An overview of financial management

1. An Overview of Financial Management

17. The Income Statement The income statement provides a summary of the revenues and expenses of a company during an accounting period Income statements may be compiled for any period of time (annual, quarter, month, etc.)

18. Important Notes about the IS The income statement includes only revenues and expenses These revenues and expenses are for a particular period of time and are not cumulative Depreciation is a non-cash expense Dividends paid to stockholders are not deductible, but 30%of dividends received are counted as taxable income

19. Depreciation and Cash Flow Depreciation is a non-cash expense that is subtracted from revenues when calculating net income Because of depreciation, net income does not represent the funds that a firm has available for expansion or paying dividends Instead of net income, financial analysts are generally concerned with cash flow: Cash Flow = Net Income + Non-Cash Expenses Operating Cash Flow = EBIT + Non-Cash Exp - Taxes

20. The Balance Sheet The balance sheet shows the amount of assets, liabilities and equity of a firm at a point in time Assets are the things that a firm owns Liabilities are the debts of the firm Equity is the difference between assets and liabilities

21. Notes on the Balance Sheet Accumulated depreciation is an accumulation account Common equity is made up of: Common stock Additional paid-in capital Retained earnings Retained earnings is an accumulation account, and changes each period according to the formula:

22. The Statement of Cash Flows This statement shows where a firm’s funds came from and how they were used Three parts: Funds from Operations Funds from Investing Funds from Financing

23. Sources vs. Uses of Funds Essentially, there are two types of transactions that a firm engages in: Those that increase the cash balance are referred to as sources of funds Those that decrease the cash balance are referred to as uses of funds Source ( + ) Use ( - ) Asset Liability

24. Why Do We Pay Taxes? There are at least three reasons that we pay taxes: To raise revenues To achieve social objectives To manipulate the economy

25. Calculating Corporate Income Taxes

26. Corporate Taxes Graphically

27. Marginal vs. Average Tax Rates Tax rates are commonly discussed in two different ways: The marginal tax rate is the rate that will be paid on the next dollar of taxable income The average tax rate is the average rate that is paid on each dollar of taxable income The marginal tax rate is the rate that is appropriate to use for decision making purposes

28. Corporate Taxes: Example 1

29. Corporate Taxes: Example 2

30. Depreciation Accountants define depreciation as, “a systematic method of allocating the cost of an asset over its useful life.” For tax purposes, we aren’t allowed to deduct the full cost of an asset in the year of purchase. Instead, we must deduct the cost over the life of the asset through depreciation In finance, we tend to think of depreciation as a way of reducing taxes

31. Straight-line Depreciation Straight-line depreciation assumes that the value of an asset declines equally in each year of its life:

32. MACRS Depreciation Generally speaking, we prefer to receive cash flows sooner rather than later Ideally, we would like to be able to deduct the full cost of an asset at the time of purchase However, except for small assets, this is not allowed The IRS does allow accelerated depreciation which is an improvement over straight-line because it allows quicker tax savings