FINANCIAL MECHANICS

REPORTING

The financial statements of a company are end products of a process for recording transactions of the company related to operations, financing, and investment. The structures of financial statements themselves reflect the system of recording and organizing transactions. To be an informed user of financial statements, the analyst must be knowledgeable about the principles of this system. Classification of Business Activities for Financial Reporting: 3/30/12 11

OPERATING ACTIVITIES AND INVESTING ACTIVITIES Operating activities are those activities that are part of the day - to - day business functioning of an entity. Examples include the sale of meals by a restaurant, the sale of services by a consulting firm, the manufacture and sale of ovens by an ovenmanufacturing company, and taking deposits and making loans by a bank. Investing activities are those activities associated with acquisition and disposal of long-term assets. Examples include the purchase of equipment or sale of surplus equipment (such as an oven) by a 3/30/12 22 restaurant and the purchase or sale of an

FINANCING ACTIVITIES Financing activities are those activities related to obtaining or repaying capital. The two primary sources for such funds are owners (shareholders) or creditors. Examples include issuing common shares, taking out a bank loan, and issuing bonds.

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Typical Business Activities and Financial Statement Elements Affected

Assets (A), Liabilities (L), Owners Equity (E), Revenue (R), and Expenses (X) Operating activities Sales of goods and services to customers: (R) Costs of providing the goods and services: (X) Income tax expense: (X) Holding short-term assets or incurring short-term liabilities directly related to operating activities: (A), (L) Purchase or sale of assets, such as property, plant, and equipment: (A) Purchase or sale of other entities equity and debt securities: (A) Issuance or repurchase of the companys own preferred or common stock: (E) Issuance or repayment of debt: (L) 44 Payment of distributions (i.e.,

Investing activities

Financing activities

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ACCOUNTS STATEMENTS

AND

FINANCIAL

Business activities resulting in transactions are reflected in the broad groupings of financial statement elements: assets, liabilities, owners equity, revenue, and expenses. Assets are the economic resources of a company. Liabilities are the creditors claims on the resources of a company. Owners equity is the residual claim on those resources.
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ACCOUNTS continued

AND

FINANCIAL

STATEMENTS

Accounts provide individual records of increases and decreases in a specific asset, liability, component of owners equity, revenue, or expense. The financial statements are constructed using these elements.

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Financial Statement Elements and Accounts

Accounts are individual records of increases and decreases in a specific asset, liability, component of owners equity, revenue, or expense. Within the financial statement elements, accounts are subclassifications. With regard to financial statements, amounts recorded in every individual account are summarized and grouped appropriately within a financial statement element.
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Common Accounts
Assets
Cash and cash equivalents Accounts receivable, trade receivables Prepaid expenses Inventory Property, plant, and equipment Investment property Intangible assets (patents, trademarks, licenses, copyright, goodwill) Financial assets, trading securities, investment securities Investments accounted for by the equity method Current and deferred tax assets (for banks, Loans [receivable])

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Common Accounts continued Liabilities

Accounts payable, trade payables Provisions or accrued liabilities Financial liabilities Current and deferred tax liabilities Reserves Minority interest Unearned revenue Debt payable Bonds (payable) (for banks, Deposits)

Owners equity
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Capital, such as common stock par value Additional paid-in capital Retained earnings 99 Other comprehensive

Common Accounts continued

Revenue
Revenue, sales Gains Investment income (e.g., interest and dividends) Cost of goods sold Selling, general, and administrative expenses (SG&A; e.g., rent, utilities, salaries, advertising) Depreciation and amortization Interest expense Tax expense Losses 1010

Expense

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Common Accounts continued The estimated uncollectible amount is

recorded in an account called allowance for bad debts/provision for bad debt. Accumulated depreciation (an offset to property, plant, and equipment reflecting the amount of the cost of property, plant, and equipment that has been allocated to current and previous accounting periods). A sales returns and allowances (an offset to revenue reflecting any cash 3/30/12 refunds, credits on account, and1111 discounts

Common continued

Accounts

Noncurrent assets Intangible assets including goodwill Property, plant, and equipment Investment property Investments associates Current assets Inventories Trade and other receivables 3/30/12
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in

joint

ventures

and

Common Accounts continued Current assets are those that are expected to be consumed or converted into cash in the near future, typically one year or less. Inventories are the unsold units of product on hand (sometimes referred to as inventory stock). Trade receivables (also referred to as commercial receivables, or simply accounts receivable) are amounts customers owe the company for
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Common continued

Accounts

Goodwill is an intangible asset that represents the excess of the purchase price of an acquired company over the value of the net assets acquired.

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ACCOUNTING EQUATIONS The five financial statement elements noted previously serve as the inputs for equations that underlie the financial statements. The balance sheet presents a companys financial position at a particular point in time. It provides a listing of a company s assets and the claims on those assets (liabilities and equity claims). The equation that underlies the balance sheet is also 3/30/12 1515

ACCOUNTING EQUATIONS continued Assets - Liabilities = Owners equity Owners equity = Contributed capital + Retained earnings, Revenue - Expenses = Net income (loss), Net income (loss) is the difference between two of the elements: revenue and expenses.
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