Finance Chapter 3; Exam 2

Important agencies

GAAP, FASB, PCAOB

GAAP

generally accepted accounting principles; guidelines to prepare and maintain financial statements

FASB

Financial accounting standards board; authorizes accounting priciples

PCAOB

public company accounting oversight board; non for profit from sarbanes oxley act to oversee auditors of public corporations

Letter to stockholders is the first element of

stockholders report

letter to stockholders includes

1. management philosophy

2. corporate governance issue

3. strategies

4. business plans for year

4 key financial statements

1. income statement

2. balance sheet

3. statement of cashflows

4. statement of retained earnings

income statement includes

sales revenue, gross profit, EBIT, net profits before tax, earnings available for common stockholders, earnings per share, dividends per share

balance sheet includes

assets, liabilities, stockholders equity

statement of retained earnings

shortened statement of stockholders equity, reconcile net income and cash dividends with the change in retained earnings from start to end of year

statement of cash flows

operating, investing, and financing activities

interested parties in financial ratios

shareholders, creditors, management

why are shareholders interested

stock price, and level of risk and return

why are creditors interested

short term liquidity, ability to pay interest/principle payments, and profitability

why is management interested

monitors a firms performance

ratio comparisons

cross sectional analysis, benchmarking, time series analysis, combined analysis

cross sectional analysis

compare with others in the industry or to the industry average

benchmarking

compare to competitors they want to be like

time series analysis

evaluate firms financial performance over time

combined analysis

combine cross sectional and time series

categories of financial ratios

liquidity, activity, debt, profitability, market

current ratio

current assets/current liabilities (liquidity ratio)

quick (acid) ratio

(current assets - inventory) / current liabilities (liquidity ratio)

inventory turnover ratio

cogs/inventory (activity ratio)

average collection period ratio

accounts receivable/average sales per day (activity ratio)

debt ratio

total liabilities/total assets

debt to equity ratio

total liabilities/ common stock equity

net profit margin

earnings available for common stockholders/sales (profitability ratio)

return on total assets (ROA)

earnings available for common stockholders or net income/ total assets

return on total equity (ROE)

earnings available for common stockholders or net income/ common stock equity

relationship between roa and roe

roe will be higher than roa if a company uses debt financing (or leverage)

price earning (P/E) ratio

market price per share of common stock/ earnings per share

earnings per share (EPS)

earnings available for common stockholders / number of shares of common stock outstanding

dupont analysis

dissects a firms financial statements to asses their financial condition

dupont formula

net profit margin x total asset turnover = firms roa

debt plan

use borrowed funds to finance a companies activities

no debt plan

finance activities through equity (owners capital) and retained earnings