Download Current assets Operating Working Capital = – Account payable and

Longenecker/Petty/Palich/Hoy
Small Business
Management, 18e
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distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Understanding a Firm’s Financial
Statements
Chapter 10
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service or otherwise on a password-protected website for classroom use.
Learning Goals:



Describe the purpose and content of an
income statement.
Describe the purpose and content of a
balance sheet.
Explain how viewing the income statement
and balance sheets together gives a more
complete picture of a firm’s financial
position.
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service or otherwise on a password-protected website for classroom use.
Learning Goals (cont.):


Use the income statement and balance
sheets to compute a company’s cash flows.
Analyze the financial statements using ratios
to see more clearly how decisions affect a
firm’s financial performance.
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service or otherwise on a password-protected website for classroom use.
Understanding Financial
Statements

Financial Statements (Accounting
Statements)
Reports of a firm’s financial performance and
resources
Helps determine a startup’s financial requirements
Assesses the financial implications
of a business plan
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–5
password-protected website for classroom use.
Understanding Financial
Statements (cont.)

Basic Financial Statements
Income statement
Balance sheet
Cash flow statement
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–6
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Understanding the Income
Statement

Income Statement
A report showing the profit or loss from a
firm’s operations over a given period of time.
“How profitable is the business?”
Sales (revenue) – Expenses = Profits (income)
 Revenue from product or service sales
 Costs of producing product/service (cost of goods sold)
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–7
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Understanding the Income
Statement (cont.)
“How profitable is the business?”
Sales (revenue) – Expenses = Profits (income)
 Operating expenses (marketing, selling, general and
administrative expenses, and depreciation)
 Financing costs (interest paid)
 Tax payments
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10–8
The Income Statement (cont’d)

Cost of Goods Sold
The cost of producing or acquiring goods or
services to be sold by a firm

Gross Profit
Sales less the cost of goods sold

Operating Expenses
Costs related to marketing and selling a firm’s
product or service, general and administrative
expenses, and depreciation
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–9
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The Income Statement (cont’d)

Operating Income
Earnings before interest and taxes are paid
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10–10
The Income Statement (cont’d)

Financing Costs
The amount of interest owed to lenders on
borrowed money

Net Income Available To Owners (Net
Income)
Income that may be distributed to the
owners or reinvested in the company
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–11
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The Income Statement (cont’d)

Depreciation Expense
Costs related to a fixed asset, such as a
building or equipment, distributed over its
useful life
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10–12
10.1
The Income Statement: An Overview
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password-protected website for classroom use.
The Income Statement (cont’d)
Operating Activities
Financing Activities
Sales Revenue
Operating Income
–
Cost of producing or
acquiring product or
service
(cost of goods sold)
=
Gross profit
–
Marketing and selling
expenses, general and
administrative
,
expenses and
depreciation
(operating expenses)
– Interest expense
on debt
(financing costs)
=
Earnings Before Taxes
=
Operating Income
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–14
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Taxes
Earnings Before Taxes
–
Income taxes
=
Net Income Available
to Owners
10.2
Income Statement for Houser & Associates, Inc.,
for the Year Ending December 31, 2013
Percent of Sales
100%
–65%
35% Gross profit margin
–24%
12% Operating profit margin
–2%
9%
–2%
7% Net profit margin
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password-protected website for classroom use.
The Balance Sheet

Balance Sheet
A report showing a firm’s assets, liabilities,
and owners’ equity at a specific point in time
Total Assets = Debt + Owner’s equity
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–16
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10.3
The Balance Sheet: An Overview
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password-protected website for classroom use.
The Balance Sheet: Current
Assets

Current Assets (Working Capital)
Assets that can be converted to cash within
the firm’s operating cycle
Cash
Currency and negotiable instruments
Accounts receivable
Amount of credit extended to customers that is
currently outstanding
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part, except for
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10–18
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The Balance Sheet: Current
Assets (cont.)

Current Assets (Working Capital) (cont.)
◦ Inventory
 Raw materials and products held in anticipation of
sale
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–19
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10.4
The Working Capital Cycle
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password-protected website for classroom use.
The Balance Sheet: Fixed Assets

Fixed Assets (Plant, Property, and
Equipment)
Relatively permanent resources intended for
use in the business (not for resale)

Depreciable Assets
Assets whose value declines (depreciates)
over time
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part, except for
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10–21
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The Balance Sheet: Fixed Assets
(cont.)

Gross Fixed Assets
Original cost of depreciable assets before any
depreciation expense has been taken

Accumulated Depreciation
Total depreciation expense taken over the
assets’ life
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
10–22
The Balance Sheet: Fixed Assets
(cont’d)

Net Fixed Assets
Gross fixed assets less accumulated
depreciation

Other Assets
Assets other than current assets and fixed
assets, such as patents, copyrights, and
goodwill that have an estimated value
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–23
password-protected website for classroom use.
The Balance Sheet: Debt

Debt
Business financing provided by a creditor

Current Debt (Short-Term Liabilities)
Accounts payable: trade credit payable to suppliers
Accrued expenses: short-term liabilities incurred
but not paid
Short-term notes: Cash amounts borrowed that
must be repaid within a short period of time
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–24
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The Balance Sheet: Debt (cont.)

