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1. EMBA 512Assessing Business Opportunities
2. EMBA 512 Assessing Business Opportunities October Sessions Preview Concepts Application Tools Connection Foundation Skills – Part 1 This course provides an integrated foundation in accounting, economics, finance, marketing, operations management, strategic planning and interpersonal dynamics in the context of assessing business opportunities. Financial metrics Microsoft Excel Intuitor, Thinker, Feeler, Sensor Analysis Financial Reporting Demand Microeconomics Budgeting Sales Forecasting Tax
3. EMBA 512 Assessing Business Opportunities October Sessions Preview Concepts Application Tools Connection Foundation Skills – Part 1 This course provides an integrated foundation in accounting, economics, finance, marketing, operations management, strategic planning and interpersonal dynamics in the context of assessing business opportunities. Financial metrics Microsoft Excel Intuitor, Thinker, Feeler, Sensor Analysis Financial Reporting Demand Microeconomics Budgeting Sales Forecasting Tax
4. 512 Course Routine Pre/post work allocation time budget for the month between sessions two weeks immediately prior to face-to-face sessions dedicated to prework (40 hours) two weeks following face-to-face session dedicated to post session assignments (40 hours)
5. (from Syllabus, page 5)
6. (from Syllabus, page 6)
7. The Culminating Project An integration exercise identify a future opportunity a new product, market, line of business acquisition of another company etc. assess the feasibility of this opportunity what information will you need? how will you deal with insufficient data? what analyses must you perform? present your results to the faculty
8. Culminating Project Details Described in full in session 25 syllabus step 1—each member identifies an opportunity write up a short summary step 2—team discussion (flex time, Oct, Nov) step 3—team selects one as its project approved by faculty (session 17—Saturday, Nov. 16, PM ) step 4—team presents project during session 25 (Sat., Dec. 14)
9. The Culminating Project Presentations are limited to 20 minutes at least two group members speak A wide range of topics in this course don't try to weave all of it in incorporate what makes sense No paper is required are free to develop handouts containing your PowerPoint slides or other supporting materials
10. The Culminating Project A tips for success think carefully about scope? A recurring issue dealing with inadequate data how will you assess the feasibility? what information will you need?
11. EMBA 512Assessing Business Opportunities

    Financial Reporting Module

12. Financial Reporting Module Objective assist you in becoming more sophisticated in your understanding and use of financial statements what’s the link to opportunity assessment? financial accounting provides much of the information by which prospects are measured Complex area focus of a semester long course
13. The Accounting System Provides information for many financial decisions internal users (managerial accounting) planning control external users (financial accounting) investing lending customer/supplier negotiations labor negotiations
14. The Financial Statements Balance Sheet statement of financial position (moment in time) assets--the valuable resources of a company subject to GAAP measurement conditions liabilities--the claims of outsiders to the resources subject to GAAP measurement conditions equity--the residual that belongs to the owners Fundamental asset characteristics: a future benefit controlled by the company flowing from a past transaction
15. Google, Inc.’s Balance Sheet All numbers in thousands December 31 2012 2011
16. The Financial Statements Income Statement (P&L) summarizes performance for a past period revenues--asset inflows from operations expenses--asset outflows for operations gains--net inflows from nonoperating items losses--net outflows for nonoperating items
17. Google, Inc.’s Income Statement All numbers in thousands
18. The Financial Statements Statement of Cash Flows summarizes flows for the period by type operating typically prepared indirectly investing purchases and sale of ‘capital’ investments financing transactions with creditors and owners
19. Google, Inc.’s Statement of Cash Flow All numbers in thousands
20. E3.13 1. financing 2. operating 3. investing 4. noncash event 5. financing 6. financing 7. operating 8. noncash event--requires disclosure 9. financing 10. operating
21. P3.26
22. The Accrual Model Financial statements are built from a company’s transactions record assets and liabilities revenues and expenses from the changes in them The ever present accounting equation A = L + SE
23. P2.23
24. Capital Stock Ret. Earn.
25. E2.16 a. I/S E j. B/S A b. B/S A k. B/S A c. I/S E l. B/S L d. B/S A m. I/S E e. I/S E n. B/S A f. B/S A o. B/S SE g. I/S R p. I/S E h. B/S L q. I/S E i. B/S A r. B/S A j. I/S E
26. E2.17 (asset/expense challenges)
27. Key Accounting Method Choices Can dramatically impact reported results inventory depreciation research and development consolidations (business combinations)
28. Inventory Cost Flow Example ABC Company’s inventory transactions: 1/01/x1--buys 1 unit @ $10 1/12/x1--buys 1 unit @ $12 1/21/x1--sells 1 unit @ $20 ABC Company’s Performance: inventory (B/S)CGS(I/S) FIFO 1 @ $12 = $12 1 @ $10 LIFO 1 @ $10 = $10 1 @ $12
29. Inventory Method Choice Summary MethodInventory(B/S)Cost of Goods Sold(I/S) FIFO current prices old prices LIFO old prices current prices Financial Statement Impact (assuming rising prices) Balance Sheet Inventory FIFO > LIFO Income Statement Cost of Goods Sold FIFO < LIFO Net Income FIFO > LIFO In what industries will this choice be important?
