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62 Cards in this Set
- Front
- Back
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List the four steps to adjusting from accrual based accounting methods to cash based methods.
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1. start with net income 2. add the non-cash charges against income 3. subtract increases in short term non-cash assets 4. add back increases in short term liabilities.
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What are financial statements?
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The basic language that firms use to communicate their prospects to potential stakeholders in the firm.
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What are ratios?
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A way to compare firms of different size in a meaningful way.
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Why is NI not equal to cash flow?
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Accountants use accrual accounting.
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How do accountants use inventory accounting methods to manipulate Net Income?
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By switching to LIFO when production costs rise.
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What California retailer and "stock market darling" went bankrupt while reporting record net income?
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W.T. Grant, because they could not pay their bills on time.
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Why do we need to look closely at Other income?
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To see how sustainable and repeatable the gains or losses are in this category.
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In what two way can EPS (earnings per share) be calculated?
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Primary: total earnings/# shares outstanding
Fully Dilluted: total earnings/ # of shares outstanding if everyone who has the right to buy shares does so. |
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What are the only two things that can happen to Retained Earnings?
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1. they can be paid out as cash dividends 2. retained or reinvested in the firm
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A firm buys back its own stock, is this a positve or negative signal?
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Positiveq
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Does Warren Buffet like stock splits?
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Nope.
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Paying stock dividends is equivalent to what?
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Stock splits.
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What are Quality Earnings?
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Earnings that are sustainable and repeatable through time.
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What is the key variable for so called "value investors"?
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Quality Earnings
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What do value investors believe?
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That the future path of earnings is near impossible to predict. They want to buy the demonstrated quality earnings of a firm at the lowest price possible.
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What's the key to financial statement analysis?
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To distill the firm's financial statements into a "quality earnings" number.
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How do you distill a firm's financial statements into a "quality earnings" number?
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1. reverse the impact of changes in accouning methods on a firms earnings 2. add back in one time losses and subtract out one time gains.
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What is top-down security analysis?
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Evaluating the economic and industry conditions to predict how they affect future earnings.
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Working Capital
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Current Assets - Current Liabilities.
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Define current assets/liabilities.
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Those that come due or will be sold in teh coming 1 year.
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What discussion does working capital bring up?
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Working capital is often used in discussions of firm liquidity but is not a very good liquidity indicator.
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Total assets
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total liabilities + equity
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Why do debtholders love equity?
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it serves as a buffer against losses and makes the firm's owners risk their own money (not just the debtholder's money).
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Is book value or equity equal to market value of equity
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NO!
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What are the two ways to get book value of equity?
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1. subtract total liabilities from total assets 2. add up the equity accounts
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Why is preferred stock a hybrid security?
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It is equity that has debtlike properties.
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Market value of Equity
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stock price * # of shares outstanding
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List the reasons why book value is not equal to market value.
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1. accountants carry assets and liabilities at cost not what they could be sold for 2. intangible assets are not on the balance sheet 3. a firm's value is expected to grow (or decline) in the future. Market value is foreward looking while book value is rooted in the past.
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What is the current market to book ratio for the S&P 500?
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3.2
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Two ways that a firm can go bankrupt.
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1. Run out of liquidity 2. Negative net worth (assets less than liabilities)
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two ways to get liquidity
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store it on your balance sheet and buy it from an intermediary
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Is balance sheet cash a good measure of liquidity?
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Nope.
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What is preferred stock to a bondholder?From a common stock holder?
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Equity. Debt.
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Which is more expensive, secured debt or unsecured debt?
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Secured debt. It is hard to sell secured debt because of monitoring and enforcemnet costs from the lender.
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Good news and bad news about depreciation?
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Good: it reduces taxes by reducing taxable income Bad: it reduces NI
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Three areas of the statement of cash flows:
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1. operating 2. investing 3. financing
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What's the key to understanding cash flows?
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Increases in assets use cash & vice versa. Increases in liabilities generate cash and vice versa.
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What is the exception?
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The depreciation asset account; it's a contra asset account.
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Why is operating cash flows the most important?
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It is the most sustainable and repeatable through time.
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What, for most businesses, is the core of earning power?
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Operating cash flows
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What's the indirect way to calculate operating cash flows?
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1. start with NI
2. add back in noncash charges against income 3. adjust for changes in the current asset and liability accts. |
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Name a good reason why net income would be sufficiently higher than cash flows?
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firm is rapidly expanding into a lucrative new line of business.
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Name bad reasons that NI is higher that CF's?
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firm is having trouble moving its inventory or collecting its accounts receivable.
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a few reasons why it is difficult to calculate the debt/equity ratio:
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1. do you include ST debt with the LT debt? 2. include capital leases as debt? 3. market value or book value?
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current ratio
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current assets/current liabilities
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quick ratio
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(current assets - inventory)/current liabilities
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what does the quick ratio consider?
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the fact that inventories might not be very liquid
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what's the basic problem with balance sheet liquidity measures?
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They don't consider 1. off-balance sheet sources of liquididty such as bank lines of credit and 2. consistent profitability is the best source of liquidity a firm has
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What is the relationship like between liquidity and the expected return on assets?
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inverse relationship
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average collection period
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accounts receivable/ average daily sales
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inventory turnover
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cost of goods sold/ inventory
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fixed asset turnover
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net sales/ net plant,property and equipment
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debt to equity
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total liabilities/ stockholders' equity
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times interest earned (bond-holder ratio)
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operating profit/ interest expense
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gross profit margin
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gross profit/ net sales
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difference between return on assets and return on equity
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financial leverage
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return on assets
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net earnings/ total assets
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return on equity
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net earnings/ stockholders' equity
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two basic sources of risk for a firm
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financial leverage, operating leverage
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What's the key cash driver for any firm?
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gross margin
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The higher the expected growth rate the higher the ___________.
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P/E ratio.
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what is liquidity for an asset
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how quickly and efficiently it can be turned to cash
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