financial statement & cash flow analysis (intro. to business finance)

© 2009 Cengage Learning/South-Western

Financial Statement and Cash Flow Analysis

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.

3

Financial Statements

Statement ofRetained Earnings

Balance Sheet

Income Statement

Statement ofCash Flows

Notes toFinancial Statements

Financial Statemen

ts

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

5

Balance Sheet for Global Petroleum Corporation

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

7

Income Statement for Global Petroleum Corporation

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.

9

Statement of Retained Earningsfor Global Petroleum Corporation

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

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.

12

The Firm’s Cash Flows

13

Free Cash Flow

• Operating cash flow= earnings before interest and taxes

taxes+ depreciation

• Free cash flow= operating cash flow

change in gross fixed assets change in current assets+ change in account payables+ change in accrued liabilities

14

Inflows and Outflows of Cash

15

Statement of Cash Flows for Global Petroleum Corporation

16

Analyzing Financial PerformanceUsing 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

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.

18

Liquidity Ratios

19

Activity Ratios

20

Debt Ratios

21

Profitability Ratios

22

Profitability Ratios

23

Profitability Ratios

24

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

26

Financial Statement and Cash Flow Analysis

• Balance Sheet

• Income Statement

• Cash Flow Analysis

• Liquidity Ratios

• Activity Ratios

• Debt Ratios

• Profitability Ratios

• Market Ratios