REVIEW OF ACCOUNTING Chapter 2

1
REVIEW OF ACCOUNTING(Chapter 2)

• Financial Statements
• Balance Sheet
• Income Statement
• Statement of Cash Flows
• Free Cash Flow
• Corporate Taxes
• Individual Taxes

2
BALANCE SHEET Statement of Financial Position
12/31/xx

• Cash
• Marketable Securities
• Accounts Receivable
• Inventory
• Total Current Assets
• Investments
• Plant Equipment
• Less Accumulated Dep.
• TOTAL ASSETS

• Accounts Payable
• Notes Payable
• Accrued Expenses
• Total Current Liabilities
• Bonds Payable
• Total Liabilities
• Preferred Stock
• Common Stock
• Paid-in-Capital
• Retained Earnings
• Total Stockholders Equity
• TOTAL LIABILITIES EQUITY

3
BALANCE SHEET(Continued)

• Current Assets Can or will be used up during the
  next accounting cycle (normally - one year).
• Current Liabilities Short-term obligations to
  creditors.
• Preferred Stock A hybrid security (Will discuss
  later).
• Common Equity
• Common Stock
• Paid-in-Capital
• Retained Earnings
• (i.e., All equity except preferred stock)

4
INCOME STATEMENT(For the Year Ended 12/31/xx)

• Sales
• (Cost of Goods Sold)
• Gross Profit
• (Depreciation)
• (Other Operating Expenses)
• Operating Profit (EBIT)
• (Interest)
• Earnings Before Taxes (EBT)
• (Taxes)
• Earnings After Taxes (EAT)
• (Preferred Dividends)
• Earnings Available to Common (EAC)

5
INCOME STATEMENT(Continued)

• Note Dividends are a distribution of after-tax
  income.
• EAC is available for common dividends or retained
  earnings.
• Earnings Per Share (EPS)
• EPS (EAC)/(Number of Common Shares)
• Price Per Share
• Price (EPS)(P/E Ratio)

6
STATEMENT OF CASH FLOWS(For the Year Ended
12/31/xx)

• CASH FLOWS FROM OPERATING ACTIVITIES
• Net income after taxes
• Depreciation and amortization
• or - changes in current and noncurrent
  accounts that are associated with the sale of
  goods and services
• Net Cash Flows from Operating Activities
  (1)
• CASH FLOWS FROM INVESTING ACTIVITIES
• Sales of plant, property, and equipment
• - Purchases of plant, property, and equipment
• Net Cash Flows from Investing Activities
  (2)
• CASH FLOWS FROM FINANCING ACTIVITIES
• Increases in debt, preferred stock, common
  stock, and paid-in-capital
• - Decreases in debt, preferred stock, common
  stock, and paid-in-capital
• - Dividend payments
• Net Cash Flows from Financing Activities
  (3)
• EFFECT OF FOREIGN EXCHANGE RATES ON CASH
  (4)

7
STATEMENT OF CASH FLOWS(Continued)

• The net increase or (decrease) in cash flows for
  the period under consideration is equal to the
  sum of (1), (2), (3), and (4), on the previous
  statement of cash flows.
• This amount should be equal to the change in the
  cash account from the beginning to the end of the
  period.

8
Free Cash Flow (FCF)

• Cash flow that is available for special financing
  activities
• Cash flow from operating activities
• Less Capital expenditures required to maintain
  the firms productive capacity.
• Less Dividends needed to cover preferred stock
  obligations and maintain the necessary payout on
  common stock.
• Equals Free Cash Flow (FCF)

9
Corporate Taxes(Some Considerations)

• Tax Rates Progressive (Higher levels of income
  are taxed at higher rates.)
• Interest Paid Tax deductible.
• Dividends Paid Not tax deductible. (Results in
  double taxation.)
• Interest Income Taxed as ordinary income.
• Dividend Income Normally, 70 of dividend
  income is excluded from taxation. (Avoids,
  somewhat, triple taxation.)

10
Federal Individual Tax Rates(Some Comments)

• Tax rates are progressive.
• Interest Income Usually taxed as ordinary
  income.
• Municipal bond interest income is as exception.
• Dividend Income Taxed as ordinary income.
• Interest Paid Usually not tax deductible.
• Mortgage interest is an exception.