NI for rev, exp, gains, losses recognized in inc & assoc w/ changes in noncurrent accounts but do not affect cash (e.g., depreciation)
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Type 2 adjustments
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adjustments to NI for rev, exp, gains, losses recognized in inc & assoc w/ changes in WC accounts but do not affect cash (e.g., revenues booked v. cash collected)
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introduction of product live cycles
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1. Revenues are low
2. Net income may be negative (losses) 3. Negative CF from operating activities 4.Negative CF from investing activities 5. External financing (Positive CF from financing) |
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growth-product life cycle
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1. Increasing revenues
2. Net income becomes positive 3. Increasing cash flows from operations 4. Continuing negative cash flows from investing activities 5. Decreasing positive cash flows from financing activities |
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maturity-product life cycle
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1. Peak revenues
2. Net income also peaks 3. Positive cash flows from operations 4. Cash flows from investing activities may begin to increase 5. Cash flows from financing activities may become negative (repayment of debt, stock repurchases, etc.) |
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decline-product life cycle
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1. Revenues decrease
2. Net income decreases (may become negative) 3. Cash flows from operations decreases 4. Cash flows from investing activities positive (as firm divests) 5. Cash flows from financing activities negative |
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3 types of ratio analysis
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1. Profitability analysis
-ROCE decomp. -ROA decom 2. Risk analysis 3. solvency analyis |
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decomp of ROE
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Profit Margin X Asset Turn X Leverage
-can increase this by increasing leverage |
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decomp of ROA
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Profit Margin X Asset Turnover
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3 ways to increase ROE
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1. increase amounts of profits made on each dollar of sales
2. increase amount of sales for a given level of assets 3. increase leverage |
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ROE regression relationship to mean
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-over the LT ROE regresses towards mean because of competition, imitation, management changes
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liquidity risk
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firm’s ability to pay ST obligations as they mature
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solvency risk
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firm’s ability to pay LT obligations & remain in business
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2 types of ratio analysis
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1. time series (trend) analysis
2. cross-section analysis (comparison to other companies in industry) |
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examples of changes in accounting principle
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1. Inventory costing
2. Depreciation method 3. LT construction contracts 4. Change from full cost or successful efforts in extractive industries. |
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unusual
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events or transactions that possess a high degree of abnormality and are of a type clearly unrelated or incidentally related to the ordinary and typical activities of the company
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nonrecurring
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events or transactions that are not expected to recur in the foreseeable future
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extraordinary
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events or transactions that are distinguished by their unusual nature and infrequency of occurrence. That is, an extraordinary item is BOTH unusual and nonrecurring.
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characteristics of quality in accounting info
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1. Economic validity in terms of value and future benefits captured (e.g., accurate)
2. Reliability over time (e.g., consistent info in MD&A) 3. Reasonableness in terms of conventional financial interpretation (e.g., conformity to GAAP) 4. Completeness in disclosure (e.g., all material contingent items disclosed) 5. Relevance to important decisions (e.g., Does it change the decision?) |
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items affecting quality of earnings
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1. discontinued operations
2. extraordinary items 3. changes in acct principles 4. items in OCI 5. asset impairment 6. restructuring and other charges 7. changes in estimates 8. gains/losses from peripheral activities |
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recording of discontinued operations at measurement date
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1. Firm estimates income (loss) between measurement and disposal date and gain (loss) from abandonment
2. Loss is recognized on income statement 3. Balance sheet account is established (Estimated Losses from Discontinued Operations) 4. Effectively moves income effects out of the income stream except to the extent that re-estimated losses exceed original loss estimate 5. Gains above original estimate are not recorded until realized at disposal |
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changes in acct principles
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1. Effects of changes (net of taxes) segregated on separate line in income statement.
