Adventis FMC Level 1

financial statement communicates what?

- financial condition

- results of operations

- various other activities of an organization

how board of directors use financial data...

- hold management accountable - make board-level decisions about corporate strategy

how company management uses financial data...

- measure performance

- make strategic, operating and financial decisions

how creditors use financial data...

- measure creditworthiness

- liquidity

- bankruptcy risk

how investors use financial data...

make decisions on buying/selling equity investments

how acquirers use financial data...

- determine valuation

- make investment decisions

how regulators use financial data...

determine whether company is operating according to regulations/law

what does the income statement present?

results of operations over a period of time

what is the purpose of the income statement?

to show whether the company made or lost money during the period reported

what does the income statement indicate?

how revenues are translated into net income through subtracting expenses

revenue (sales)

amount charged for the delivery of goods or services

cost of sales (cogs)

- direct cost of producing revenue

- Ex: raw materials, direct wages, etc.

gross profit

- revenue - cogs

- indicates how efficiently labor and materials are used in the production process

operating expenses

- all other expenses required to run a business

- Ex: management salaries, marketing, travel, etc.

operating income (EBIT)

- revenue - cogs - operating expenses

- indicates a company's earning power from ongoing operations

non-operating expenses

- expenses not related to regular business of the company

- Ex: interest expense, restructuring expense, etc.

corporate taxes

local and federal income taxes the company incurs

net income (net earnings)

- revenue - cogs - operating expenses - non-operating expenses - taxes

- indicates increase in shareholders' value resulting from operations

what does the balance sheet show?

an organization's financial position at a particular point in time

what does the balance sheet disclose?

- the resources an organization controls (assets)

- the claims on those resources (liabilities and equity)

what is the basic accounting equation?

assets = liabilities + equity

what is the basic accounting equation a foundation for?

the double entry bookkeeping system

what is the double entry bookkeeping system?

there is a credit for every debit

what does the accrual accounting method measure?

the performance of a company regardless of when cash transaction occur

cash

current assets comprising currency or currency equivalents that can be accessed immediately

accounts receivable

amount owed to an organization from the sale of a good or service

fixed assets

- value of assets and property that can't be easily converted to cash

- has a useful life of greater than 1 year

- Ex: PPE

accounts payable

amount owed to an organization's vendors

debt

amount of obligations owed to creditors

equity

cumulative shareholder investment + cumulative net income

what is working capital a measure of?

- a company's efficiency

- short term financial health

working capital equation

non-cash current assets - non-debt current liabilities

what does a positive or negative working capital indicate?

whether it's a source or use of cash

what can happen if a company's non-cash current assets < non-debt current liabilities?

may run into challenges repaying creditors and suppliers in the short run

non-cash current assets

- non-cash assets expected to be turned into cash within one year

- Ex: accounts receivable, inventory, prepaid expenses, other assets

non-debt current liabilities

- all obligations besides short-term debt that are due within one year

- Ex: accounts payable, accrued liabilities, other obligations

what is a less expensive form of capital?

debt because it's less risky

what types of claims to debt owners have?

priority claims on company's assets if company goes bankrupt

what is a more expensive form of capital?

equity because equity holders aren't guaranteed to get their investment back if the company goes bankrupt

what requires a higher rate of return, debt or equity?

equity

net debt

total debt - cash

what is net debt primarily used in?

credit analysis because creditors assume that the company's cash balance could be applied to debt repayment in the event of a liquidity crunch or bankruptcy

what does the cash flow statement show?

