Stanford Basics of Accounting

8/9/2019 Stanford Basics of Accounting

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E145/STS173E145/STS173

Workshop AWorkshop A

Basics of AccountingBasics of Accounting

Professors Tom Byers and Randy Komisar

Stanford University

With special thanks to:Roma Jhaveri, Ben Hallen, Filipe Santos, Yosem Companys

Copyright 2004 by the Board of Trustees of the Leland Stanford Junior Universityand Stanford Technology Ventures Program (STVP). This document may be

reproduced for educational purposes only.


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Goals of the WorkshopGoals of the Workshop

Review main accounting documents and financial analysis

Balance Sheet Income Statement (Statement of Operations)

Statement of Cash Flows

Please refer also to the handout:How to Read a Financial Report


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How Does It All Add UpHow Does It All Add Up

Income Expenses

Assets Liabilities

When you buy

something

When you get paid

for a product or

service

The value ofanything you own

The value of

anything youborrow

Assetsoften

generate

income

Liabilitiesoften

generate

expenses


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Some Accounting PrinciplesSome Accounting Principles

Accounting items are classified into accounts according

to their nature, translated into monetary units, andorganized in statements

Basic Accounting formula:

Assets = Liabilities + Equity

What the company ownsHow the ownership of assets was financed(By third parties or by the owners)


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Accounting vs. Market ValueAccounting vs. Market Value

Equity: Ownership of a company is divided in certificates calledcommon shares

Accounting Value (or Book Value) = Equity = Assets Liabilities

Accounting Value is different from Market Value !!!

Market Value = Share Price * Number of Common Shares Outstanding


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Income StatementIncome Statement

Reports the economic results of a company over a time period.

It shows the derivation of earnings or losses.

Income Statement of XXX Corp. year 2000 $ % Rev.

+ Revenues- Cost of Revenue (product cost or COGS)

= Gross Margin

- Sales and Marketing

- General and Administrative

- Research & Development

- Depreciation and Amortization

= Operating Income (EBIT)

+ Interest Income(expense) net

= Net Income before Taxes

- Income Tax Provision

- Extraordinary Items

= Net Income


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Income StatementIncome Statement -- AnalysisAnalysis

When does a transaction affect income? - When it changes theeconomic value of the company for the owners

Some Profitability Measures:

Gross Margin (%) = Gross Profit / Sales

Operating Margin = Operating Income / Sales Return on Sales = Net Income / Sales

Return on Equity = Net Income / Shareholders Equity

Other Important Measures Earnings Per Common Share (EPS) = Net Income / Common Shares

Price Earnings Ratio (P/E) = Market Price / Earnings Per Share


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Income StatementIncome Statement -- ExampleExampleFrom Kimmel et. al. Financial Information For Decision Making

The following information was taken from the 2001 financial

statements of Kellogg Company. Dollar amounts are in millions.

Cost of goods sold $ 4,128.5

Selling & admin. expenses 3,523.6

Interest expense 351.5Other expense 54.0

Net sales 8,853.3

Income tax expense 322.1


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Income StatementIncome Statement -- ExampleExample

KELLOG COMPANY

Income Statement

For the Year Ended December 31, 2001

Net sales $ 8,853.3

Cost of goods sold 4,128.5

Gross Profit 4,724.8Selling & admin. expense 3,523.6

Income from Operations 1,201.2Interest expense 351.5

Other expense 54.0Net Income Before Taxes 795.7Income tax expense 322.1

Net Income $ 473.6


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Balance SheetBalance Sheet

It is a financial snapshot of a company at a given point in time

Balance Sheet of XXX Corp. - 31 December of 2000 (in thousand $)

Current Assets(liquid in less than a year)

Fixed Assets

Other Assets

Current Liabilities(payable in less than a year)

Long-Term Liabilities (bonds issued, bank loans)

Shareholders Equity

Cash and Equivalents

Accounts Receivable

Inventories

Property, plant andequipment (minusDepreciation)

