Basic Financial Statements
Chapter 3
Understanding Financial
Statements and Cash Flows
• Income Statement
• Balance Sheet
• Statement of Cash Flows
Income Statement
• Profit/Loss Statement
• Indicates the amount of profits generated
by a firm over a given period of time
• Sales – Expenses = Profit
Income Statement Terminology
•
Revenue (Sales)
•
Cost of Goods Sold (COGS)
•
Operating Expenses
– Money derived from selling the company’s product or service
– The cost of producing or acquiring the goods or services to be s old
– Expenses related to marketing and distributing the product or service
and administering the business
•
Financing costs
– The interest paid to creditors and the dividends paid to preferred
stockholders
•
Tax Expenses
– Amount of taxes owed, based upon taxable income
Income Statement
TABLE 3-1
Starbucks Corporation Income Statement for the year Ended Sept. 28, 2003
($ millions)
Sales
– Less cost of goods sold
= Gross profit
– Less operating expenses
= Operating income
– Less interest expense
•
•
•
•
= Earnings before taxes
– Less corporate taxes
= Earnings before preferred dividends
– Less preferred stock dividends
= Net income available to common stockholders
•
•
•
•
•
•
Sales
cost of goods sold
Gross profit
Operating expenses
General admin expenses
$227
Depreciation expenses
$206
Total operating expenses
Operating income
Interest expense
Earnings before taxes
corporate taxes
Net Income (earnings before preferred dividends)
$4,076
($3,207)
$869
($433)
$436
($3)
$433
($165)
$268
1
Balance Sheet Terminology
Balance Sheet
• Current Assets or gross working capital
• Examines the firm’s financial position at a
specific point in time
Assets = Liabilities + Owner’s Equity
• Assets are resources owned by the firm
– comprise assets that are relatively liquid, or expected to be
converted into cash within a year.
•
Current Assets typically include:
– Cash
– Accounts Receivable
payments due from customers who buy on credit
– Inventory
• Liabilities and Owner’s equity indicate how those
resources are financed
raw materials, work in process, and finished goods held for
eventual sale
– Prepaid expenses
expenses paid for in advance
• Fixed Assets
• Assets held for more than one year. Typically
Include:
– Machinery
– Equipment
– Land and Buildings
• Other Assets
• Assets that are not current assets or fixed
assets
• Debt or Liabilities
– Money that has been borrowed and must
be repaid at some predetermined date
– Debt Capital
• financing provided by a creditor
• Current, short-term and long-term
» Current or short-term must be repaid within the
next 12 months
– Patents
– Copyrights
– Goodwill
• Current Liabilities:
– Accounts Payable
• Credit extended by suppliers
– Other Payables
• Interest and taxes that are owed
– Accrued expenses
• Liabilities incurred, but not yet paid
– Short-term Notes
• Borrowings from a bank or lending institution due and
payable within 12 month
• Long-Term Debt
– Loans from banks or other institutions for longer
than 12 months
• Equity
– Includes the shareholder’s investment
• Preferred stock
• Common stock
• Retained Earnings
– cumulative total of all the net income over the life
of the firm, less common stock dividends that have
been paid out.