- how much cash is generated or lost during a period of time

- how changes in the balance sheet and net income affect cash

what does the cash flow statement reconcile?

net income to change in cash

what is the cash flow statement useful for in determining

- a company's viability; it's ability to pay bills

- liquidity

cash from operating activities

- cash generated by a company's normal business operations

- Ex: net earnings, depreciation and amortization, change in working capital

cash from investing activities

- acquisition and disposal of long-term investments (PPE and M&A)

- Ex: capital expenditures, acquisitions

cash from financing activities

- cash flow between organization and its owners and creditors

- Ex: debt/equity issuances (change in debt), dividends, share repurchases

beginning cash balance

ending cash balance for previous period of time

change in cash

sum of cash from operating, investing, and financing activities

ending cash balance

sum of beginning cash balance and change in cash

depreciation and amortization

method of allocating the cost of an asset over its useful life for both accounting and tax purposes

how is depreciation and amortization shown on the income statement?

as an expense

why doesn't depreciation and amortization represent a decrease in cash?

it doesn't represent a decrease in cash because cash only leaves the company during the initial purchase of the asset (CapEx)

what does depreciation and amortization represent in terms of cash on the cash flow statement?

a source of cash

capital expenditures (CapEx)

funds used by a company to purchase/upgrade physical assets (PPE)

what does CapEx represent in terms of cash on the cash flow statement?

a use of cash

what does a decrease in working capital represent?

a source of cash

what does an increase in working capital represent?

a use of cash

share repurchase

re-acquisition of an organization's own stock

2 paths for share repurchases

1. organization retires the stock

2. keep them as treasury stock

what happens to the ownership percentage and portion of earnings for shareholders when shares are repurchased?

they increase

what are share repurchases a form of?

returning capital to shareholders irregularly as opposed to a regular dividend program

dividends

distribution of cash

how are dividends most often derived?

from a dividend per share amount as directed by the board of directors

what is the difference between share repurchases and dividends?

- dividends don't affect ownership percentages

- represent a pure check to shareholders

what are sticky dividends?

companies choose to have a dividend program where dividends are constantly distributed to shareholders

how can removing a sticky dividend program affect the company?

it can show signs of trouble for the company

change in debt

represents any debt issuances or repayments

EBITDA

- gives an indication of a company's current operational profitability

- one of most commonly used metrics

why is EBITDA widely used when assessing the performance of a company?

it allows for comparison of profitability between companies in a wide range of industries

what does EBITDA exclude?

- affects from different forms of financing

- different political and tax jurisdictions

- different rules surrounding depreciation and amortization

free cash flow

- see what cash is available for distribution to creditors and shareholders

- ONE OF MORE IMPORTANT METRICS TO USE FOR VALUATION

free cash flow equation

cash flow from operations - CapEx

financial ratios

useful indicators of a firm's performance and financial situation

what is the starting point for financial ratios?

past ratios in order to forecast into the future

how can financial ratios be expressed?

- decimal

- percentage

- multiple (x)

liquidity ratios

indicate a company's ability to meet its short-term financial obligations

who cares about liquidity ratios?

those extending short-term credit such as banks

2 liquidity ratios

1. current ratio

2. cash ratio

current ratio

indicates whether a company's short-term assets are readily available to pay off short-term liabilities

current ratio formula

current assets / current liabilities

normal current ratio

between 1.50-3.00

cash ratio

indicates a company's ability to use cash to pay of its current liabilities

cash ratio formula

cash / current liabilities

normal cash ratio

between 0.20-1.00

efficiency ratios

indicate how effectively a company utilizes its assets

2 efficiency ratios

1. days receivable

2. asset turnover

days receivable ratio

average number of days an invoice is in accounts receivable before collection

days receivable ratio formula

accounts receivable / revenue X 365

days receivable ratio of 60 means...

company's invoices on average are paid down in 60 days

asset turnover ratio

- amount of revenues generated per dollar of assets

- measures company's efficiency in turning assets into revenue

asset turnover ratio formula

revenue / assets

asset turnover ratio of 2.5 means...

for every dollar of assets, a company earns $2.5 of revenue

profitability ratios

profits made by company relative to its assets, equity, or revenue (metrics)

what do profitability ratio metrics tell us?

1. outperformance vs peers

2. opportunities for improvement

gross margin ratio

relative to revenue, indicates how efficiently labor and supplies are used in production process

gross margin ratio formula

gross profit / revenue

what does a gross margin ratio of 35% mean...

for every one dollar of revenue, $0.35 is converted into gross profit

operating margin ratio

relative to revenue, indicates a company's earning power from ongoing operations