2. Must calculate cumulative difference in NI under old and new methods from beginning of FY. |
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items reporting in OCI
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1. marketable equity securities
2. hedge derivatives 3. min. pension obligations 4. investments in foreign operations |
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impairment
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-loss should be reflected on BS and in income from continuing operations
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goodwill
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the excess of cost over the net of the amounts assigned to acquired assets and assumed liabilities
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measurement of goodwill
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-Acquisition cost first assigned to tangible assets and then to separately identifiable intangible assets based upon their values
-remainder is goodwill |
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SFAS 141
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goodwill doesn't have to be amortized
-requires annual test of goodwill impairment at reporting unti level (operating segment of company) |
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how FMV of rep. unit determined
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1. Quoted prices in active markets if available (best method)
2. Prices for similar assets & liabilities 3. PV future expected cash flows 4. Multiples of earnings or revenue |
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2 step process for goodwill impairment
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1. Compare FV reporing unit w/carrying value of goodwill
-if FMV>carrying amt, no impairment -if FMV<carrying amt, go to step 2 2. Compare implied FMV goodwill with CV -if CV>implied FMV, excess is impairment loss |
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Implied FMV
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-FMV of rep unit allocated to all assets and liab of the unit as if it had been acquired in a bus combination where the FMV was price paid
-Excess of FMV is implied goodwill |
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restructuring charges
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-Relates to major changes in the strategy or scope or scale of operations on a business or segment.
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changes in estimates
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-Examples are depreciation, warranty expense, allowance for uncollectible accounts
-effects of revisions spread over current and future years |
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peripheral activities
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-ex. occasional sales of production assets
-effects include in income from continuing operations |
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restatements of prior years statements
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-must do for discontinued operations, or changes in acct principles
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why manage earnings
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1. Manager compensation and job security
2. Lending concerns (debt covenants) 3. Ward off anti-trust actions 4. Signals to markets and competition |
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why not manage earnings
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1. Penalties if caught by SEC
2. Legal risk 3. Eventuality of discovery |
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acct for intangibles
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1.cost of development expensed in period incurred
2. acquired intangibles capitalized at cost 3. Cost of separately identifiable intangibles amortized over useful life |
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calculating impairment of intangibles
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-Compares undiscounted CF to carrying value
-Loss recognized when CV > FV -loss amortized |
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R&D costs
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FASB requires immediate expensing
-some firms create JVs to circumvent -analysts might want to capitalize and amortize over estimated useful life or consolidate firm's share of R&D JVs |
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software development costs
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-expense costs until reaching stage of technological feasibility
-capitalized and amortized thereafter |
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Accounting for intercorporate entities
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1. Purchase method
2. pooling method |
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purchase method
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-Acquisition mentality
-Common stock acquired recorded at MV -If price > MV net assets acquired, excess allocated to goodwill -Excess related to specific assets is generally written off over life of those assets -Intangibles with indefinite lives and excess purchase price (goodwill) not amortized -Applies to goodwill and intangibles already on the balance sheet from past transactions as well as that resulting from transactions post SFAS 141 |
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pooling method
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-Merger of equals mentality
-Stock exchanged for stock -Financial statements combined at carrying values of assets and liabilities -Closely paralleled that of a tax-free reorganization (beyond scope of this course) -No asset write-up: post-combination depreciation same as sum of pre-combination -Except for synergies, post-combination earnings were same as pre-combination earnings |
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FAS 141
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eliminated pooling
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purchase accounting
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-Transaction costs are added to purchase price to determine total allocable amount
-Amount by which allocable price exceeds or falls short of the BV of the assets acquired represents the potential write-up or write-down of the assets. -Relates to relevance of determining which party is the acquirer -Target’s assets are subject to write up but not acquirer’s |
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ceteris paribus
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a smaller accounting write-up means less depreciation and amortization and a smaller drag on future acct earnings
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allocating purchase price
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Proceeds paid to selling SH
+all liabilities assumed =asset purchase price to be allocated -FV of identifiable assets =goodwill residual |
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FAS 141 and 142 changes
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1. no poolings after 6/30
-old poolings grandfathered -old and new purchases adopt new standard 2. no unidentifiable intangibles are amortized but still impairment testing |
