BUS291-Business Finance 12/17/13

Transcription

1 Chapter 4 4 Maintain and Analyze Financial Records 4.1 Accounting Principles and Practices 4.2 Maintain and Use Financial Records 4.3 Financial Analysis Management Tools 4.4 Financial Analysis and Decision Making Accounting Principles and Practices Terms accounting equities fundamental accounting equation accounts accounting transaction accounting cycle accrual accounting due care Finance and Accounting accounting organizes a system of financial records records financial data prepares, analyzes and interprets financial statements work is guided by Generally Accepted Accounting Principles (GAAP) finance saving, investing, and using money by individuals, businesses, and governments is broader than accounting 1

2 Finance consists of three interrelated areas money and capital markets determining monetary needs and obtaining adequate cash investments analyzing and choosing among investment alternatives while considering returns and risks financial management applies management principles to financial decisionmaking for organizations Accounting focuses on history. Finance focuses on the future. Decision-makers must understand the financial past to plan for the financial future. Essentials of Accounting equities the financial claims on a company s resources fundamental accounting equation Assets = Liabilities + Owner s Equity Essentials of Accounting assets resources used by a business in its operations liabilities claims against the business resources by those to whom the business has financial obligations owner s equity financial interest in the business held by all owners 2

3 Essentials of Accounting accounts the financial records for each of the specific assets, liabilities, and categories of owner s equity accounting transaction the act of recording a financial activity that results in a change in the value of an organization s resources financial activities are recorded as entries in the accounts Essentials of Accounting All financial transactions must be recorded. source document original record of a transaction journals business records journal entry identifies key information for the transaction Essentials of Accounting financial statements specific reports prepared according to accepted accounting principles balance sheet income statement cash flow statement 3

4 The Accounting Cycle accounting cycle a series of steps performed to ensure the completeness and accuracy of accounting records prepare summary financial statements Accounting Professional Practices Accuracy is critical in accounting work. 4

5 Assumptions Single Economic Entity an identifiable, independent business Going Concern for an on-going business Monetary Unit reflects the use of one stable currency Periodic Reporting information recorded in regular time periods Accounting Principles Historic Costs Revenue Recognition accrual accounting recognizing revenue and expenses when they are incurred rather than when cash is received or spent Expense and Revenue Matching Full Disclosure Standard Practice and Conservatism Professional Practices Professional Competence Due Care and Sufficient Data due care a commitment to completing all tasks thoroughly and with the highest level of quality Independence and Integrity 5

6 Maintain and Use Financial Records Terms information system information integrity annual report Develop and Maintain a Business Records System information system a structured set of processes, people, and equipment for converting data into information Types of Financial Information Common types of financial information include data records reports 6

7 Information Integrity information integrity Information remains unchanged from its source and has not been accidentally or maliciously modified, altered, or destroyed. When an organization s information integrity is compromised, people loose confidence in the organization. Maintaining Financial Records Developing and maintaining a financial records system that has integrity requires decisions in several areas. Using Financial Records Information must be organized to be meaningful and usable. 7

8 Users And Uses Each user of financial information has specific concerns. Managers need to operate a profitable business and maximize shareholder value. Investors want to maximize the value of their investment. Creditors want to be sure the company has assets sufficient to cover debt. The government requires accurate financial disclosure and tax payments. Private and Public Records and Reports Privately owned companies are not required to disclose financial information. Public companies must report financial information. annual report a statement of a company s operating and financial performance issued at the end of its fiscal year Form 10-K a form required by the SEC that may be even more detailed than an annual report Financial Management Analysis Tools Terms chief executive officer (CEO) chief operating officer (COO) chief financial officer (CFO) equity financing debt financing retained earnings solvency 8

9 Financial Management Activities The primary objective of financial management is to maximize the wealth of owners. The Structure of Financial Management board of directors provide business oversight establish corporate policy hire key executives review major business decisions chief executive officer (CEO) the top manager of a corporation executes the strategy and the policy of board of directors leads management and employees sets long-term operational direction The Structure of Financial Management chief operating officer (COO) directs business operations chief financial officer (CFO) plans and manages financial resources treasurer manages cash, investments, and other financial resources manages relationships with investors and creditors controller in charge of accounting and financial records 9

