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CBF Exam ReviewCBF Exam Review

Financial StatementsFinancial Statements

Part 1Part 1

Tom Shimko, CCETom Shimko, CCE

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CBF ExamCBF Exam

1. Tests consists of 140 questions1. Tests consists of 140 questions

-- 101 multiple choice questions101 multiple choice questions

-- 39 true/false questions39 true/false questions

2.2. Subject matter coveredSubject matter covered

-- Business Law (law of contracts and Business Law (law of contracts and negotiable instruments)negotiable instruments)

-- Credit LawCredit Law

-- Financial Statements : Interpretation Financial Statements : Interpretation and Credit Risk Assessment and Credit Risk Assessment

3. Answer 70% of the test correctly and you3. Answer 70% of the test correctly and you’’re re a CBFa CBF

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Confucius say:Confucius say:

•• ““Financial statements never lie, but liars Financial statements never lie, but liars

make up financial statements.make up financial statements.””

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Generally Accepted Accounting Generally Accepted Accounting

Principles (GAAP)Principles (GAAP)

•• FASB: Rule making bodyFASB: Rule making body

•• SEC : Ultimate control to regulateSEC : Ultimate control to regulate

•• Rules can differ by industry to some Rules can differ by industry to some

extentextent

•• Rules evolve over timeRules evolve over time

•• Rules are flexibleRules are flexible

•• GAAP versus GAP GAAP versus GAP –– Games Accountants Games Accountants

PlayPlay

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Traditional Assumptions of the Traditional Assumptions of the

Accounting ModelAccounting Model

•• Business entityBusiness entity

•• Going concernGoing concern

•• Time periodTime period

•• Monetary costMonetary cost

•• ConservatismConservatism

•• RealizationRealization

•• MatchingMatching

•• ConsistencyConsistency

•• Full disclosureFull disclosure

•• MaterialityMateriality

•• Industry practicesIndustry practices

•• Transaction approachTransaction approach

•• Cash basisCash basis

•• Accrual basisAccrual basis

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Realization PrincipleRealization Principle

•• Concept that generally recognizes revenue Concept that generally recognizes revenue

when the earning process is virtually when the earning process is virtually

complete and the exchange of value can complete and the exchange of value can

be objectively determined.be objectively determined.

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Materiality ConceptMateriality Concept

•• The concept that exempts immaterial The concept that exempts immaterial

items from the concepts and principles items from the concepts and principles

that bind the accountant and allows these that bind the accountant and allows these

items to be handled in the most items to be handled in the most

economical and expedient manner.economical and expedient manner.

•• Materiality varies by the size of the Materiality varies by the size of the

company.company.

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AuditorAuditor’’s Reports Report

•• Management is responsible for preparation Management is responsible for preparation

of the financial statementsof the financial statements

•• Auditors (CPAs) provided an independent Auditors (CPAs) provided an independent

opinion of the financial statementsopinion of the financial statements

•• CPAs test for the fairness of the financial CPAs test for the fairness of the financial

statementsstatements

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Types of Audit OpinionsTypes of Audit Opinions

•• Unqualified Unqualified

•• QualifiedQualified

•• AdverseAdverse

•• Disclaimer of opinionDisclaimer of opinion

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Accrual Basis of AccountingAccrual Basis of Accounting

•• Revenue is recognized when realized and Revenue is recognized when realized and

expenses are recognized when incurred.expenses are recognized when incurred.

•• Realization and matching concepts.Realization and matching concepts.

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The Financial StatementsThe Financial StatementsBalance SheetBalance Sheet

* * Shows the financial position at a point in Shows the financial position at a point in time time -- Stock of resourcesStock of resources

Income StatementIncome Statement

* Profit or loss for the accounting period* Profit or loss for the accounting period

* Flow of resources* Flow of resources

Statement of Retained EarningsStatement of Retained Earnings

*Reconciles the change in retained earnings*Reconciles the change in retained earnings

*Captures income statement in the balance *Captures income statement in the balance sheetsheet

Statement of Cash FlowsStatement of Cash Flows

*Separates cash flows into operating *Separates cash flows into operating activities, investing activities and financing activities, investing activities and financing activities *sources and uses of fundsactivities *sources and uses of funds

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The Balance SheetThe Balance Sheet

Accounting EquationAccounting Equation

*Assets=Liabilities+Stockholder*Assets=Liabilities+Stockholder’’s Equitys Equity

Assets Assets –– What the firm ownsWhat the firm owns

LiabilitiesLiabilities--What the firm owes to creditorsWhat the firm owes to creditors

Equity Equity –– What the firm owes to internalWhat the firm owes to internal

owners (shareholders)owners (shareholders)

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Balance SheetBalance SheetAssets:Assets:

CurrentCurrent Assets that turnover quicklyAssets that turnover quickly

FixedFixed LongLong--term investmentsterm investments

OtherOther Usually intangiblesUsually intangibles

Liabilities:Liabilities:

CurrentCurrent Debt due within one yearDebt due within one year

LongLong--termterm Debt due beyond one yearDebt due beyond one year

Equity:Equity:

Common StockCommon Stock Par value of outstanding stockPar value of outstanding stock

PaidPaid--in capitalin capital Amount over par valueAmount over par value

Retained earningsRetained earnings Accumulated profits less Accumulated profits less dividendsdividends

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CommonCommon--Size Financial Size Financial

StatementsStatements

•• A form of vertical ratio analysis that allows for a A form of vertical ratio analysis that allows for a

comparison of firms with different levels of sales comparison of firms with different levels of sales

or total assets by introducing a common or total assets by introducing a common

denominator.denominator.

