Financial Accounting Notes

Marketable Securities (Session 19)

• HTM (Held-to-Maturity) Debt Securities:

  • Company intends to hold until they mature.

• Trading Securities:

  • Debt or equity securities bought to be sold in the short term for profit.

• AFS (Available-for-Sale):

  • In between HTM and Trading.

  • Passive investment.

• Fair Value:

  • Historical cost.

• Good use of short-term cash

  • Generate excess cash during slow periods.

• Alliances for strategic purposes

  • Gain access to R&D, supply, or distribution channels.

  • Equity securities with voting rights.

  • Debt securities.

  • AFS securities.

Journal Transactions

• When marketable securities are acquired:

  • Marketable Securities xx

  • Cash xx

• After acquisition, accounting treatments differ.

• Entities militiae 0.000

• Interest income is recognized on the I/S (Income Statement).

• Value fluctuations aren't relevant on the 1st day, but they are on the last day of the accounting cycle.

• Realized gains/losses from selling securities go on the I/S.

• Entities aconones

  • Share repurchased of CS (Common Stock) for 625 in cash.

  • Mktg 625

  • Cash 625

• Test dividend income is recognized on the I/S.

• Again, unrealized gains/losses are recognized on the I/S (realized at the end of the accounting cycle).

• Gains/losses are recognized on the I/S at the time of sale.

• Adjusting entry at each month.

• Sale of marketable securities:

• Security sold for 12,000 (original cost 8,000).

AFS Security

• Not held for longer term for capital gains and interest income, but to sell somewhere in between maturity.

  • Entry only for debt securities.

• Interest income is recognized on the I/S.

• Unrealized gains/losses bypass the I/S and are recorded in AOCI (Accumulated Other Comprehensive Income), part of SE (Shareholders' Equity).

• SE gets affected by unrealized gains or losses.

• Fair value method.

• In trading securities, unrealized gains/losses are recorded which affects net income.

• In AFS, unrealized gains/losses are recorded in AOCI.

• For both, realized gains/losses are recorded and affect net income.

Overview

• HTM: Unrealized gains/losses go to I/S.

• AFS: Unrealized gains/losses go to AOCI.

• Trading: Unrealized gains/losses are recorded.

• End of Year 1 Example:

  • Initial Investment: Cash 100

  • End of Year 1: Value is 85

  • Journal Entry: Unrealized Loss 15, AOCI 15

• End of Year 2 Example:

  • Value goes to 120

  • Unrealized Gain: Journal Entry AOCI 35, Unrealized Gain 35

• End of Year 3 Example:

  • Value goes to 91

  • Unrealized Loss: Journal Entry Unrealized Loss 29, AOCI 29

PP&E (Session 21)

• Average IQ: sell when prices are high, buy when prices are low.
  *Market value unenthysaid was lessthan price they got it for.
  *HTM value less than price they got it for.

• AFS Trading AOCE: 11,653->-11,653

• Fixed assets are long-term assets that a company expects to use for more than one year to generate revenue and expenses.

• Tangible Assets: PPE (Property, Plant, and Equipment) - Land, buildings, machinery.

  • Depreciated (expense).

• Intangible Assets: Patents, trademarks, copyrights, goodwill.

  • Amortized (expense).

• Presented on the balance sheet on gross PPE (acquisition cost) less accumulated depreciation.

• Acquisition of PPE:

  • Cash xx

  • PPE xx

• Example acquisition costs:

  • 8,000

  • 12,005

  • 20,000

• Adjusting entry to record depreciation expense on PPE:

  • Depreciation Expense xx

  • Accumulated Depreciation xx

• PPE (gross) - Accumulated Depreciation = Net Book Value.

  • PPE example: 110,000 - 20,000 = 90,000

• Disposal of PPE Assets (Sales):

  • Record the proceeds as a debit to cash.

  • Remove the cost of the disposed asset as a credit to PPE.

• Example: Sold the first machine for 30,000.

  • Remove accumulated depreciation (debit to accumulated depreciation).

  • Record loss if book value is higher than cash received.

  • Record gain if cash received is higher than book value. 30,000 less than 36,000 loss -6000

• At the end of accounting cycle, one machine left with a gain/loss.

Adjusting the value of the asset is the depreciation of the asset.

Net PPE is the gross PPE less accumulated depreciation.

Important T-Accounts to Know

• SE (Shareholders' Equity)
  Acquisition is in investing activities, capital expenditures.
  Gross PPE is on the Balance Sheet.

• Accumulated depreciation:

  • Depreciation expenses in operating section.

  • Is in the depreciation footnote

• Gain/loss on disposal:

  • Cash proceeds from sale (non-operating).
    *Investting activities.

• Intangible assets; footnote.

