SS06 Financial Reportingand Analysis (1)

R19 Introduction to Financial Statement Analysis

a describe the roles of financial reporting and financial statement analysis;

• financial reporting refers to the way companies show financial performance to investors, creditors, and other interested parties by preparing and presenting financial statements
• financial statement analysis: use information in a company’s financial statements, along with other relevant information, to make economic decisions
• ROLE: financial statement analysis is used to evaluate a company’s past performance and current financial position in order to form opinions about the company’s ability to earn profits and generate cash flow in the future

  b describe the roles of the statement of financial position, statement of comprehensive income, statement of changes in equity, and statement of cash flows in evaluating a company’s performance and financial position;

1. statement of financial position

• balance sheet: report the firm’s financial position at a point in time

assets resource controlled by firm | liabilities amounts owed to lenders & creditors | equity residual interesr(A minus L)

• accounting equatioin: Assets = Liabilities + ower’s Equity

capital structure: the proportions of liabilities and equity used to finance a company

1. statement of comprehensive income

• statement of comprehensive income: report all changes in equity except for shareholder transactions

shareholder transaction: issuing stock, repurchasing stock, paying dividends

• income statement: reports on the financial performance of the firm over a period of time.

aka. the statement of operations or the profit and loss statement

• Revenues: inflows from delivering or producing goods, rendering services, or other activities that constitute the entitys ongoing major or central operations
• Expenses: outflows from delivering or producing goods or services that constitute the entity’s ongoing major or central operations.
• Other income gains that may or may NOT arise in the ordinary course of business
  1. statement of changes in equity

report the amounts and sources of changes in equity investors’ investment in the firm over a period of time

1. statement of cash flow

statement of cash flows reports the companys cash receipts and payments.

• Operating Cash Flows the cash effects of transactions that involve the normal business of the firm
• Investing Cash Flows resulting from the acquisition or sale of PPE; a subsidiary or segment; securities; investments in other firms
• Financing Cash Flows resulting from issuance or retirement of the firms debt and equity securities and include dividends paid to stockholders.

  c describe the importance of financial statement notes and supplementary information—including disclosures of accounting policies, methods, and estimates—and management’s commentary;

1. Footnotes

Financial statement notes(footnotes)** disclosures that provide further details about the info summarized in the financial statements.
Footnotes:**

• Discuss the basis of presentation (eg. the fiscal period covered and the inclusion of consolidated entities)
• Provide info about accounting methods, assumptions, and estimates used by management
• Provide additional info on items (eg.business acquisitions or disposals, legal actions, employee benefit plans, contingencies and commitments, significant customers, sales to related parties, and segments of the firm)

Managements commentary
aka. management’s report, operating and financial review, and Managements Discussion and Analysis(MD&A)
IFRS guidance recommends that management commentary address the nature of the business. managements objectives, the companys past performance, the performance measures used and the companys key relationships, resources, and risks,
Analysts must be aware that some parts of managements commentary may be un__audited.
For publicly held firms in the United States, the SEC requires that MD&A discuss:
trends and identify significant events and uncertainties that affect the firm’s liquidity, capital resources, and results of operations.
Effects of inflation and changing prices if material Impact of off-balance-sheet obligations & contractual obligations
Accounting policies that require significant judgment by management. Forward-looking expenditures and divestitures

1. importance

Allow users to improve their assessments of the amount, timing, and uncertainty of the estimates reported in the financial statements.

d describe the objective of audits of financial statements, the types of audit reports, and the importance of effective internal controls;

1. audit and its objective

audit: independent review of an entity’s financial statements.
Public accountants conduct audits and examine the financial reports and supporting records.
objective: enable the auditor to provide an opinion on the_ __fairness _and _reliability _of the financial statements
The auditor examines the company’s accounting and internal control systems, confirms assets and liabilities, and generally tries to determine that there are no material errors in the financial statements.

1. types of aduit reports

Standard auditors opinion contains three parts and states that
*the auditor has performed an independent review on financial statements are prepared by management
*assure that the financial statements contain no material errors
*符合会计准则；估算原则合理；对会计方法变动(如果有)的意见
Key Audit Matters (international reports)/ Critical Audit Matters (U.S.): 对财报影响较大的会计选择

1. internal controls

Internal controls processes by which the company ensures that it presents accurate financial statements.
⬆responsibility of management ⬆its importance

For publicly traded firms in the United States, the auditor must express an opinion on the firms intemal controls. .
The auditor can provide this opinion separately or as the fourth element of th standard opinion

e identify and describe information sources that analysts use in financial statement analysis besides annual financial statements and supplementary information;

• quarterly or semiannual reports

These interim reports typically update the major financial statements and footnotes but are not necessarily audited.

• proxy statements

代理权公告
issued to shareholders when there are matters that require a shareholder vote. good source of information about ↓
election of (qualifications of) board members, compensation, management qualifications, issuance of stock option

• Corporate reports and press releases

written by management and are often viewed as public relations or sales materials.
not all of the material is independently reviewed by outside auditors. Such info can be found on the companys website.
firms often provide earnings guidance before the financial statements are released.
*after an earnings announcement, a conference call may be held, senior management answer (invetors’) questions

• external information

pertinent information on economic conditions and the companys industry and *competitors.
necessary info can be acquired from trade journals, statistical reporting services, and government agencies.

f describe the steps in the financial statement analysis framework.

