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Transcript
Introduction to Business
Business Administration (BA) 101
School of Business Administration
THE FOURTH WEEK
ACCOUNTING AND FINANCE
_________________
PRINCIPAL TOPICS
1. Distinguish between Accounting and Finance Functions. Accounting records and reports
firm’s financial transactions. Finance manages firm’s capital structure.
2. Accounting function: Responsible for (a) compliance with tax and other financial laws
and regulations and (b) providing consistent financial information. Distinguish between
“Financial Accounting” (reporting for external parties) and “Managerial Accounting”
(reporting for internal analysis and strategic decision-making).
3. Finance Function: Responsible for (a) reconciling timing and amounts of sources and
uses of cash and (b) implications of capital structure choices.
4. Accounting Reports: (a) Balance Sheet. Reports firm’s financial condition (Assets,
Liabilities and Shareholders’ Equity) as of specified date. (b) Income Statement.
Reports firm’s financial performance (Revenues, Expenses, Profits and Net Income) for
specified period. (c) Statement of Cash Flows. Reports sources and uses of cash
organized by activity: (i) operating, (ii) investing and (iii) financing.
Issues. What is basis for reported amounts: Historical cost or current value? Are
amounts recorded when cash was received (cash-basis accounting) or when the
service was performed or the product delivered (accrual-basis accounting)? What is
the primary responsibility of a public-firm’s auditor?
5. Three sources of financing: (a) internally generated funding from retained earnings or
terms of accounts payable/receivable, (b) external debt such as bank or finance company
loans or direct bonds and (c) external equity obtained from investment bankers or
private parties.
Issues. Will future returns from investing retained earnings be greater than current
payments of cash dividends? What are debt’s direct fixed costs and indirect
expenses? How much control might be given up to obtain equity financing?
6. Financial Analysis - Three ratios: (1) Current Ratio. Measures liquidity, (2) Debt-toEquity Ratio. Measures leverage. (3) Return-on-Equity Ratio. Measures
management’s efficiency. Know the uses for and limitations of ratio-based financial
analysis.
Fourth Week Study Guide
Page 2
TEXTBOOK MATERIAL
Chapter 15
 The question of whether and when to record a transaction is no less of an essential
accounting policy choice than how to report the transaction. Remember that
accountants may be certified but their reports may not. Relatedly, an “audited”
financial report is only a “fair presentation”; the firm’s management is responsible for
the report’s accuracy. (Section 1)
 Know the components of an Income Statement and a Balance Sheet. Know also (1) Why
a Statement of Cash Flows is necessary to better understand a firm’s operations
(reports sources and uses of cash organized by operating, investing and financing
activities), (2) the Basic (or General) Accounting Equation, (3) That Depreciation is a
“non-cash” operating expense and (4) The difference between short- and long-term
assets and liabilities (one year) (Section 3)
 Know the purpose for and how to compute three financial analytics: (1) Current Ratio
(evaluates a firm’s liquidity), (2) Debt-to-Equity Ratio (evaluates a firm’s leverage) and
(3) Return-on-Equity Ratio (evaluates the efficiency of a firm’s management). Know the
conditions necessary for useful ratio analysis. (Section 4)
 Note that the Textbook’s answer to Self-Test Question Number 24 is wrong (p. 536).
Chapter 16
 Creditworthiness is determined by three “Cs”: Capacity (ability to pay debt service;
sufficiency and reliability of cash flows), Collateral (secondary source of repayment;
sufficiency and liquidity of assets) and Character (has Debtor (Borrower) successfully
managed debt obligations). (Section 1.1)
 Bond form of debt is most commonly used by government entities (federal, state, local,
special districts (school, fire, etc.)) and very large public companies. Primary source of
repayment for government-issued bonds is legal authority to collect taxes, not collateral.
(Section 1.2).
 Commercial Paper is unsecured, short-term (seldom more than 30 days), unregistered
debt used by public companies for financing operations, e.g., accounts receivable or
inventories. Funding typically provided by money-market funds. (Section 1.3)
 Distinguish between Common Stock (Voting) and Preferred Stock (Non-voting).
(Section 2.2)
TERMS AND CONCEPTS
Asset
Shareholders’ (Owner’s or Stockholders’) Equity
Liability
Audit/Auditors
Liquidity
Revenues
Expenses
Profit
Net Income
Income Statement
Balance Sheet
Statement of Cash Flows Current Ratio
Debt-to-Equity Ratio
Return on Equity (ROE) Accounting Equation
Cost of Goods Sold
Capital Structure
Debt
Equity
Retained Earnings
Commercial Bank
Investment Bank
Loan versus Bond
Covenants
Initial Public Offering (IPO)
Venture Capital
Debt Service
Collateral (Security)
Debtor/Creditor
Common Stock (Voting)
Preferred Stock (Non-voting)
Generally Accepted Accounting Principles (GAAP)
Depreciation
Revised: January 16, 2011