Two Ways to Obtain Intangible Assets

1. Purchased: Acquisition costs are capitalized.

2. Internally developed: costs are generally expensed as incurred.

   • Capitalize costs when technological feasibility is established.

Identifiable Intangibles

• Amortization: Cost allocation process for intangible assets.

• Separately Transferable: Only intangible assets that have definite lives can be sold, licensed, or transferred on its own (patents, trademarks, copyrights, etc.).

• Goodwill: Not separately transferable.

Intangibles with Indefinite Lives (Trademarks)

• No amortization.

• No adjusting entry.

Accounting for Patents:

1. If purchased from another company: Capitalized

2. If developed internally: All other costs are expensed as incurred.
   RD all expensed as incurred.
   Vast majority of trademarks are developed internally, most aren't recorded on the balance sheet as they are expensed.
   *What are the key issues that FASB faced if it updates accounting rules for intangibles?

Historical cost or Fair value*

RD; R&D expense 100k; no patent entry.

Shares (Session 25)

• Authorized Shares: Maximum shares that a company can issue. Established in the articles of incorporation.

• Issued Shares: Actual number of shares that have been sold to shareholders.

• Outstanding Shares: Number of shares issued minus the number of shares repurchased as treasury stock.

• Shares authorized > shares issued > shares outstanding

*What is Apple example cusps/acc deficit
*No preferred stocks.*
There are 15,116,786 shares outstanding and issued. Since outstanding and issued are equal, there are no treasury stocks (company did not repurchase any of its stocks).

Stock Repurchases (Stock Buybacks)

Buy back their own common stock.
Treasury stock (contra SE account).
Exercise: stock repurchase Keep them as treasury stocks.
ROA is earnings before interest/average total assets.

ROA (Session 26)

What anvers ROA profitability efficiency Ioanacanta analysis.
*miscsnort avestion.
ROA
Net profit margin x asset turnover.

Shareholder Equity

• Borrow money from creditors (obligated to pay back in the future).

Stock Split

• Lower price per share.

• For a 2-for-1 split, the number of shares is doubled and the price per share is halved.

• If it's a true split, then the number of shares are adjusted.

• Split effected in the form of a stock dividend (same except no change in par value per share).
  There is Berkshire Hathaway class B so for 1 split
  way more affordable.

Why Do a Stock Split?

1. Increase shareholder base (more affordable to small investors).
   Imitation of source decreases so much
   How to tell if a company had a stock split:

2. Balance sheet: look at number of shares authorized, issued, and outstanding and compare to previous years.

3. Income statement: EPS (earnings per share) shares used in computing EPS (compare to previous year income statement).

4. Statement of shareholders' equity: Dividends per share (compare).

FSA (Financial Statement Analysis) Session 27

• Common size F/S, Financial Ratios, Alternative Data

Turnover Ratios

• Accounts Receivable Turnover = Credit Sales / Average Accounts Receivable
  ART measures how many times a company collects its accounts receivable.
  Beginning A/R(accounts receivable) + ending A/R(accounts receivable).
  The times a company the A/R I in collection practices are efficient Dausrecievableoutstanding.

• Days Receivable Outstanding = 365 / Accounts Receivable Turnover

  • This is the average number of days it takes a company to collect cash payment.

• Inventory Turnover Ratio = COGS / Average Inventory

  • How many times a company sells and replaces its inventory during the period.

  • High ratio is favorable as it means more inventory is being sold, which means more sales, generating high profits.

• Days Inventory Outstanding = 365 / Inventory Turnover

  • Average number of days a company holds inventory before turning it into sales.

• Accounts Payable Turnover = Purchases / Average Accounts Payable

  • Purchases = Ending Inventory + COGS - Beginning Inventory

  • How many times a company purchases on account and pays off its bills during the period.

  • For big companies, the A/P turnover ratio is very low and hav strong market power.

• Days Payable Outstanding = 365 / Accounts Payable Turnover

  • Average number of days it takes a company to pay back its accounts payable to suppliers.

  • High DPO indicates strong connection with suppliers (more days between paying suppliers).

In general, high ratios are favorable for A/R(accounts receivable) and inventory since it indicates company takes less time to pay their customers and less time for the company to sell the product.

Cash Conversion Cycle

• A measure of working capital efficiency.

• Measures the number of days it takes to convert the cash spent on inventory back into cash from sales.

• CCC = DIO + DRO - DPO
  It is from when you pay supplier to receive cash from customers.
  The time period to see how fast it can to convert inventory to cash.
  If company can convert inventory to cashlower is favorable.

Summary:

• A/R Turnover = How fast collect cash

• Inventory Turnover = Number of times company sells and replaces its inventory

• Accounts Payable = DIO/DPO

Manufacturing companies starts from raw materials (Walmart: when you first get the finished products) - when you sell to customers.