1. Additional Aspects of Financial Reporting and Financial Analysis C hapter 6 COPYRIGHT © 2010 South-Western/Cengage Learning Intermediate Accounting 11th edition Nikolai Bazley Jones An electronic presentation By Norman Sunderman and Kenneth Buchanan Angelo State University

2. 2  XBRL is an Internet language for business reporting that will make it easier for users to extract and analyze information contained in annual reports, press releases, and other communications by directing that information into the many analytical tools they use.  Currently, the SEC allows voluntary filing of supplemental financial information using XBRL. XBRL (eXtensible Business Reporting Language)

3. 3  An open standard free of license fees  Offers cost savings, greater efficiency, and improved accuracy and reliability to all those involved in supplying or using financial data  Should enhance the transparency of financial reporting  Being developed by an international non-profit consortium XBRL - eXtensible Business Reporting Language

4. 4 The prices of securities traded in the capital markets fully reflect all publicly available information. Evidence from research on an efficient markets hypothesis tends to show: These prices are adjusted almost immediately based on new information and in an unbiased manner. Market Efficiency

5. 5 An auditor’s standard report includes two opinions... Auditor’s Report (Opinion) 1.That the company maintained effective internal control over its financial reporting 2.That the company’s financial statements present fairly the financial position of the company and the results of its operations and cash flows in conformity with GAAP

6. 6ContinuedContinued Management is responsible for internal control and for preparing and presenting the financial statements. Responsibilities of Management This means that the company …

7. 7 1.Has a reliable accounting system 2.Maintains records in reasonable detail 3.Has a process for providing reliable financial statements prepared according to GAAP 4.Has adequate procedures for preventing or detecting significant unauthorized acquisition, use, or disposal of its assets Internal Control

8. 8 The first (introductory) paragraph lists the financial statements that were audited, indicates that internal control was audited, declares that management is responsible for the financial statements and related internal control, and asserts that the auditor is responsible for expressing an opinion on them. An audit report consists of five paragraphs. Auditor’s Report (Opinion)

9. 9 The second (scope) paragraph describes what the auditor has done. The third (definition) paragraph identifies internal control over financial reporting, including policies and procedures. Auditor’s Report (Opinion) The fourth (inherent limitations) paragraph discusses the possibility that internal control may not prevent or detect misstatements of the financial statements. The fifth (opinion) paragraph gives the auditor’s opinions.

10. 10 1.An unqualified opinion is not a “clean bill of health.” 2.An unqualified opinion provides no assurance of the future success of the company. 3.An audit report does not provide an assurance that fraud has not been committed by a member, or members, of the company unless such fraud would cause a material misstatement in the financial statements. Auditor’s Report (Opinion)

11. 11 Disaggregation of Financial Information  Although investors and creditors know the importance of consolidated statements in evaluating overall company performance, the disaggregation of total financial data also can be important in their financial analysis.  A company improves the financial analysis information on risk and return by presenting disaggregated information on its operating segments.

12. 12 Audit Committee and Management’s Report  The SEC requires all publicly held companies to have an audit committee, which is a group that has oversight over the financial reporting process of a company.  Most audit committee members usually are “outside directors” (not officers or employees of the company).

13. 13 Audit Committee and Management’s Report  The audit committee acts as the liaison between the auditor and management.  The preparation and presentation of a company’s financial statements are the responsibility of its management.

14. 14 A company’s financial statements might be disaggregated in a number of ways, such as by products and services, geography, legal entity, or type of customer. Segment Reporting

15. 15 1.That engages in business activities to earn revenues and incur expenses 2.Whose operating results are regularly reviewed by the company’s chief operating officer to make decisions about allocating resources to the segment and assessing its performance 3.For which financial information is available An operating segment is a component of a company: Segment Reporting

16. 16 An operating segment is significant and is a reportable segment if it satisfies at least one of the following tests: 1.Revenue Test. Its reported revenues are 10% or more of the combined revenues of all the company’s reported operating segments. Segment Reporting

17. 17 An operating segment is significant and is a reportable segment if it satisfies at least one of the following tests: 2.Profit Test. The absolute amount of its profit (loss) is 10% or more of the combined reported profits of all operating segments that did not report a loss. Segment Reporting

18. 18 An operating segment is significant and is a reportable segment if it satisfies at least one of the following tests: 3.Asset Test. Its segment assets are 10% or more of the combined assets of all operating segments. Segment Reporting

19. 19 Interim Financial Statements Interim financial statements are required of all publicly held companies on a quarterly basis.

20. 20 Interim Income Taxes To present fairly the results of operations, at the end of each interim period a company must make its best estimate of the effective income tax rate to be applicable for the entire year.