Long-Term Debt
Loans and mortgages with maturities greater
than one year

Mortgage
A long-term loan from a creditor for which
real estate is pledged as collateral.
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–25
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The Balance Sheet: Types of
Financing

Owners’ Equity
Money that the owners invest in the business
Owners are “residual owners” of the firm.
Creditors have first claim on the assets of the firm.
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part, except for
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10–26
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The Balance Sheet: Types of
Financing (cont.)

Retained earnings
Profits less withdrawals (dividends) over the
life of the business
Owners’
Owners’
equity = investment +
Cumulative Cumulative dividends
–
profits
paid to owners
Owners’
Owners’
Earnings retained
equity = investment + within the business
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10–27
10.6
The Fit of the Income Statement and Balance Sheet
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password-protected website for classroom use.
The Cash Flow Statement

Cash Flow Statement
A financial report showing a firm’s income
(cash) when it is received and expenses when
they are paid.
Cash flows from normal operations (operating
activities)
Cash flows related to the investment in or sale of
assets (investment activities)
Cash flows related to financing the firm
(financing activities)
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part, except for
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10–29
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Profits Versus Cash Flows (cont.)

Accrual-Basis Accounting
Matches revenues when they are earned
against the expenses associated with those
revenues.
Sales reflect both cash and credit (noncash) sales.
Inventory purchased on credit is a noncash
expense.
Depreciation is a noncash expense.
Income tax is accrued and not entirely expensed.
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part, except for
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10–30
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Profits Versus Cash Flows (cont.)

Cash-Basis Accounting
Reports transactions only when cash is
received or a payment is made.
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–31
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Measuring Cash Flows

Cash Flows from Daily Operations
Net cash flows generated from operating a
business
Calculated by adding back to operating income
depreciation, deducting income taxes, and factoring
in any changes in net working capital.

Adjusted Income
After-tax cash flow
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part, except for
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10–32
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Measuring Cash Flows (cont.)

Net Working Capital
Money invested in current assets less
accounts payable and accruals
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–33
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Measuring Cash Flows (cont’d)

Cash Flows from Investment Activities
Cash inflows and outflows resulting from the
sale or purchase of equipment or another
depreciable asset

Cash Flows from Financing Activities
Cash inflows and outflows resulting from:
Paying dividends and interest expense.
Increasing or decreasing short-term and long-term
debt.
Issuing or repurchasing stock.
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part, except for
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10–34
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Computing Cash Flows from Assets
After-Tax Cash Flows
from Operations
Changes in
Operating
Working Capital
Cash
Flows
from Assets
Cash
After-tax cash flows
flows from =
from operations
assets
Investments in
operating
working capital
Changes in
Long-Term
Assets
Investments
in long-term
assets
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password-protected website for classroom use.
Computing Other Cash Flows

After-Tax Cash Flows From Operations
After-tax
cash
= Net income
flows from
operations
Depreciation
+ expense
+
Interest
Expense
• Operating Working Capital
Operating
Working
Capital
=
Current
assets
–
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part, except for
use as permitted in a license distributed with a certain product or service or otherwise on a
10–36
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Account payable
and accruals
Evaluating a Firm’s
Financial Performance

Factors Impacting the Firm’s Financial
Situation
The firm’s ability to pay its debt as it comes
due.
The firm’s profitability from assets.
The amount of debt the business is using.
The rate of return earned by the owners on
their equity investment.
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part, except for
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10–37
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Evaluating a Firm’s
Financial Performance (cont.)

Financial Leverage
The impact (positive or negative) of financing
with debt rather than with equity.
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10–38
10.9
Return on Assets: An Overview
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password-protected website for classroom use.
Key Terms
accounts payable (trade credit)
accounts receivable
accrual-basis accounting
accrued expenses
accumulated depreciation
balance sheet
cash
cash-basis accounting
cash flow activities
cash flow statement
common stock
cost of goods sold
current assets (working capital)
current debt (short-term liabilities)
current ratio
debt
debt ratio
depreciable assets
depreciation expense
dividend
financial leverage
financial statements (accounting
statements)
fixed assets (property, plant and
equipment [PPE])
gross fixed assets
gross profits
© 2017 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Key Terms
income statement (profit and loss
statement)
interest expense
inventory
liquidity
long-term debt
long-term notes
mortgage
net fixed assets
net profits
operating expenses
operating profit margin
operating profits
other assets
owners’ equity
profit margins
profits before taxes (taxable profits)
retained earnings
return on assets
return on equity
short-term notes
total asset turnover
working capital cycle
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permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.