• Step 1: **State the objective and context.**

*what questions to answer, the form to be presented, resources available, *time needed

• Step 2: **Gather data **

*Acquire the companys financial statements and other relevant data on its industry and the economy.
*Ask questions of the companys management suppliers, and customers, and visit company sites

• Step 3: **Process the data **

*Make any appropriate adjustments to the financial statements. *Calculate ratios.
*Prepare exhibits such as graphs and common-size balance sheets

• Step 4: **Analyze and interpret the data**

*Use the data to answer the questions stated. *Decide conclusions or recommendations

• Step 5:** **Report the conclusions or recommendations.

*Prepare a report and communicate it to its intended audience.
Be sure the report and its dissemination comply with the Code and Standards

• Step 6: Update the analysis.

Repeat these steps periodically change the conclusions or recommendations when necessary.

R20 Financial Reporting Standards

a describe the objective of financial reporting and the importance of financial reporting standards in security analysis and valuation;

1. objective

provide info about the firm to current and potential investors and creditors that is useful for making their decisions about investing in or lending to the firm. __(IASB Condeptual Framework for Financial Reporting)

1. importance

financial reporting standards are needed to provide consistency by narrowing the range of acceptable financial reports

• Reporting standards ensure that transactions are reported by firms similarly

• Provide important inputs for valuation

  b describe the roles of financial reporting standard-setting bodies and regulatory authorities in establishing and enforcing reporting standards;

• standard-setting bodies

professional organizations of accountants and auditors that establish financial reporting standards
Financial Accounting Standards Board FASB (u.s.)
‘Generally Accepted Accounting Principles’ G**AAP
International Accounting Standards Board _IASB _(inetrnational)
‘International Financial Reporting Stardards’ _IF__RS**_

• regulatory authorities

government agencies that have legal authority to enforce compliance with financial report standards
Securities and Exchanges Commission SEC (U.S.)
Financial Conduct Authority (UK)
International Organization of Securities Commissions IOSCO

c describe the International Accounting Standards Board’s conceptual framework, including qualitative characteristics of financial reports, constraints on financial reports, and required reporting elements;

The IASB framework details the qualitative characteristics of financial statements and specifies the required elements

1. Qualitative Characteristics | fundamental** characteristics | relevance | 财报使用者做决策、判断需要的信息；
   predict value; confirmatory value; materiality | | —- | —- | —- | | | faithful representation | complete, neutral (absence of bias), free from error | | _enhancing _characteristics | comparability | presentation should be consistent among firms and across the periods | | | verifiability | independent observers, using same methods, obtain similar result | | | timelines | info is available to decision makers before the info is stale | | | understandability** | 易读性；useful info should not be omitted just because it is complicated |

2. Required Reporting Elements | Required Reporting Elements | | | —- | —- | | Assets | resources controlled as a result of past transactions that are expected to provide future economic benefits | | Liabilities | obligations as a result of past events that are expected to require an outflow of economic resources | | Equity | the owners’ residual interest in the assets after deducting the liabilities | | Income | an increase in economics benefits, either increasing assets or decreasing liabilities in a way that increases owners’ equity (but not including contributions by owners).
   Income include revenues and gains | | Expenses | decreases in economic benefits, either decreasing assets or increasing liabilities in a way that that decreasing owners’ equity (but not including distributions to owners).
   Loss are included in expenses |

1. Constrains and Assumptions

• Constrains

*tradeoff between accounting cost and info richness
*non-quantifiable info is not included (reputation, brand loyalty. capacity for innovatioin, etc)

• Assumption

accrual accounting: financial statements should reflect transactions at the time the actually occur 权责发生制
⬆not necessarily when cash is paid
going concerns: the company will continue to exist for the foreseeable future

d describe general requirements for financial statements under International Financial Reporting Standards (IFRS);

e describe implications for financial analysis of alternative financial reporting systems and the importance of monitoring developments in financial reporting standards.

As financial reporting standards continue to evolve, analysts need to monitor how these developments will affect the financial statements they use.

1. new instrument & product 的影响

An analyst should be aware of new products and innovations in the financial markets that generate new types of transactions. These might not fall neatly into the existing financial reporting standards.
The analyst can use the financial reporting framework as a guide for evaluating what effect new products or transactions might have on financial statements

1. 跟踪最新standards

To keep up to date on the evolving standards, an analyst can monitor professional journals and other sources, such as the IASB and FASB websites. CFA Institute produces position papers on financial reporting issues through the CFA Institute Centre for Financial Market Integrity

1. 跟踪公司财报标准的变化

Analysts must monitor company disclosures for significant accounting standards and estimates change

SS07 Financial Reportingand Analysis (2)

R21 Understanding Income Statements

a describe the components of the income statement and alternative presentation formats of that statement;

income statement
aka. statement of operations, the statement of earnings, or the profit and loss statement (P&L)
Under both U.S. GAAP and IFRS, the income statement and a statement of other comprehensive income can be presented separately or presented together as a single statement of comprehensive income