30. Depreciation of Property, Plant and Equipment Process of allocation, not valuation charge a portion of the cost to expense during each year of an asset’s useful life income statement shows depreciation expense balance sheet shows accumulated depreciation Amount of depreciation taken depends on: cost method (straight-line, accelerated) salvage value life
31. Why Might Depreciation Vary Across Companies? Method differences most U.S. firms use SL can convert SL to accelerated (MACRS) using income tax footnote Life differences (for companies using SL) average life = gross PP&E ÷ annual depr. exp. Age differences (for companies using SL) average age = accumulated depreciation ÷ annual depr. exp. In what industries will these choices be important?
32. Research and Development Activity directed at developing new knowledge translate into products services processes Sometimes successful, often not tangible evidence of success patents trademarks profits!
33. The Challenge of R&D When money is spent up front, how do we evaluate it’s future success? Necessary in order to capitalize (record as asset) the successful expense (write off) the rest GAAP’s solution expense all R&D conservative
34. Assume: R&D spending is constant @ $10,000/year Creates benefits lasting 5 years Company has $100,000 of assets and $25,000 of income, both before considering R&D The Conservatism Paradox Required: Evaluate the impact of expensing R&D on Return on Assets (ROA)
35. The Conservatism Paradox
36. Analyzing R&D Firms Need to exercise care in interpreting profitability especially when level of R&D expenditures is changing
37. Financial Statement Analysis For what purpose? price arbitrage lending customer/vendor evaluation labor negotiations government regulation litigation support
38. Financial Statement Analysis What are we looking for? Positive investment returns! Rt = (Pt + Dt – Pt-1) / Pt-1 Where Pt = Share price at end of period, Dt = Dividends received during the period, Pt-1 = Share price at beginning of period What are we worried about? Risk!
39. E1.29 GE’s r = ($34.50 – $32.01 + $.86) ÷ $32.01
40. Financial Statement Analysis Factors affecting corporate performance industry characteristics (Porter’s five forces) buyer power (price sensitivity) costliness, competing products supplier power scarcity, quantity rivalry among firms threat of new entrants capital intensity, government regulation, rate technological change threat from substitute products Bargaining Power Competition
41. Financial Statement Analysis Factors affecting corporate performance industry characteristics (Porter’s five forces) corporate strategy product focus differentiation, low cost leadership, niche ● location in the value chain manufacturing, distribution, integration diversification (geographic or industry) leverage use of financial and/or operating leverage
42. The Margin versus Turnover Trade-Off
43. Financial Statement Analysis Factors affecting corporate performance industry characteristics (Porter’s five forces) corporate strategy product focus differentiation, low cost leadership, niche location in the value chain manufacturing, distribution, integration diversification (geographic or industry) leverage use of financial and/or operating leverage
44. Operating Leverage Illustration ABC Company plans to sell a new product this year that can be sourced two ways: subcontract to Asia for a cost of $1.50 each. produce in a refurbished company owned facility at a variable production cost of $1/unit and facility operating costs of $275,000/year What is product cost? Option 2 $775K ($1.55/unit) $1,075K ($1.34/unit) Option 1 $750K ($1.50/unit) $1,200K ($1.50/unit) at 500,000 units at 800,000 units
45. Financial Leverage Illustration Company has $1,000 asset earning $150 (15%) before financing asset financed as follows: $300 by long-term debt (10% interest cost) $700 by equity ROA = (150 ÷ 1,000) = 15% ROCE = (120 ÷ 700) = 17% Assets provided by creditors: Return generated $300 x .15 = $45 Financing cost $300 x .10 = $30 $15 excess to equity
46. Gauging Performance Ratios are popular performance measurement ROA, ROCE risk assessment extent to which current profits may be different that those in the future liquidity solvency turnover leverage (operating, financial)
47. Identify the Company OMNI HSBC K BB AF HP PG du Mc M PG AS
48. Complications Financial Statements tell us… only part of the story hard to predict the future fundamental challenge of analysis limitations in GAAP substantial latitude in preparing information discretionary accounting choices important information left off the statements ‘off-balance-sheet’ financing
49. Psychology of Reporting Management’s natural desire to cast things in a favorable light management vs. manipulation why we have GAAP audits millennium scandals why we now have Sarbanes/Oxley Act 404 PCAOB
