Accounting Case Study: The 3 Financial Statements

In this module, you’ll learn why companies need the 3 financial statements – the Income
Statement, Balance Sheet, and Cash Flow Statement – and how you use them to determine a
company’s “cash flow.”

Remember that all company valuation comes down to that all-important formula you learned in
Module 1:

Company Value = Cash Flow / (Discount Rate – Cash Flow Growth Rate), where Cash Flow
Growth Rate < Discount Rate

The challenge is that companies do not publish or announce a single “cash flow” number.

Instead, you have to estimate it by reviewing their financial statements and deciding which
items to count and which ones to ignore.

To do this, you’ll have to understand how the statements link together and how line items on
one statement affect those on the other statements as well.

Then, you’ll conclude by testing yourself with some practice interview questions and an
“Interview Question” Excel model.

Part 1: A Very Simple Online Business, the Income Statement, and Working
Capital
You’ll start by learning what a very simple business that sells online courses might look like in
terms of revenue and expenses.

Then, you’ll build on this and see how the company’s statements and cash flow change once it
changes some of its business policies to support growth.

For example, what changes when the company offers an installment plan, prepays certain
expenses, postpones payment of other expenses, and collects cash upfront for a project that
will take months to deliver?

And what if the company starts selling physical products?

These lessons cover the Income Statement, Accounts Receivable, Prepaid Expenses, Accounts
Payable, Accrued Expenses, Deferred Revenue, and Inventory and COGS (Cost of Goods Sold).

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Part 2: Long-Term Funding, Investing, and Taxes
In this segment of lessons, you’ll learn how the company’s financial statements change as a
result of long-term activities, i.e., those that will affect the business for more than one year.

You’ll learn what happens as the company buys factories and equipment and as it raises debt
and equity to fund its expansion efforts.

You’ll also see how the debt, equity, and other investors “get paid” with interest, dividends, and
share repurchases.

In some cases, companies prefer to rent rather than own their buildings and equipment, so
you’ll also learn about operating leases on the statements.

Finally, you’ll wrap up with lessons on financial investments and book vs. cash taxes, including
why the amount listed for “taxes” on the Income Statement doesn’t necessarily represent what
the company pays to the government.

These lessons cover Capital Expenditures (CapEx) and Depreciation, Equity, Debt, and
Preferred Stock, Interest, Dividends, and Share Repurchases, Operating Leases and Capital
Leases, Investments, Deferred Income Taxes, and Net Operating Losses (NOLs).

Part 3: Gains, Losses, Impairments, Write-Downs, Stock-Based Compensation,

and Mergers & Acquisitions
These lessons deal with “unexpected” events that might occur as a company grows.

For example, what if it purchases factories, buildings, or equipment, but then it decides to sell
them? What if their values have changed between the purchase and sale?

Or, what if one of the company’s acquisitions turns out to be worth much less than expected?

What if the company decides to pay its employees with stock, i.e., ownership in the company,
in addition to traditional salaries and benefits?

Finally, what happens when the company acquires other companies or assets, and how do the
financial statements change?

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These lessons cover Gains and Losses on PP&E Sales, Goodwill Impairments, PP&E Write-
Downs, Stock-Based Compensation, and Purchase Accounting, including Goodwill and Other
Intangible Assets.

Part 4: Summary and Financial Statement Analysis

These lessons summarize the topics covered in Parts 1, 2, and 3 of this module and show you
how to complete financial statement analysis using what you’ve learned.

You’ll learn the key rules that define the Income Statement, Balance Sheet, and Cash Flow
Statement, and you’ll see some of the differences between U.S. GAAP and IFRS on the
statements.

You’ll also learn how to project and link the financial statements, including guidelines for
simplifying and consolidating them first.

Finally, you’ll learn how to calculate the Change in Working Capital, Free Cash Flow, and key
metrics and ratios such as Return on Equity (ROE), Return on Assets (ROA), and Return on
Invested Capital (ROIC) so that you can analyze a company’s statements and reach conclusions.

These lessons cover U.S. GAAP vs. IFRS, Summaries of the Financial Statements, Projecting
and Linking the Statements, Working Capital and the Change in Working Capital, Free Cash
Flow, and Key Metrics and Ratios.

Part 5: Practice Interview Questions

In the final part of this module, you’ll test your understanding of the concepts with video
tutorials that go through the most common interview questions about accounting.

These questions cover everything from “single-step scenarios,” such as Depreciation or

Accounts Receivable changing, to multi-step scenarios where items such as PP&E, Debt, and
Inventory change at the same time as the company produces and sells goods and services.

You’ll use a modified “Interview Question” Excel file that will allow you to see the exact changes
in each step, and how the Balance Sheet balances after each set of changes.

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