• Treasury Stock
– stock that was once outstanding and has been repurchased by the company
2
Balance Sheet (Starbucks Corporation)
Balance Sheet
Assets
• LIABILITIES
• ASSETS
– Current Liabilities
– Long-Term Liabilities
– Current Assets
– Fixed Assets
Year
•
Cash & marketable securities
Receivables
Inventories
Prepaid Expenses (Other CA)
• Total Liabilities
• Total Assets
• OWNER ’S EQUITY
– Preferred Stock
– Common Stock
– Retained earnings
Total Current assets
•
Net Fixed Assets
•
2003
Changes
$402
$98
$263
$85
$350
$114
$342
$116
($52)
$16
$79
$31
$848
$922
$74
$2,103
($713)
$2,669
($919)
$566
($206)
Gross Fixed Assets
Machinery & Equipment
Accumulative depreciation
• Total Owner’s Equity
2002
Current assets
$1,390 $1,750 $360
Total Assets
$2,238 $2,672 $434
• Total liabilities + OE
Balance Sheet (Starbucks Corporation)
Terms
Liabilities & Stockholder's Equity
Year
•
2002
2003
Changes
$482
$1
$552
$1
$70
$0
–
–
–
Accounts payable
Notes Payable (Short- term debt)
Accrued Expenses
•
Total Current liabilities
$483
$553
$70
•
•
Long-term debt
Total liabilities
$29
$512
$38
$591
$9
$79
•
Common Stock
$930
$796
$1,726
$1,017
$1,064
$2,081
$87
$268
$355
$2,238
$2,672
$434
–
–
–
•
• Net Working Capital
Current assets – current liabilities
Current liabilities
Paid-in capital
Retained earnings
Shareholders' equity
Total Liabilities & Shareholders' Equity
Cash Flows
• Cash Flows generated through a firm’s
assets always equal its cash flows paid to
or received by the company’s investors.
• Cash flows from assets = cash flows from
financing
• Debt/Equity Mix
Amount of debt a firm borrows per dollar of equity
• Accrual Basis Accounting
Recording revenues when earned and expenses when incurred,
rather than when cash is exchanged
• Free Cash Flows
Cash flow that is free and available to be distributed to the firm’s
investors.
Traditional Statement of Cash Flows
• Three sections:
– Cash flows from Operating Activities
– Cash flows from Investing Activities
– Cash flows from Financing Activities
3
Modified Cash Flow Calculations
• Cash Flows from Assets = Cash flows from
Financing
• Cash flows from Assets = After-tax cash flows
from operations less investment in operating
working capital less investments in fixed assets
and other assets.
Cash Flows from Assets
• After-tax cash flow from operations
-- less-• Investment in operating working capital
-- less -• Investment in fixed assets and other assets
Starbucks
After-Tax Cash Flows From Operations
After-Tax Cash Flows From Operations
• Operating Income
+ Depreciation
= Earnings before interest, taxes ,
depreciation, and amortization
• Operating Income (EBIT)
• Depreciation
$436
$206
• Income taxes
• After-tax cash flows from operations
($165)
$477
- Income taxes
= After-tax cash flows from operations
Change in Operating Working Capital
• Change in operating working capital
=
Change in current assets
- (change in accounts payable +
change in accrued expenses)
Starbucks
Change in Operating Working Capital
Year
2002
2003
Changes
Total Current assets
Total Current liabilities
$848
$483
$922
$553
$74
$70
Net Working Capital
$365
$369
$4
4
Starbucks
Free Cash Flow
Investment in Fixed Assets
• A decrease in long-term assets indicates
that the firm is selling assets, which is a
source of cash or increases cash
• An increase in long-term assets indicates
that the firm is purchasing assets, which is
a “use” of cash or causes cash to go down
After-tax cash flows from operations
Less 2003 Investments
$477
Investment in Net Working Capital ($ 4)
Investment in Long-term Assets
($566)
Total Investments
($570)
Free Cash Flow
($93)
– This shortage of cash flow must be financed from somewhere.
Cash Flows from Financing
Starbucks
Cash Flows from Financing
• Financing Activities which generate cash include:
– An increase in debt (a source of cash)
– Issuing new stock
• Financing Activities which decrease cash include:
–
–
–
–
Payment of interest
Payment of dividends
A decrease in debt (indicates payment of principal)
A decrease in equity (indicates the re-purchase of outstanding
stock
Interest paid to lenders
Common stock dividend
Increase in long-term debt
Increase in Common Stock
Investors cash flows
($3)
0
$9
$87
Use
Source
Source
$93
Starbucks
Cash Flows Statement
After-tax cash flows from operations
Less 2003 Investments
Investment in Net Working Capital
Investment in Long-term Assets
Total Investments
Free Cash Flow
–
–
–
–
Interest paid to lenders
Common stock dividend
Increase in long -term debt
Increase in Common Stock
Investors cash flows
$477
($ 4)
($566)
($570)
($93)
($3)
0
$9
$87
$93
5