21. 21 When publicly held companies report interim summaries of financial information, the following data must be reported at a minimum. Preparation and Disclosure of Summarized Interim Financial Data

22. 22 Sales or gross revenues, income taxes, extraordinary items (net of tax), and net income Earnings per share for each period presented Seasonal revenues, costs, and expenses Significant changes in estimates of income taxes Preparation and Disclosure of Summarized Interim Financial Data Results of discontinued operations and material unusual or infrequent items

23. 23 Contingent items Significant changes in financial position (cash flows) Preparation and Disclosure of Summarized Interim Financial Data Changes in accounting principles or estimates

24. 24 Form 10-K is the most common SEC annual report form and is required to be filed with the SEC within 60 days of a company’s fiscal year-end. SEC Reports

25. 25 Form 10-Q is used to report a company’s quarterly financial information to the SEC and is required to be filed within 40 days of the end of the company’s first three fiscal quarters. SEC Reports

26. 26 IFRS vs. U.S. GAAP  IFRS and GAAP require segment reporting.  IFRS require a company to disclose each segment’s liabilities if that information is regularly provided to the chief operating decision maker. U.S. GAAP has no such requirement.

27. 27 IFRS vs. U.S. GAAP  For interim reporting, IFRS differ from U.S. GAAP in that they do no allow: –The allocation of expenses between interim periods –The deferral of manufacturing variances that are expected to be offset in a later interim period –The deferral of a temporary market decline in inventory that is expected to be recovered in a later interim period.

28. 28 In horizontal analysis, changes in a company’s operating results and financial position over time are shown in percentages as well as in dollars. In horizontal analysis, changes in a company’s operating results and financial position over time are shown in percentages as well as in dollars. Appendix: Horizontal Analysis

29. 29 In vertical analysis, the monetary relationships between items on the financial statements are shown in percentages as well as in dollars. Appendix: Vertical Analysis (Income Statement)

30. 30 Earnings per share is probably the most frequently cited ratio in a financial analysis. Net Income – Preferred Dividends Average Common Shares Outstanding Appendix: Ratio Analysis Stockholder Profitability Ratios

31. 31 Price/earnings is used by actual and potential stockholders to evaluate the attractiveness of an investment in the stock of a company. Market Price per Common Share Earnings per Share Appendix: Ratio Analysis Stockholder Profitability Ratios

32. Dividends per Common Share Market Price per Common Share 32 Stockholder Profitability Ratios Dividend yield provides the stockholders their individual rates of return based on the actual dividends received as compared with the ending market price of the stock. Appendix: Ratio Analysis

33. 33 Profit margin is used to evaluate a company’s efficiency in controlling costs and expenses in relation to sales. Net Income Net Sales Appendix: Ratio Analysis Company Profitability Ratios

34. 34 Return on total assets indicates how efficiently a company uses its economic resources. Net Income + Interest Expense (net of tax) Average Total Assets Appendix: Ratio Analysis Company Profitability Ratios

35. 35 Return on stockholders’ equity shows the residual return on the owners’ equity. Net Income Average Stockholders’ Equity Appendix: Ratio Analysis Company Profitability Ratios

36. 36 The current ratio is used to evaluate a company’s short-run liquidity. Current Assets Current Liabilities Appendix: Ratio Analysis Liquidity Ratios 1.Cash 2.Short-term investments 3.Accounts receivable 4.Inventory 5.Prepaid expenses/supplies

37. 37 Appendix: Ratio Analysis The acid-test ratio is a more severe test of a company’s short-term debt-paying abilities. Quick Assets Current Liabilities Liquidity Ratios 1.Cash 2.Short-term investments 3.Accounts receivable

38. 38 Inventory turnover indicates the number of times the inventory is “turned over” or sold during an accounting period. Cost of Goods Sold Average Inventory Appendix: Ratio Analysis Activity Ratios

39. 39 Net Credit Sales Average Net Receivables Receivables turnover indicates how many times receivables are “turned over” or collected each period. Activity Ratios Appendix: Ratio Analysis

40. 40 Activity Ratios Cost of Goods Sold Average Accounts Payable Appendix: Ratio Analysis The payables turnover ratio measures the number of times accounts payable turn over during the year.

41. 41 Activity Ratios Appendix: Ratio Analysis The days in operating cycle estimates the total number of days from cash to cash.

42. 42 The debt ratio indicates the percentage of total assets contributed by creditors. Stability Ratios Total Liabilities Total Assets Appendix: Ratio Analysis

43. 43 Times interest earned is used to evaluate the ability of a company to cover its interest obligations through its annual earnings. Stability Ratios Pretax Operating Income Interest Expense Appendix: Ratio Analysis

44. 44 Book value per common share shows the net assets per share of stock. Stability Ratios Common Stockholders’ Equity Outstanding Common Shares Appendix: Ratio Analysis

45. 45 Cash Flow Ratios Appendix: Ratio Analysis

46. 46 C hapter 6 Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.