Chapter 2 Financial Statements and Cash Flow
Understanding the
- Difference between * Accounting Value and Market Value
- Difference between accounting *Income and Cash Flow
2.1 The Balance Sheet
1) The balance sheet is like a ______snapshot___________ of a firm
i. What a firm ____owns_____ (______assets_____________)
ii. What a firm ____owes_______ (______liabilities__________)
iii. Difference between the two (___________________________________)
b. Assets (the left side)
i. Current (____<1______ year)
ii. Fixed (______>1_______ year)
1. ___Tangible______- i.e. truck
2. ____Intangible________- i.e. patent
c. Liabilities (the right side)
i. Current or Long-term
d. Equity- In theory, *
If a firm used all of its assets to pay its liabilities then whatever is
leftover is what the shareholders would receive.
Balance Sheet Identity: * Assets = Liabilities + Shareholders’ equity.
Net Working Capital = * Current Assets - Current Liabilities
If NWC is positive, the cash that will become available over the next 12 months will
be greater than the cash that is obligated to be paid out.
Liquidity: * The speed and ease at which an asset can be converted into cash
without losing value.
-Assets are listed most liquid to least liquid, traditionally
Leverage: Using Debt versus Equity to fund a firm… ___Creditors__ (debtholders) have
________priority claims_____ if a firm fails to meet contractual obligations, shareholders
(____equity holders_____) own whatever is left.
2.2 The Income Statement
2) The income statement is like a video covering before and after the balance sheet
snapshots
Income Statement Identity: * Revenues - Expenses = Income
Common information extracted from income statement
a. Earnings per share (EPS)
i. _____Net Income______/ Shares Outstanding
b. Dividends per share (DPS)
i. ______Dividends_____/ Shares Outstanding
c. Accounting income vs cash flow (i.e. depreciation).
Example: Firm X has 200 million shares outstanding, net income was $493 million and total
dividends were $123 million per year. What are the earnings per share and dividends per share?
a) 493/200 = 2.465
b) 123/200 = 0.615
2.3 Taxes
3) Taxes are not strictly increasing (and now they are flat 21%)
a. Marginal tax rate: *The rate paid on the next dollar earned (34%)
b. Average tax rate: *The average rate paid on ALL taxable income (20.18%)
Example: $85,000 in taxable income
$50,000x15% = $7,500
$25,000x25% = $6,250
$10,000x34% = $3,400
Total tax paid: $17,150
Average tax rate: 17,150/85,000 = 20.18%
2.4 Net Working Capital
Net Working Capital: Current Assets - Current Liabilities
If positive, the cash that will become available over the next 12 months will * be greater than
the cash that is obligated to be paid out.
2.5 Cash Flow
c. The number of dollars that flow in versus the number of dollars that flow out
d. Cash Flow received from assets
i. _____Operating Cash Flow_______ (OCF): CF from firms day to day
activities from producing and selling
● OCF = EBIT + Depreciation - Taxes
Picture an income statement…why skip interest? Because it is a
______financing______, not operating, activity
Would we want OCF to be positive of negative? __positive__
ii. Capital Expenditures (___CAPEX____)
1. ______Money spent on fixed assets____ (also, money received
from sale of fixed assets)
Capital Spending = Ending Net Fixed Assets – Beg. Net FA + Depr
Capital Spending = *Acquisition of Fixed Assets - Sale of Fixed
Assets
iii. Net working Capital
1. Ending NWC – Beginning NWC
Overall: *OFC - CAPEX - Change in NWC = CF assets
e. Cash Flow to Creditors
i. CF creditors = * interest paid - net new borrowing
“net new borrowing” = Ending LTD – Beginning LTD
f. Cash Flow to Stockholders
i. * Dividends paid - net new equity issued = CF Stockholders