1. components | Components | Definition | Note | | —- | —- | —- | | revenues | amounts from the sales of goods and services in the normal course of bunsiness | net revenue: revenue less adjustments for estimated returns and allowances | | expenses | amounts incurred to generate revenue, include *cost of goods sold, *operating expenses, *interest, and *taxes. | | | gain and losses | result in an increase or decrease of economic benefit | may or may nor result from ordinary business activities. |

• income statement equation

    ![](https://cdn.nlark.com/yuque/__latex/bd9fe82ef655148d714c2a6a9f052eba.svg#card=math&code=net%5C%3Bincome%3Drevenue-expense&height=18&width=244)<br />        ![](https://cdn.nlark.com/yuque/__latex/0d3ec0e9af51f3ed5fe99bcb46d5c110.svg#card=math&code=%5Cbegin%7Baligned%7D%0Anet%5C%3Bincome%0A%3Drevenue%0A%26-odrinary%5C%3Bexpense%0A%5C%5C%26%2Bother%5C%3Bincome%0A%5C%5C%26-other%5C%3Bexpense%0A%5C%5C%26%2Bgains%0A%5C%5C%26-losses%0A%5Cend%7Baligned%7D%0A&height=107&width=319)

1. Presentation formats

• income of subsidiary

When a firm has a controlling interest in a subsidiary, the statements of the two firms are consolidated; the earnings of both firms are included on the income statement.
The noncontrolling interest is subtracted from the consolidated total income to get the net income of parent company不属于母公司的利润要在consolidate时被减去
noncontrolling interest the share (proportion) of the subsidiarys income not owned by the parent(controling interest)
aka minority interest /minority owners’interest

• formats

  • single-step: all revenues are grouped together and all expense are grouped together

           ![image.png](https://cdn.nlark.com/yuque/0/2020/png/972833/1594948527843-eed84e87-5773-4107-a6ce-e0bd17ac6604.png#align=left&display=inline&height=636&margin=%5Bobject%20Object%5D&name=image.png&originHeight=636&originWidth=551&size=141435&status=done&style=none&width=551)

  • multi-step: includes gross profit, revenues minus cost of goods sold

gross profit** 毛利

operating profit 营业利润

net income/earnings/bottom line 净利润
**

b Describe general principles of revenue recognition and accounting standards for revenue recognition;

accounts receivable(assets): revenue of a sale made on credit
unearned revenue(liability): payments made before goods/services exchanged

1. general priciples

central principle: a firm should recognize revenue when it has transferred a good or service to a customer

1. accounting satanards

• five-step process for recognizing revenue:

• long-term contracts

Revenue is recognized based on a firm’s progress toward completing a performance obligation
Progress toward completion can be measured from
input side (e.g., using the percentage of completion costs incurred as of the statement date)
output side (e.g.,engineering milestones or percentage of the total output delivered to date)
Costs to secure the contract and certain other costs must be capitalized (put on the B/S as an asset).
effect: income statement, reported expenses⬇⋙during the contract period, reported profitability⬆

• required disclosures under the converged standards

Contracts with customers by category.
Assets and liabilities related to contracts, including balances and changes.
Outstanding performance obligations and the transaction prices allocated to them.
Management judgments used to determine the amount and timing of revenue recognition, including any changes to those judgments.

c calculate revenue given information that might influence the choice of revenue recognition method;

d describe general principles of expense recognition, specific expense recognition applications, and implications of expense recognition choices for financial analysis;

1. genreal priciples of expense recognition

matching principle: expenses to generate revenue are recognized in the same period as the revenue 收支对应原则
period costs** are expensed in the period incurred
⬆ **expenses not directly tied to revenue generation

1. specific expense ercognition applicaion

• inventory | | U.S. | IFRS | COGS | Ending Inventory | Note | | —- | —- | —- | —- | —- | —- | | specific identification | ✅ | ✅ | | | | | first-in, first-out (FIFO) | ✅ | ✅ | first purchased | most recent purchases | FIFO is appropriate for inventory that has a limited shelf life. | | last-in, first-out (LIFO) | ✅ | ❌ | last purchased | earlist purchase | In an inflationary environment, LIFO results in higher cost of goods sold. Higher cost of goods sold results in lower taxable income and, therefore, lower income taxes.
  LIFO is appropriate for inventory that does not deteriorate with age | | weighted average cost | ✅ | ✅ | average cost of all items | average cost of all items | *Average cost results in cost of goods sold and ending inventory values between those of LIFO and FIFO |

• depreciation

The cost of long-lived assets must also be matched with revenues. Long-lived assets are expected to provide economic benefits beyond one accounting period. The allocation of cost over an asset’s life is known as depreciation (tangible assets), depletion (natural resources), or amortization (intangible assets)

• straight-line depreciation (SL)

• accelerated depreciation 加速折旧

speeds up the recognition of depreciation expense in a systematic way
rationale: most assets generate more benefits in the early years of their economic life
declining balance method (DB) 余额递减折旧法
applies a constant rate of depreciation to an asset’s (declining) book value each year.
double-declining balance (DDB) 双倍余额递减法
*depreciation ends once the estimated residual value has been reached.