•• On the balance sheet, the common denominator On the balance sheet, the common denominator

is total assets or total liabilities and equity.is total assets or total liabilities and equity.

•• On the income statement, the common On the income statement, the common

denominator is sales.denominator is sales.

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ConsolidationConsolidation

•• Balance sheet represents a consolidation of Balance sheet represents a consolidation of parent and subsidiariesparent and subsidiaries

*Parent owns 50% or more of each sub*Parent owns 50% or more of each sub

*Less than 100% ownership results in a minority *Less than 100% ownership results in a minority interestinterest

-- Shown as a liability on the balance sheetShown as a liability on the balance sheet

*Subsidiaries are separate legal entities*Subsidiaries are separate legal entities

-- Subs consolidated since parent controlsSubs consolidated since parent controls

*Non*Non--consolidated subsidiaries are shown consolidated subsidiaries are shown as investments.as investments.

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Current AssetsCurrent Assets

•• Current assets include:Current assets include:

*Cash , marketable securities, receivables, *Cash , marketable securities, receivables, inventory, prepaid expenses (noninventory, prepaid expenses (non--cash source)cash source)

*Assets expected to be converted into cash *Assets expected to be converted into cash within 1 year or an operating cyclewithin 1 year or an operating cycle

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Operating CycleOperating Cycle

•• Definition: Time between the acquisition of Definition: Time between the acquisition of

inputs to make a product and the realization of inputs to make a product and the realization of

cash from selling a finished product.cash from selling a finished product.

* Measured in days* Measured in days

-- Days outstanding in inventoriesDays outstanding in inventories

-- Days outstanding in receivablesDays outstanding in receivables

Conclusion: The shorter the operating cycle, the Conclusion: The shorter the operating cycle, the

better.better.

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Days Sales OutstandingDays Sales Outstanding

Accounts Rec.Accounts Rec. X 360 days = DSOX 360 days = DSO

Net SalesNet Sales

Inventory Carrying PeriodInventory Carrying Period

Average InventoryAverage Inventory X 360 days = ICPX 360 days = ICP

Cost of Goods SoldCost of Goods Sold

DSO + ICP = Operating CycleDSO + ICP = Operating Cycle

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InventoriesInventories

•• Inventory investment consists of: raw materials, Inventory investment consists of: raw materials,

WIP and finished goodsWIP and finished goods

•• Balance sheet, income statement and cash flow Balance sheet, income statement and cash flow

statement affected by inventory accountingstatement affected by inventory accounting

* FIFO more correctly states the balance sheet* FIFO more correctly states the balance sheet

* LIFO more correctly states the income * LIFO more correctly states the income

statementstatement

* Average is between FIFO and LIFO* Average is between FIFO and LIFO

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Fixed AssetsFixed Assets

Property, Plant and EquipmentProperty, Plant and Equipment

•• Produce economic benefits beyond one Produce economic benefits beyond one

year year

•• Depreciated over the period of benefitDepreciated over the period of benefit

•• Land is an exceptionLand is an exception

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Other AssetsOther Assets

•• CatchCatch--all categoryall category

•• Examples:Examples:

* Property held for resale* Property held for resale

* Intangible assets* Intangible assets

* Long* Long--term investmentsterm investments

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Current LiabilitiesCurrent Liabilities

•• Liabilities due within one yearLiabilities due within one year

•• Consist of:Consist of:

* Accounts payable* Accounts payable

* Accrued liabilities* Accrued liabilities

* Short* Short--term bank debtterm bank debt

* Maturities of long* Maturities of long--term debtterm debt

* Deferred taxes* Deferred taxes

* Unearned revenue* Unearned revenue

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LongLong--Term DebtTerm Debt

••Obligations maturing beyond Obligations maturing beyond

one yearone year

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StockholdersStockholders’’ EquityEquity

•• Represents ownership interest in the Represents ownership interest in the

companycompany

•• Consists of:Consists of:

* Common Stock at par* Common Stock at par

* Additional paid* Additional paid--in capitalin capital

* Retained earnings* Retained earnings

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Additional PaidAdditional Paid--in Capitalin Capital

••Reflects difference between sale Reflects difference between sale

price of stock and par valueprice of stock and par value

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Retained EarningsRetained Earnings

•• Aggregate profits minus aggregate Aggregate profits minus aggregate

dividends paid since the inception of the dividends paid since the inception of the

business.business.

•• Retained earnings = Undistributed IncomeRetained earnings = Undistributed Income

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Financial StatementsFinancial Statements

Continued in Part 2Continued in Part 2