2. 2
Financial Statements
Accrual-
based
approach
• Revenues are recorded at the point of
sale and costs when they are incurred,
not necessarily when a firm receives or
pays out cash.
Cash flow
approach
• Used by financial professionals to focus
attention on current and prospective
inflows and outflows of cash.
4. 4
Balance Sheet
• A firm’s balance sheet presents a “snapshot”
view of the company’s financial position at a
specific point in time.
assets = liabilities + stockholders’ equity
6. 6
Income Statement
• Income is also called profit, earnings, or margin.
Income = revenue − expenses
Measures of
Income
• Gross profit
• Operating profit
• Other income
• Earnings before interest and taxes
• Pretax income
• Net income / net profit after taxes
8. 8
Statement of Retained Earnings
• The statement of retained earnings reconciles
• the net income earned during a given year, and
any cash dividends paid,
• with the change in retained earnings between
the start and end of that year.
10. 10
Financial Statements
Statement of
Cash Flows
• Reconciles
• the firm’s operating, investment, and
financing cash flows
• with changes in its cash and
marketable securities
• during the year.
Notes to
Financial
Statements
• Explanatory notes
• that provide detailed information on
the accounting policies, calculations,
and transactions
• underlying entries in the financial
statements.
11. 11
Cash Flow Analysis
• Although financial managers are interested in
the information contained in the firm’s accrual-
based financial statements, their primary focus is
on cash flows.
• Without adequate cash to pay obligations on
time, to fund operations and growth, and to
compensate owners, the firm will fail.
16. 16
Analyzing Financial Performance
Using Ratio Analysis
Liquidity
Ratios
• Measure a firm’s ability to satisfy its short-
term obligations as they come due.
Activity
Ratios
• Measure the speed at which a firm
converts various accounts into sales or
cash.
Debt Ratios
• Measure the proportion of total assets
financed by a firm’s creditors.
Profitability
Ratios
• Relate a firm’s earnings to its sales,
assets, or equity.
Market
Ratios
• Relate a firm’s market value to certain
accounting values.
17. 17
Using Financial Ratios
Benchmark
1
• Analysts compare the current year’s
financial ratios with previous years’ ratios
• to identify trends that help them evaluate the
firm’s prospects.
Benchmark
2
• Analysts compare the ratios of one company
with those of other firms in the same
industry.
25. 25
Corporate Taxes
Corporate taxes represent a significant cash
outflow.
Ordinary
corporate
income
• Progressive tax rate schedule
• Average tax rate: tax divided by the
pretax income
• More relevant for financial decision
making: marginal tax rate
Corporate
capital
gains
• Under existing tax laws, ordinary
income tax rates apply