Intangibles (minus

depreciation)Investment Securities

Accounts Payable

Accrued Expenses

Short Term debt

Common Stock

Additional Paid-in Capital

Retained Earnings

Total Assets = Total Liabilities + Shareholders Equity


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Balance SheetBalance Sheet -- AnalysisAnalysis

Working Capital: measure of the amout of cash available in the short-term;

Also, indication of the funds needed operate within a given business size

= Current Assets Current Liabilities

Liquidity ratios: measures of the ability to meet short term financial obligations

Current Ratio: Current Assets / Current Liabilities

Acid-test: (Cash + Accounts receivable) / Current Liabilities

Operational Efficiency Measures

Inventory Turnover = Cost of Sales per year / Current Inventory

Accounts Receivable Collection Period = accounts receivable / sales

Accounts Payable Collection Period = accounts payable / cost of sales


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Balance SheetBalance Sheet -- ExampleExampleFrom Kimmel et. al. Financial Information For Decision Making

These financial statement items are for Tweeter EntertainmentGroup at year-end on September 30, 2001. (in millions)

Accounts payable $ 38.6Property, plant & equipment 109.1Receivables 31.3Other current liabilities 23.3Stockholders equity 332.4Cash 3.3Long-term debt 36.7

Inventories 129.2Accrued expenses 38.9Other current assets 7.5Other liabilities 10.5

Other assets 200.0


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Balance SheetBalance Sheet -- ExampleExample

TWEETER HOME ENTERTAINMENT GROUP

Balance Sheet (in millions)

September 30, 2001

Liabilities and Stockholders Equity

Current liabilities

Accounts payable $ 38.6

Accrued expenses 38.9

Other current liabilities 23.3

Total current liabilities 100.8

Long-term debt 36.7

Other liabilities 10.5Total liabilities 148.0

Stockholders equity 332.4

Total liab. & stock. equity $ 480.4

Assets

Current assets

Cash $ 3.3

Receivables 31.3

Inventories 129.2

Other current assets 7.5

Total current assets 171.3

Property, plant & equipment 109.1Other assets 200.0

Total assets $ 480.4


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Statement of Cash FlowsStatement of Cash Flows

The Statement of Cash Flows reports cash receipts and payments over a

period, separating operational, investing and financing activities.

+ Cash Flow from operating activities (reconciled from income statement)

= income

- net changes in working capital (except cash and equivalents)+ depreciation and amortization

+ Cash Flow from investing activities

+ Cash Flow from financing activities

= Net Change in Cash or Equivalents

+ Cash or Equivalents at beginning of period

= Cash or Equivalents at end of period

Statement of Cash Flows of XXX Corp. 2000 $


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Statement of Cash FlowsStatement of Cash Flows -- AnalysisAnalysis

CFIMITYM !!!

(Cash Flow is More Important Than Your Mother!! )

Especially for an entrepreneurial firm...

How is cash flow different from income?

Income accrual is not necessarily linked to cash transactions (e.g.,depreciation, sales by credit)

Some activities affect cash flows but not income (e.g., investments in

fixed assets, additional capital from shareholders)

Growth often absorbs cash flow because of a higher need for

working capital and fixed investments (Entrepreneurial firms with

negative income and high growth can have a very fast cash burn rate)


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Statement of Cash FlowsStatement of Cash Flows -- ExampleExampleFrom Kimmel et. al. Financial Information For Decision Making

SIERRA CORPORATION

Statement of Cash FlowsFor the Month Ended October 31, 2004

Cash flows from operating activitiesCash receipts from operating activities $ 11,200Cash payments for operating activities (5,500)

Net cash provided by operating activities $ 5,700

Cash flows from investing activitiesPurchased office equipment (5,000)

Net cash used by investing activities (5,000)Cash flows from financing activitiesIssuance of common stock 10,000

Issued note payable 5,000Payment of dividend 500

Net cash provided by financing activities 14,500Net increase in cash 15,200Cash at beginning of period 0

Cash at end of period 15,200

Documents

Stanford Basics of Accounting