10 Financial Management Decisions Three major decisions define the work of financial managers: what investments need to be made how investments should be financed how to efficiently manage investments Asset Planning decisions must be made regarding the best mix of assets to effectively support business objectives Financial Management Decisions Asset Financing equity financing offers investors an ownership interest in the company debt financing obtaining assets by borrowing money short term financing methods include: trade credit operating loans commercial paper Asset Management assets, both fixed and liquid, need to be efficiently managed Financial Analysis Tools Long-term financing decisions focus on capital assets. Short-term financial planning focuses on working capital. 10

11 Using Financial Records and Reports Managers study financial reports to asses the following information: the current values of important financial elements of the business the relationships among the current values determine their company s performance relative to comparable companies Balance Sheet retained earnings profits earned by a company that are not paid to shareholders as dividends working capital (current assets) Net working capital = current assets current liabilities shareholder s equity the value of all classes of stock and retained earnings Income Statement Comparing income statements over multiple time periods provides a strong assessment of a company s performance. improvements in efficiencies of generating revenues cost containment 11

12 Cash Flow Statement Cash flow is the movement of cash into and out of a business. solvency the ability of a company to meet its financial obligations as they become due A company with an increasing positive cash flow is a healthy company. Cash Flow Statement cash from operating activities revenues from the primary work of the business cash from investing activities revenues earned from purchasing or selling assets cash from financing activities cash from the sale of stock and from taking on long- or short-term debt Financial Analysis and Decision Making Terms financial ratios financial leverage benchmark company ratio analysis operating income 12

13 Understanding Financial Ratios financial ratios comparisons of financial data used to evaluate business performance ratio analysis the study of relationships in a company s finances in order to understand and improve financial performance Liquidity Ratios An important measure of a company s health is its ability to pay debts on time. need a favorable liquid position The current ratio shows how well the company is prepared to pay current liabilities. due within a year A ratio of 2:1 represents a strong position in most industries. Inventory is a particular problem in some industries. A ratio of 1:1 is acceptable in many industries. 13

14 Asset Management Ratios Asset management ratios compare the value of key assets to sales performance. fixed assets turnover ratio examines the efficiency of land, buildings, and major equipment A company doesn t earn money until its inventory is sold. If a business has a low inventory ratio: inventory should be reviewed to determine if it is obsolete Used to determine if a company has a reasonable amount of assets for the sales being produced. A low value suggests assets are not being used efficiently. 14

15 Higher ratios mean that accounts receivable are collected quickly. Lower ratios might indicate losses. when older accounts are not paid average collection period ratio (accounts receivable) (average daily sales) identifies how many days on average it takes to collect accounts receivable a small number of days shows effective credit procedures Debt Management Ratios financial leverage using debt financing to increase the rate of return on assets The appropriate ratio is guided by the industry in which the company operates the financial stability of the company 15

16 Debt Management Ratios A high ratio means the company has a high margin of safety in being able to pay creditors. Profitability Ratios Ratios are used to track bottom-line performance. useful for comparison with competitors a tool to asses performance relative to other possible investments Profitability Ratios gross profit margin ratio (gross profit) (net sales) operating profit margin ratio (operating income) (net sales) operating income earnings before interest and taxes 16

17 Profitability Ratios This ratio evaluates the efficiency of the assets of the company. Market Performance Ratios Market performance ratios serve a variety of functions examine the overall financial performance of a business in contributing to shareholder value a metric of the effectiveness of executive leadership helps compare multiple companies Market Performance Ratios if preferred stock is issued the dividends paid to preferred stockholders are subtracted from net income before dividing by the number of shares of common stock issued 17

18 Market Performance Ratios anticipated earnings on investments help investors decide what price to pay for a company s stock Market Performance Ratios when this ratio is greater than 1, investors are willing to pay more for the stock than it is valued by the company Use Financial Ratios Comparing ratios over several time periods provides a better picture of the company s financial condition. Industry trends can also be analyzed using financial ratios. 18

19 Develop a Financial Analysis Plan 1. Organize financial records. 2. Determine key financial ratios. 3. Develop baseline data. 4. Identify comparative information sources. 5. Identify benchmark companies. benchmark company a competitor with outstanding performance 6. Calculate ratios regularly. 7. Use ratio analysis as a tool to establish financial goals. Sources of Comparative Information Financial information is relatively easy to obtain for public corporations. can compare company s to one another can analyze performance for investing decisions Information provided by trade associations may be provided only to members may have a usage fee 19