King Faisal University [ ] 1 Business School Management Department Finance Pre-MBA Dr Abdeldjelil Ferhat BOUDAH 1

King Faisal University [ ] Chapter 3 Basic Financial Statements 2 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Introduction 1- Income Statement 2- Balance Sheet 3- Statement of retained earnings 4- Statement of cash flows Conclusion 3 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Introduction Of the various reports, corporations issue to their stockholders the annual report which contains basic financial statements as well as management’s opinion of the past year’s operations, and the firm’ s future prospects. 4 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements the income statementthe balance sheetthe statement of retained earningsthe statement of cash flows The annual report presents four basic financial statements: the income statement, the balance sheet, the statement of retained earnings, and the statement of cash flows. 5 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements 1- The Income Statement The income statement, often referred to as the profit and loss statement, presents the results of business operations during a specified period of time such as a quarter or a year. 6 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements The income statement summarizes the revenues generated and the expenses incurred by the firm during the accounting period. See table Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements 2- The Balance Sheet The balance sheet presents a summary statement of the firm’s financial position at a specific point in time. The statement balances the firm’s assets (What it owns) against its financing, which can be either debt (What it owes), or equity (What was provided by owners). 8 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Table 3.2, shows a variety of assets and liabilities, as well as debt and equity accounts. An important distinction can be made between short and long- term assets and liabilities. 9 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements current assetscurrent liabilities The current assets and current liabilities are short- term assets and liabilities. This means that they are expected to be converted into cash within one year or less. 10 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements All other assets and liabilities, along with stockholders’ equity, which is assumed to have an infinite life, are considered long-term or fixed, because they are expected to remain on the firm’s book for one year or more. 11 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements A few points about Baker’s corporations (Table 3.2 ) need to be highlighted : -The assets are listed beginning with the most liquid down to the least liquid. 12 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements - Current assets precede fixed assets. - Marketable securities represent very liquid short-term investments, such as U.S. Treasury bills or certificate of deposits, held by the firm. Because of their highly liquid nature, marketable securities are frequently viewed as a form of cash. 13 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -Accounts receivable represent the total monies owed the firm by its customers on credit sale made to them. - Inventories include raw materials, work in process (partially finished goods), and finished goods held by the firm. 14 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -The entry for gross fixed assets is the original cost of all fixed (long-term) owned by the firm. -Net fixed assets represent the difference between gross fixed assets and accumulated depreciation-the total expense recorded for the depreciation of fixed assets. 15 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -Like assets, the liabilities and equity accounts are listed on the balance sheet from short-term to long-term. 16 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -Current liabilities include accounts payables, amounts owed for credit purchases by the firm; notes payables, outstanding short-term loans, typically from commercial banks; and accruals, amounts owed for services for which a bill may not or will not be received….. 17 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -….(Examples of accruals include taxes due the government and wages due employees). 18 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -Long-term debt represents debt for which payment is not due in the current year. - Stockholders’ equity represents the owners’ claims on the firm. 19 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -As it is shown in (table 3.2), the amount paid in by the original purchases common stock is figured out by two entries : common stock, and paid- in capital in excess of par on common stock. 20 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -The preferred stock entry shows the historic proceeds from the sale of preferred stock. ($ 100,000 for Baker Corporation). 21 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -The common stock entry is the Par Value of common stock; an arbitrarily assigned per-share value used primarily for accounting purposes. - Paid-in capital in excess of par represents the amount of proceeds in excess of the par value received from the original sale of common stock. 22 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -The sum of common stock and paid-in capital accounts divided by the number of shares outstanding represents the original price per share received by the firm on a single issue of common stock. 23 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements -Therefore, Baker Corporation received $ 5 per share [ ($ 120,000 par + $ 380,000 paid-in capital in excess of par ) / 100,0000]= $ 5,00 from the sale of its common stock. 24 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements 3- Statement of retained earnings The statement of retained earnings reconciles the net income earned during a given year, and any cash dividend paid, the following table shows the Baker Corporation statement of retained earning for the year ended December 31, Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Baker Corporation Statement of Retained Earnings ($ 000) 26 Dr Abdeldjelil Ferhat BOUDAH $ 500 Retained earnings balance (January 1, 1997)(Dec 31,1996) $ 180 Plus: Net profits after taxes (for the year 1997)

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Baker Corporation Statement of Retained Earnings ($ 000) 27 Dr Abdeldjelil Ferhat BOUDAH Less : Cash dividends (paid during 1997) $ (10) - Preferred Stock $ (70) - Common stock

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Baker Corporation Statement of Retained Earnings ($ 000) 28 Dr Abdeldjelil Ferhat BOUDAH $ (80) Total dividends paid $ 600 Retained earnings balance (December 31, 1997)

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements 4- Statement of Cash Flows The statement of cash flows provides a summary of the cash flows over the period of concern, typically, the year just ended. 29 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements The statement, which is sometimes called “a source and use statement” provide an insight into the firm’s operating, investment, and financing cash flows and reconciles them with changes in its cash and marketable securities during the concerned period. 30 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Baker Corporation’s statement of cash flows for the year ended December 31, 1997, is presented in (table 3.10), however, before looking at the preparation of this statement, it is helpful to understand various aspects of depreciation. 31 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Conclusion It is obvious by now to conclude that financial statements can be considered as the main issue of the firm in showing its performance throughout a specific period of time, mainly a year. 32 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] Chapter 3: Basic Financial Statements Chapter 3: Basic Financial Statements Statements exposed in the form of reports summarize different aspects of activities that the firm may engage, as well as the policies that may follow concerning the distribution of earnings, investments, and financing policies. 33 Dr Abdeldjelil Ferhat BOUDAH

King Faisal University [ ] 34 بحمد الله