对于无残值的资产，余额递减法不能完全折旧，一般在某一时间点转换为直线折旧法

• amortization

amortization: the allocation of the cost of an intangible asset (such as a franchise agreement) over its useful life.

• straight-line method is most used
• Intangible assets with indefinite lives (e.g., goodwill) are not amortized.

must be tested for impairment at least annuallyexpense recognized on the income statement if impaired

• bed debt & warranty

If a firm sells goods or services on credit or provides a warranty to the customer, the matching principle requires the firm to estimate bad debt expense and/or warranty expense.
i.e. expense is recognized in the period of the sale

1. implication for analysis

estimates are involved, possible for firms to delay or _accelerate _the recognition of expenses.
delayed expense recognition increases current net income (more aggressive)
consider the underlying reasons for a change in an expense estimate
compare a firm’s estimates to those of peer firms
find relevsnt info in footnote and _*MD&A_

e describe the financial reporting treatment and analysis of non-recurring items (including discontinued operations, unusual or infrequent items) and changes in accounting policies;

1. non-recurring items

   🅰 discontinued operation

• basic concepts

discontinued operation: *decided to dispose +either * [not yet done , done in the current year after the operation had generated income or losses] 停止经营的项目
measurement date: the date when the company develops a formal plan for disposing of an operation 计划废止
phaseout period: the time between the measurement period and the actual disposal date 计划废止到执废止

• accounting policy
  • income/loss is reported *separately in the __I/S, *net of tax, *after income from continuing operations.
  • any past I/S presented must be restated, separating income or loss from the discontinued operations.
  • on measurement date, the company will accrue any estimated loss during the phaseout period and any estimated loss on the sale of the business.
  • any expected gain on the disposal cannot be reported until after the sale is completed. 损失先计，收益后记

• analytical implications

  • discontinued operations do not affect net income from continuing operations.
  • exclude discontinued operations when forecasting future earnings. 做未来收入预测时排除掉
  • discontinuing a operation/selling assets may provide info about the future CF of the firm

  🅱 unusual or infrequent items

• basic concepts

unusual or infrequent items: events are either unusual in nature or infrequent in occurrence
types: *gain/loss of selling assets(not ordinaty); *impairments, *write-offs, *write-downs, *restructuring costs

• analytical implications
  • unusual or infrequent items affect net income from continuing operations,
  • determine whether unusual or infrequent items should be included when forecasting future earnings.
  • whether “unusual or infrequent” losses occur every year or every few years

1. changes in acounting policies**

retrospective application: prior-period financial statements MUST be restated
prospective application: prior statements are NOT restated

modified retrospective application: does not require restatement of prior-period statements; however, beginning values of affected accounts are adjusted for the cumulative effects of the change
In the recent change to revenue recognition standards, firms were given the option of modified retrospective application**

f distinguish between the operating and non-operating components of the income statement;

Operating and nonoperating transactions are usually reported separately in the I/S.

• nonfinancial firm

nonoperating transactions may result from:
*investment income: investment income & any gains/losses from sale of securities(for inv.) are nonoperating
*financing expenses.: Interest expense is based on the firm’s capital structure, is nonoperating

• financial firm

for a financial firm, investment income and financing expenses are usually considered operating activities.

g describe how earnings per share is calculated and calculate and interpret a company’s earnings per share (both basic and diluted earnings per share) for both simple and complex capital structures;

1. basic concepts

earnings per share (EPS) reported only for shares of common stock
simple capital structure: contains no potentially dilutive securities. contains only common stock, nonconvertible debt, and nonconvertible preferred stock Firms with simple capital structures report only basic EPS
complex capital structure contains potentially dilutive securities such as options, warrants, or convertible securities
Firms with complex capital structures must report both basic and diluted EPS

1. Baisc EPS

• 计算公式与影响因素

  
  weighted average number of common shares: the number of shares outstanding during the year, weighted by the portion of the year they were outstanding
  | stock dividend: distribution of additional shares to each shareholder (proportional to current number of shares)
  | stock split: the division of each “old” share into a specific number of “new” (post split) shares
  *股票股利和股票分割均不影响股权结构, 但影响计算加权平均流通股数

• Example

1. diluted EPS

h distinguish between dilutive and antidilutive securities and describe the implications of each for the earnings per share calculation;

dilutive securities stock options, warrants, convertible debt, or convertible preferred stock that would decrease EPS if exercised or converted to common stock.
antidilutive securities stock options, warrants, convertible debt, or convertible preferred stock that would increase EPS if exercised or converted to common stock.

