Ch.2 Financial Statements and the Annual Report Prof. Jamie Wang

What Financial Statements Tell about a Business B/S: How much of the assets was borrowed, and how much provided by its shareholders What obligations will be due in the near future and what assets will be available to satisfy them I/S: Revenues and expenses for the period Statement of Cash Flows: Where cash came from and how it was used

Objective of financial reporting: Provide useful information To be useful, the information must be: Relevant Reliable Understandable Comparable across companies Consistent over time

Classified Balance Sheet Classification of assets: Current assets: expected to be realized in cash or sold or consumed in one year (or an operating cycle if longer) Noncurrent assets Investments Property, plant, and equipment Intangible assets

Classified Balance Sheet Classification of liabilities and shareholders’ equity: Liabilities: Current liabilities: obligations that will be satisfied within one year (or one operating cycle if longer) Long term liabilities Shareholders’ equity Contributed capital Retained earnings

Use of classified balance sheet Working capital: Working capital = Current assets – current liabilities Current ratio: Current ratio = (current assets) ÷ (current liabilities)

Income Statement What appears on the I/S? Revenues Expenses Objective of I/S users: predict future performance One time/incidental events v. events related to continuing operations

Multiple v. Single Step Single step I/S P.72 Multiple step I/S P.73

Major ratios for evaluating a company’s operating performance and financial condition Operating performance: Return on shareholders’ equity (ROE) Liquidity: ability to pay short-term obligations Current ratio Solvency: ability to pay all the debts Total Liability to total assets ratio

Financial Statement Analysis Comparing ratios of the company being analyzed with those of its competitors, with industry average, and with past performances