50. Financial Statement Analysis Performance measurement framework profitability (DupontModel—see p. 131) ROA profit margin asset turnover ROE ROA financial leverage risk solvency risk operating leverage financial leverage see ratio list
51. Financial Statement Analysis Our focus is on the future to predict well we need to consider current economic conditions and forecasts industry characteristics company strategy
52. Measuring Earnings Need to evaluate the components of GAAP income permanent earnings (recurring, persistent) transitory earnings
53. Finding the Nonrecurring (Transitory) Earnings Sales -Cost of goods sold Gross profit - Operating expenses Income from operations + Other revenues/gains - Other expenses/losses Income before taxes - Income tax expense Net Income
54. Finding the Nonrecurring (Transitory) Earnings Sales -Cost of goods sold Gross profit - Operating expenses Income from operations + Other revenues/gains - Other expenses/losses Income before taxes - Income tax expense Net Income
55. Nonrecurring Earnings Other Revenue/Gains gains from peripheral activities (e.g., the sale of PP&E, investments) Other Expenses/Losses losses from peripheral activities (e.g., the sale of PP&E, investments) restructuring charges impairment losses
56. Other Sources of Nonrecurring Earnings Sales -Cost of goods sold Gross profit - Operating expenses Income from operations + Other revenues/gains - Other expenses/losses Income before taxes - Income tax expense Income before …
57. Special Income Statement Items Discontinued Operations Extraordinary Items
58. Discontinued Operations Results from disposal of segment a sizable component of operations Reported in two separate components income/loss on operations gain/loss on disposal Both components reported net of related tax effects
59. O’Sullivan Corporation Manufacturer of flexible vinyl sheeting automotive, industrial, medical sold consumer products business in 2005 2005 Income b/4 Disc. Operations 8,813,858 Loss from operations (net of $428,489 in tax benefits) - 593,593 Loss from disposal (net of $1,825,954 in tax benefits) -3,674,046 Net Income 4,546,219
60. Extraordinary Items Both unusual in nature and nonrecurring fire, flood and other casualties Reported net of related tax effects flood loss 1,000,000 tax effect (400,000) net loss 600,000
61. E3.19 operating cash flow $9,606 $(20,908) $(27,411) share price $3.80 $10.40
62. Other Earnings Reporting Issues Restatements change amounts in financial statements for prior years (comparative statements) used for correcting errors on prior years’ income statements reporting changes in accounting principles retrospective method changes in the entity (acquisitions, divestitures)
63. Other Earnings Reporting Issues Restatements change amounts in financial statements for prior years (comparative statements) used for correcting errors on prior years’ income statements reporting changes in accounting principles retrospective method changes in the entity (acquisitions, divestitures)
64. Restatement Example XYZ Co. began operations in 2008 in 2002 recorded cost of a $100,000 building as a purchase of land. error not detected until this year (2012) building has a 20 year life and $0 salvage value. company uses straight-line depreciation. tax rate = 40%
65. Restatement Example (Cont.) Income Statement20082009201020112012 depreciation taken 0 0 0 0 0 correct depreciation 5 5 5 5 5 gross effect on inc. - 5 - 5 - 5 - 5 - 5 taxes (40%) +2+2+2+2+2 net effect on inc. - 3 - 3 - 3 - 3 - 3 Corrections on Income Statement: NI (as prev. reported) 28 35 41 45 -- error -3-3-3-3 -- NI (corrected) 2532 38 42 47 Corrections also flow through balance sheet: accumulated depreciation, retained earnings, tax liability
66. Overcoming GAAP Limitations Many accounting standards provide opportunities for managing income off-balance sheet financing (OBSF) Why would managers want to do this? basic economics we are all self interested agents agency costs Q3.6 Q1.13 Why would GAAP permit managers do this this? PEAP, POOP, WYWAP
67. Not GAAP but… Politically Expedient Accounting Principles Concessions, concessions, concessions! Footnote reporting of option expense Pensions (triple smoothing of volatility) Whatever You Want Accounting Principles GAAP allow lots of choices FIFO/LIFO Accelerated/St. line
68. Not GAAP but… Pitifully Old and Obsolete Principles Many old standards still around: Treasury stock (1934) – Stock splits (1941) Depreciation (1946) – Inventory (1947) – LT contracts (1955) – Quarterly reporting (1934)
69. Fixing Up Poor GAAP Measurement Major problem areas investments (smoothing) leases (OBSF) retirement benefits (smoothing, OBSF) Details forthcoming in our next session (February 2014)