+N(1-$p*/$P) | | antidilutive ** | | do NOT need adjustmet | |

i convert income statements to common-size income statements;

common-size income statement expresses each category of the I/S as a percentage of revenue

effective tax rate: Tax expense is more meaningful when expressed as a percentage of pretax income
⬆In most cases, expressing expenses as a percentage of revenue is appropriate. here’s an exception

j evaluate a company’s financial performance using common-size income statements and financial ratios based on the income statement;

1. using common-size income statement

2. using **financial ratios**

gross profit margin: the ratio of gross profit (revenue minus cost of goods sold) to revenue (sales) 毛利率

net profit margin: the ratio of net income to revenue 净利率

operating profit margin operating profit divided by revenue 营业利润率

pretax margin pretax accounting profit divided by revenue 税前利润率

k describe, calculate, and interpret comprehensive income;

1. comprehensive income 综合收益

comprehensive income: includes all changes in equity except for owner contributions and distributions
comprehensive **income = net income + other comprehensive income
other comprehensive income (OCI)*:
Foreign currency translation gains and losses. | Adjustments for minimum pension liability.
Unrealized gains and losses from cash flow hedging derivatives. | *Unrealized gains and losses from available-for-sale securities.

|
- comprehensive **income** = net income + other comprehensive income
includes all changes in equity except for owner contributions and distributions | | | —- | —- | |
- net income
|
- other comprehensive income (OCI)*
Foreign currency translation gains and losses.
Adjustments for minimum pension liability.
Unrealized gains and losses from cash flow hedging derivatives.
*Unrealized gains and losses from available-for-sale securities. |

retained earnings: an account is used to transferred the net income (less any dividends declared) to stockholders’ equity
unrealized gains and losses: gains/losses in the value of securities that a firm owns and has not yet sold

1. 对 investment securities 的处理 | | Categories | Policy for unrealized gains and losses | | —- | —- | —- | | U.S.
   GAAP | trading securities
   debt securities that a firm owns, but intends to sell | reported on the income statement | | | held to maturity
   NOT intend to sell prior to maturity | reported at amortized cost on the B/S
   (not fair value)
   unrealized gains and losses are NOT reported
   (neither on I/S or as OCI) | | | available-for-sale securities
   not expected to be held to maturity or sold in the near term | reported as other comprehensive income | | IFRS | Securities measured at **fair value through profit and loss** (reoprted on the I/S) | | | | __Securities measured at **amortized cost (NOT reported) | | | | Securities measured at fair value though **other comprehensive income (reoprted as OCI) | |

l describe other comprehensive income and identify major types of items included in it.

see in k

R22 Understanding Balance Sheets

a describe the elements of the balance sheet: assets, liabilities, and equity;

balance sheet: reports the firm’s financial position at a point in time

A financial statement item should be recognized if
future economic benefit (positive/negative) from the item is probable & item’s value or cost can be measured reliably

b describe uses and limitations of the balance sheet in financial analysis;

1. uses

• assess a firm’s liquidity, solvency, and ability to make distributions to shareholders

liquidity: the ability to meet short-term obligations
solvency: the ability to meet long-term obligations

1. limitations

• problems of value measure

B/S elements should not be interpreted as market value or intrinsic value.
B/S consists of a mixture of values
Value may have changed since the B/S date

• off-balance sheet

There are assets and liabilities that do not appear on the balance sheet but certainly have value

c describe alternative formats of balance sheet presentation;

Both IFRS and U.S. GAAP require firms to separately report their current assets and noncurrent assets and current and noncurrent liabilities.
classified balance sheet: current/noncurrent format, useful in evaluating liquidity
liquidity-based format: present assets and liabilities in the order of liquidity, often used in the banking industry

d distinguish between current and non-current assets and current and noncurrent liabilities;

1. background

operating cycle: the time it takes to produce or purchase inventory, sell the product, and collect the cash

1. four subcategories | category | subcategory | explanation | | —- | —- | —- | | assets | current assets | cash/other assets that will likely be converted into cash or used up within max(one year, one operating cycle)
   reveal information about the operating activities of the firm | | | noncurrent assets | will not be converted into cash or used up within one year or operating cycle
   provide information about the firm’s investing activities (foundation of operation) | | liabilities | current liabilities | obligations that will be satisfied within max(one year, one operating cycle) | | | noncurrent liabilities | |

2. supplementary

• working capital: current assets _minus _current liabilities

        ![](https://cdn.nlark.com/yuque/__latex/40b8fa054d981eee40d3af3e97ad81f4.svg#card=math&code=%5Cmathrm%7B%0Awork%5C%3Bcapital%3Dcurrent%5C%3Bassets-current%5C%3Bliabilities%7D&height=18&width=358)<br />Not enough working capital may indicate liquidity problems. Too much working capital may indicate an inefficiency 

• More specifically, a liability that meets any of the following criteria is considered current:

Settlement is expected during the normal operating cycle.
Settlement is expected within one year.
Held primarily for trading purposes.
There is not an unconditional right to defer settlement for more than one year.

e describe different types of assets and liabilities and the measurement bases of each;

1. ASSETS

   Current Assets🚩

   | Cash and cash equivalents | | | —- | —- | | Definition | short-term, highly liquid investments that are readily convertible to cash and near enough to maturity that interest rate risk is insignificant. | | Measrement & Notes | amortized cost or fair value
   (either measurement base should result in about the same value.) | | Examples | Treasury bills, commercial paper, and money market funds | | Marketable securities | | | Definition | financial assets that are traded in a public market and whose value can be readily determined | | Measrement & Notes | ③ | | Examples | Treasury bills, notes, bonds, and equity securities | | Accounts receivable/ trade receivables **① | | | Definition | financial assets that represent amounts owed to the firm by customers for goods or services sold on credit | | Measrement & Notes | reported at *net realizable value, (based on estimatedbad debt expense) | | Examples | | | Inventories | | | Definition | goods held for sale to customers or used in manufacture of goods to be sold | | Measrement & Notes | IFRS:
   _lower _of cost or net realizable value
   *write down when NRV*can be written back up when value recovering
   —————————————————————————————————————————————————
   U.S. GAAP:
   _lower _of cost or market (inventory cost∈[LIFO, retail])
   _lower _of cost or net realizable value (inventory cost∉[LIFO, retail])
   *write down when market<carrying value

