Balance Sheet and Statement of Cash Flows Chapter 5

1. Balance Sheet and Statement of Cash FlowsChapter 5

2. Balance Sheet Usefulness of the Balance Sheet • Evaluating the capital structure. • Assess risk and future cash flows. • Analyze the company’s: • Liquidity, • Solvency, and • Financial flexibility. LO 1 Explain the uses and limitations of a balance sheet.

3. Balance Sheet Limitations of the Balance Sheet • Most assets and liabilities are reported at historical cost. • Use of judgments and estimates. • Many items of financial value are omitted. LO 1 Understand the uses and limitations of an income statement.

4. Balance Sheet Claims against resources (Liabilities) Remaining claims accruing to owners (Owners’ Equity) Resources (Assets)

5. Current Assets Cash Receivables Inventories Prepayments Current Assets Will be converted to cash or consumed within one year or the operating cycle, whichever is longer.

6. Balance Sheet – “Current Assets” Current Assets - “Summary” Cash and other assets a company expects to • convert into cash, • sell, or • consume either in one yearor in the operating cycle, whichever is longer. LO 2 Identify the major classifications of the balance sheet.

7. Balance Sheet – “Current Assets” Receivables • Claims held against customers and others for money, goods, or services. • Accounts receivable – oral promises • Notes receivable – written promises • Major categories of receivables should be shown in the balance sheet or the related notes. LO 2 Identify the major classifications of the balance sheet.

8. Balance Sheet – “Current Assets” Accounts Receivable – Presentation Options Current Assets: Cash $ 346 Accounts receivable 500 Less allowance for doubtful accounts 25 475 Inventory 812 Total current assets $1,633 1 2 Current Assets: Cash $ 346 Accounts receivable, net of $25 allowance 475 Inventory 812 Total current assets $1,633 LO 2 Identify the major classifications of the balance sheet.

9. Non-Current Assets Investments and Funds Property, Plant, & Equipment Intangibles Other Noncurrent Assets Not expected to be converted to cash or consumed within one year or the operating cycle, whichever is longer

10. Balance Sheet – “Noncurrent Assets” Long-Term Investments Securities • bonds, • stock, and • long-term notes For marketable securities, management’s intent determines current or noncurrent classification. LO 2 Identify the major classifications of the balance sheet.

11. Balance Sheet – “Noncurrent Assets” Long-Term Investments Fixed Assets • Land held for speculation LO 2 Identify the major classifications of the balance sheet.

12. Balance Sheet – “Noncurrent Assets” Long-Term Investments Special Funds • Sinking fund • Pensions fund • Cash surrender value of life insurance LO 2 Identify the major classifications of the balance sheet.

13. Balance Sheet – “Noncurrent Assets” Long-Term Investments Nonconsolidated Subsidiaries or Affiliated Companies LO 2 Identify the major classifications of the balance sheet.

14. Balance Sheet – “Noncurrent Assets” Property, Plant, and Equipment Assets of a durable nature used in the regular operations of the business. LO 2 Identify the major classifications of the balance sheet.

15. Balance Sheet – “Noncurrent Assets” Intangibles • Lack physical substance and are not financial instruments. • Limited life intangibles amortized. • Indefinite-life intangibles tested for impairment. LO 2 Identify the major classifications of the balance sheet.

16. Balance Sheet – “Noncurrent Assets” Other Assets This section should include only unusual items sufficiently different from assets in the other categories. LO 2 Identify the major classifications of the balance sheet.

17. Current Liabilities Accounts Payable Notes Payable Accrued Liabilities Current Maturities of Long-Term Debt Current Liabilities Obligations expected to be satisfied through current assets or creation of other current liabilities

18. Balance Sheet Current Liabilities “Obligations that a company reasonably expects to liquidate either through the use of current assets or the creation of other current liabilities.” LO 2 Identify the major classifications of the balance sheet.

19. Non-Current Liabilities Capital Leases Bonds Payable Long-Term Notes Payable Pension Liabilities Long-Term Liabilities Obligations that will not be satisfied within one year or operating cycle, whichever is longer

20. Balance Sheet Long-Term Liabilities “Obligations that a company does not reasonably expect to liquidate within the normal operating cycle.” All covenants and restrictions must be disclosed. LO 2 Identify the major classifications of the balance sheet.

21. Shareholders’ Equity Other Contributed Capital Capital Stock Treasury Stock Retained Earnings Accumulated Other Comprehensive Income

22. Now, let’s look at some ratios!

26. Current assets Current liabilities $2,102,631 $977,188 Current ratio 2.15 = = Measures a company’s ability to satisfy its short-term liabilities Liquidity Ratios 2011 2012 $1,453,144 $879,361 1.65 = Current ratio

27. Quick assets Current liabilities Provides a more stringent indication of a company’s ability to pay its current liabilities $1,519,605 $977,188 $921,590 $879,361 Acid-test ratio = Liquidity Ratios 2011 2012 = 1.56 1.05 = Acid-test ratio

28. Total liabilities Shareholders’ equity Debt to equity ratio = $1,491,747 $3,802,469 .39 = Indicates the extent of reliance on creditors, rather than owners, in providing resources Debt to equity ratio Financing Ratios 2012 2011 $1,300,770 $2,991,305 .43 =

29. Net income + Interest expense + Taxes Interest expense Times interest earned ratio $752,398 $354 = = 2,125 Indicates the margin of safety provided to creditors Times interest earned ratio Financing Ratios 2012 2011 $555,594 $3,882 = 143

30. Now, let’s move on to a new topic.

31. Statement of Cash Flows The Statement of Cash Flows provides relevant information about the cash receipts and cash payments of an enterprise during a period. It provides answers to questions: 1. Where did the cash come from during the period? 2. What was the cash used for during the period? 3. What was the change in the cash balance during the period?

32. The Statement of Cash Flows Content and Format • Three different activities: • Operating, • Investing, • Financing Illustration 5-24 LO 7 Identify the content of the statement of cash flows.

33. Statement of Cash Flows Cash Flows from Operating Activities Reports the cash effects of transactions that enter into the determination of net income. The direct method and indirect method are two different approaches to report cash flows from operations. Each has its advantages and disadvantages, but each reconciles to the same number for total cash flows from operating activities.

34. Statement of Cash Flows Cash Flows from Investing Activities Reports cash effects of transactions that result in a change in long-term assets. For example: Buying or selling property, plant, or equipment Buying or selling financial investment instruments

35. Statement of Cash Flows Cash Flows from Financing Activities Reports cash effects of transactions that result in a change in long-term liabilities and stockholder’s equity. For example: Acquiring or paying down borrowings Issuing capital stock Paying dividends to stockholders

36. Basic Format for the Statement of Cash Flows Cash flows from operating activities: $$ Cash flows from investing activities: $$ Cash flows from financing activities: $$ Net increase in cash$$ Cash at beginning of year $$ Cash at end of year$$ Involve the purchase and sale of products or services Involve the acquisition and sale of long-term assets Involve the issuance and payment of long-term liabilities and stock

37. The Statement of Cash Flows Review In preparing a statement of cash flows, which of the following transactions would be considered an investing activity? a. Sale of equipment at book value b. Sale of merchandise on credit c. Declaration of a cash dividend d. Issuance of bonds payable at a discount receivable. LO 8 Prepare a statement of cash flows.