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FINANCIAL ACCOUNTING - BUS 020 - SPRING 2015
Session 19Cash Flows, The Perfect Storm &
Financial Statement Analysis
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FINANCIAL ACCOUNTING - BUS 020 - SPRING 2015
Roots = Financing Activities
Trunk & Branches = Investing Activities
Fruit = Operating Activities
Businesses are like Fruit Trees
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FINANCIAL ACCOUNTING - BUS 020 - SPRING 2015
Statement of Cash Flows
Operating Working capital, day-to-day
transactions Direct versus indirect methods
Investing Non-current assets—mainly PP&E and
marketable securities Financing
Debt, equity and dividends paid
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Accounting’s Perfect Storm
IFRS Adoption Convergence Completion
Including Financial Statement Reformating
Private Company Financial Reporting PCC FRF
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Target Your Efforts
Solvency assurance
Wealth enhancement
Performance improvement
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Start with the 3 P’s
Planning
Processing
Presenting
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Include the Trifecta: Q-S-T
Q: Quantitative analysis
S: Strategic assessment
T: Tactical feasibility
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Tools for Financial Statement Analysis
Ratio analysis Trend analysis Common-size analysis Base period analysis Comparative analysis Horizontal and vertical analyses
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A Financial Statement Approach
Look for key relationships Focus on spending drivers Don’t overlook the Statement of
Cash Flows Remember to measure trends Tell a story
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Guidelines for a Presentation
Clarity Accuracy Simplicity Visually friendly Limit page content
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Cash Flow Red-Flags
Receivable and inventory growth rate exceeds sales growth rate
Payables growth rate exceeds inventory growth rate
Current liabilities grow faster than sales
Sustained operating losses (negative net income)
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Cash Flow Red-Flags (cont’d)
Negative operating cash flow Capital expenditures exceed operating
cash flow Sustained capital expenditures
reductions Sustained sales of marketable
securities in excess of purchases Substantial shift from long to short
term borrowing Dividend reduction or elimination
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Cash Sufficiency Ratio
Cash Flow From Operations + Interest + TaxesPPE + Debt Servicing + Taxes + Dividends
Should be greater than 1 Can easily disaggregate Different footprints for different
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Cash Conversion Cycle
Cash conversion cycle Days in payables ≥ DSO + Days in
inventory
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Typical Common Ratios
Solvency & liquidity Earnings Performance
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Ratio Analysis
General guidelines: Be consistent Ascertain contents of numerator
and denominator Apply common sense…
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Trend Analysis
Static analysis is virtually useless
Trend direction is key Combine with other approaches
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Common-size Analysis
Helpful for size discrepancies Keyed to sales or total assets Helpful for industry comparisons
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Base Period Analysis
Combines trending and percentage analysis
Select representative base year and set the index at 100
Measure subsequent periods in terms of the base year
Helpful for industry comparisons Eliminates size bias
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Comparative Analysis Cautions
Timing variances GAAP variances Conservative vs. Aggressive GAAP Management attitude…”win at all
cost!” Size Geographic venues
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Horizontal and Vertical Analysis
The most basic…and most powerful analytical tool
Key element in fraud detection Keeps the organization under
control
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Horizontal Analysis
Period versus period changes Value changes Percentage changes
Look for irregularities
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Horizontal Analysis - Example
2009 2008 $ Change % Change
Current Assets $400 $300 $100 33%
Total Assets $2,500 $2,200 $300 14%
Current Liabilities $200 $150 $50 33%
Long-term Debt $1,600 $1,500 $100 7%
Equity $700 $550 $150 27%
Total Liabilities & Equity $2,500 $2,200 $300 14%
ABC CompanyPartial Balance Sheets
2008 and 2009
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Vertical Analysis
Relationships within the same period: Numerical relationships Percentage relationships
Look for irregularities
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Vertical Analysis - Example
$ % $ %
Current Assets $400 16% $300 14%
Total Assets $2,500 100% $2,200 100%
Current Liabilities $200 8% $150 7%
Long-term Debt $1,600 64% $1,500 68%
Equity $700 28% $550 25%
Total Liabilities & Equity $2,500 100% $2,200 100%
ABC CompanyPartial Balance Sheets
2008 and 2009
2009 2008
FINANCIAL ACCOUNTING - BUS 020 - SPRING 2015