*No write-up is allowed | | Examples | | | Other current assets | | | Definition | include amounts that may not be material if shown separately | | Measrement & Notes | | | Examples | prepaid expenses (operating costs that have been paid in advance ) |

/①/
allowance for doubtful accounts 坏帐准备
contra account 抵消账户used to reduce the value of its controlling account
net realizable value=gross receivables - doubtful account
written off: removed from the balance sheet because they are uncollectible
——————————————————————————————————————————-
/②/
inventory costs
standard costing: assigning predetermined amounts of materials, labor, and overhead to goods produced
retail method: measure inventory at retail prices and then subtract gross profit in order to determine cost
net realizable value = selling price - completion costs - disposal (selling) cost
Market is usually equal to replacement cost;
constraint: net realizable value＞**market**＞net realizable value - normal profit margin
————————————————————————————————————————————————————————
/③/
financial instruments: contracts that give rise to both a financial asset of one entity and a financial liability or equity instrument of another entity.
Financial instruments can be found on the asset side and the liability side of the balance sheet.
Financial assets include investment securities (stocks and bonds), derivatives, loans, and receivables.

💠U.S. GAAP

*subsequent changes in market value are ignored. | | Trading securities debt,all equity
intent to sell over the near term. | Fair
Value

| unrealized gains and losses (changes in market value before the securities are sold) are recognized in the I/S | | Available-for-sale securities debt
held to maturity or traded in the near term | | unrealized gains and losses are recognized as OCI as a part of shareholders’ equity | | Derivatives | | treated the same as trading securities | | For all financial securities, dividend and interest **income** and realized **gains and losses (actual gains or losses when the securities are sold) are recognized in the I/S** | | |

unrealized gains and losses a.k.a. holding period gains and losses.
fair value a.k.a. mark-to-market accounting
💠**IFRS**
While the three different treatments are essentially the same as those used under U.S. GAAP, there are significant differences in how securities are classified under IFRS and under U.S. GAAP. Similarities and differences are as follows:

through
OCI
≈ available-for-sale securities (U.S. GAAP) | | Equity only if this treatment is chosen at time of purchase | | | Debt acquired with intent to sell in near term | Measured at
fair value

through
profit and loss (I/S)
≈ trading securities (U.S. GAAP) | | Equity (unless fair value through OCI is chosen at time of purchase) | | | Derivatives | | | Any security not assigned to the other two categories | | | Any security for which this treatment is chosen at time of purchase | |

Noncurrent Assets🚩

/①/
💠cost model:
Land is not depreciated because it has an indefinite life
PP&E other than land is reported at amortized cost

amortized cost: **historical **cost minus accumulated depreciation, amortization, depletion, and impairment losses).
historical cost: purchase price plus any cost necessary to get the asset ready for use (e.g. delivery and installation costs. )
PP&E must be tested for impairment:
impairment ⬇
An asset is impaired if its carrying value ＞ recoverable amount
If impaired, the asset is written down to its recoverable amount and a loss is recognized in the income statement.
Loss recoveries are allowed under IFRS but not under U.S. GAAP.
*recoverable amount: IFRS max (fair value less any selling costs**, asset’s **value in use)
**value in use**: present value of the asset’s future cash flow stream

💠revaluation model:
fair value less any accumulated depreciation
changes in fair value are reflected in shareholders’ equity, may be recognized in the I/S in certain circumstances
—————————————————————————————————————————————————————————————-

Intangible Assets🚩

identifiable intangible assets: can be acquired separately or are the result of rights or privileges conveyed to their owner
unidentifiable intangible assets: cannot be acquired separately and may have an unlimited life (e.g. goodwill)

/①/
Goodwill: the excess of purchase price over the fair value of the identifiable net assets (assets minus liabilities) acquired
Goodwill is ONLY created in a purchase ACQUISITION
*impairment
If impaired, goodwill is reduced and a loss is recognized in the I/S (does not affect cash flow)
As long as goodwill is not impaired, it can remain on the B/S indefinitely.
*accounting goodwill 与 economic goodwill
economic goodwill derives from the expected future performance of the firm
accounting goodwill is the result of past acquisitions.
*implication
⚠ one can allocating more acquisition price to goodwill ➡less depreciation/amortization expense➡higher net income
eliminate goodwill from B/S and goodwill impairment charges from I/S for comparability when computing ratios
evaluate future acquisitions in terms of the price paid relative to the earning power of the acquired assets.
商誉不折旧所以如果恶意将并购额转移至商誉，会产生粉饰效果，降低每年的折旧费用，使net income升高

1. LIABILITIES

   Current Liabilities🚩

   | Accounts payable | | | —- | —- | | Definition | amounts the firm owes to suppliers for goods or services purchased on credit. | | Measrement & Notes | / | | Examples | / | | Notes payable and current portion of long-term debt | | | Definition | obligations in the form of promissory notes owed to creditors and lenders.
   notes payable can also be reported as noncurrent liabilities if maturities＞one year.
   current portion of long-term debt is the principal portion of debt due within one year or operating cycle, whichever is greater. | | Measrement & Notes | / | | Examples | / | | Accrued liabilities a.k.a. accrued expenses | | | Definition | expenses that have been recognized in the I/S but are not yet contractually due | | Measrement & Notes | / | | Examples | interest payable, wages payable, and accrued warranty expense, taxes payable | | Taxes payable | | | Definition | current taxes that have been recognized in the I/S but have not yet been paid | | Measrement & Notes | / | | Examples | / | | Unearned revenue | | | Definition | cash collected in advance of providing goods and services. | | Measrement & Notes | **when received, assets (cash) and liabilities (unearned revenue) increase by the same amount.
   *as the product/services are delivered, firm recognizes revenue in the I/S and reduces the liability
   ——————————————————
   *does not require a future outflow of cash like accounts payable
   *may be an indication of future growth as the revenue will ultimately be recognized in the I/S. | | Examples | a magazine publisher receives subscription payments in advance of delivery |

Non-Current Liabilities🚩

f describe the components of shareholders’ equity;**

statement of changes in stockholders’ equity

g convert balance sheets to common-size balance sheets and interpret commonsize balance sheets

common-size balance sheet: expresses each item of the balance sheet as a percentage of total assets.

• The common-size format standardizes the balance sheet by eliminating the effects of size. This allows for comparison over time (time-series analysis) and across firms (cross-sectional analysis).

  h calculate and interpret liquidity and solvency ratios.

1. liquidity **ratios**

measure the firm’s ability to satisfy its short-term obligations as they come due.

• current ratio

• quick ratio

• cash ratio

Although all three ratios measure the firm’s ability to pay current liabilities, they should be considered collectively

1. solvency ratios

   measure the firm’s ability to satisfy its long-term obligations.
   debt is considered to be any interest bearing obligation.

• long-term debt-to-equity

    ![](https://cdn.nlark.com/yuque/__latex/0cca64360b8c1a8f38c4c0878eaf5cea.svg#card=math&code=%5Cmathrm%7B%0A%5C%3Bterm%5C%3Bdebt%5C%3Bto%5C%3Bequity%3D%5Cfrac%7Blong%5C%3Bterm%5C%3Bdebt%7D%7Btotal%5C%3Bequity%7D%7D&height=42&width=283)

• total debt-to-equity

    ![](https://cdn.nlark.com/yuque/__latex/911a51528e2afdef2395bd5218821a02.svg#card=math&code=%5Cmathrm%7Btotal%5C%3Bdebt%5C%3Bto%5C%3Bequity%3D%0A%5Cfrac%7Btotal%5C%3Bdebt%7D%7Btotal%5C%3Bequity%7D%7D&height=42&width=255)

• debt ratio

    ![](https://cdn.nlark.com/yuque/__latex/d44d1cdeca3028f0dd6306a62d74436a.svg#card=math&code=%5Cmathrm%7Bdebt%5C%3Bratio%3D%5Cfrac%7Btotal%5C%3Bdebt%7D%7Btotal%5C%3Bassets%7D%7D&height=40&width=181)

• financial leverage

    ![](https://cdn.nlark.com/yuque/__latex/8f95132be73d63701c6a37d1b44f9c32.svg#card=math&code=%5Cmathrm%7B%0Afinancial%5C%3Bleverage%3D%0A%5Cfrac%7Baverage%5C%3Btotal%5C%3Bassets%7D%7Baverage%5C%3Btotal%5C%3Bequity%7D%7D&height=42&width=301)<br />financial leverage ratio captures the impact of all obligations, both interest bearing and non-interest bearing. <br />_All four ratios measure solvency but they should be considered collectively_

1. limitations of B/S ratio analysis

• Comparisons with peer firms are limited by differences in accounting standards and estimates.
• Lack of homogeneity as many firms operate in different industries.
• Interpretation of ratios requires significant judgment.
• B/S data are only measured at a single point in time.

  R23 Understanding Cash Flow Statements

  The cash. flow. statement. provides the following:
  Info about a company’s cash receipts and cash payments during an accounting period.
  Info about a company’s operating, investing, and financing activities.
  An understanding of the impact of accrual accounting events on cash flows.

  a compare cash flows from operating, investing, and financing activities and classify cash flow items as relating to one of those three categories given a description of the items;

  cash flow from operating activities (CFO)
  inflows and outflows of cash resulting from transactions that affect a firm’s net income
  cash flow from investing activities (CFI)
  inflows and outflows of cash resulting from the acquisition or disposal of long-term assets and certain investments
  cash flow from financing activities (CFF)
  the inflows and outflows of cash resulting from transactions affecting a firm’s capital structure

b describe how non-cash investing and financing activities are reported;

• Noncash investing and financing activities are NOT reported in the cash flow statement since they do NOT result in inflows or outflows of cash
• Noncash transactions must be disclosed in either a footnote or supplemental schedule to the cash flow statement

  c contrast cash flow statements prepared under International Financial Reporting Standards (IFRS) and US generally accepted accounting principles (US GAAP);

  | Activities | U.S. GAAP | IFRS | | —- | :—-: | :—-: | | Interest received and dividends received | CFO | CFO/CFI | | Dividends paid to the company’s shareholders | CFF | CFO/CFF | | interest paid on the company’s debt | CFO | CFO/CFF | | taxes paid （investing or financing transaction） | CFO | CFO | | taxes paid （investing or financing transaction） | CFO | CFI |

d distinguish between the direct and indirect methods of presenting cash from operating activities and describe arguments in favor of each method;

1. direct method

direct method each line item of the accrual-based I/S is converted into cash receipts or cash payments.
the direct method converts an accrual-basis I/S into a cash-basis I/S.

1. indirect method

indirect method: convert net income to CFO by making adjustments for transactions that affect net income but are not cash transactions.
These adjustments include eliminating noncash expenses (e.g., depreciation and amortization), nonoperating items (e.g., gains and losses), and changes in B/S accounts resulting from accrual accounting events.

1. arguments & disclosure requirements | | direct method | indirect method | | —- | —- | —- | | info richness | 🙂more info
   presents the firm’s operating cash receipts and payments | 🙁less info
   only presents the net result of these receipts and payments | | | knowledge of past receipts and payments is useful in estimating future operating cash flows | 🙂focus on the difference between net income and CFO | | U.S. GAAP | must also disclose the adjustments necessary
   to reconcile net income to CFO (≈用间接法做一次) | | | | payments for interest and taxes can be reported in the cash flow statement or disclosed in the footnotes. | | | IFRS | payments for interest and taxes MUST be disclosed separately in the cash flow statement under either method | |

e describe how the cash flow statement is linked to the income statement and the balance sheet;

1. adjusting **cash balance** by CF

    ![](https://cdn.nlark.com/yuque/__latex/8b209a3d01d01cbfbf0868977b009e40.svg#card=math&code=%5Cbegin%7Baligned%7D%0A%0A%26%5C%3B%5C%3B%5C%3B%5C%3B%5C%3BOperating%5C%3Bcash%5C%3Bflow%0A%5C%5C%26%2BInvesting%5C%3Bcash%5C%3Bflow%0A%5C%5C%26%2BFinancing%5C%3Bcash%5C%3Bflow%0A%5C%5C%26%5Coverline%7B%5C%5C%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%7D%20%0A%5C%5C%26%3Dchange%5C%3Bin%5C%3BB%2FS%0A%5C%5C%26%2BBegining%5C%3Bcash%5C%3Bbalance%0A%5C%5C%26%5Coverline%7B%5C%5C%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%5C%3B%7D%0A%5C%5C%26%3DEnding%5C%3Bcash%5C%3Bbalance%0A%5Cend%7Baligned%7D%0A&height=175&width=197)

2. CF & B/S with a few exceptions

operating activities ↔ current assets & current liabilities.
Investing activities ↔ noncurrent assets
financing activities ↔ noncurrent liabilities & equity.

1. B/S items ↔I/S&C/F

Transactions for which the timing of revenue or expense recognition differs from the receipt or payment of cash are reflected in changes in B/S accounts.
➡

f describe the steps in the preparation of direct and indirect cash flow statements, including how cash flows can be computed using income statement and balance sheet data;

* CFO is calculated differently, but the result is the same under both methods.
* The calculation of CFI and CFF is identical under both methods.
* increase in an asset ∽ use of cash (outflow) | decrease in an asset ∽ source of cash (inflow)
* increase in a liability ∽ source of cash (inflow) | decrease in a liability ∽ use of cash (outflow)
* Sources of cash are positive numbers (cash inflows) and uses of cash are negative numbers (cash outflows).
**

Operating cash flows (CFO)
C F O	🚩direct method**: common components * shows only cash payments and cash receipts over the period. *CFO=sum of these in/out flows
	*Cash collected from customers, typically the main component of CFO *Cash used in the production of goods and services (cash inputs) *Cash operating expenses *Cash paid for interest *Cash paid for taxes
	🚩Indirect Method**: steps **
	S1. Begin with net income S2. Add or subtract changes to B/S operating accounts as follows: operating asset accounts: Increases (uses of cash) are Subtracted, Decreases (sources of cash) are Added. operating liability accounts: Increases (sources of cash) are Added, Decreases (uses of cash) are Subtracted

S3. Add back all noncash charges to income (e.g. depreciation and amortization)
Subtract all noncash components of revenue.①
S4. Subtract gains or Add losses that resulted from CFF/CFI (e.g. gains from land sale). | | Investing cash flows (CFI)
calculated by examining the change in the gross asset accounts that result from investing activities (e.g. PPE, intangible assets, and investment securities).
Related accumulated dpreciation or amortization accounts are ignored since they do NOT represent cash expenses.
“gross” simply means an amount presented on the B/S before deducting any accumulated depreciation or amortization. | | | C
F
I | cash paid for a new asset | | | | | | cash from asset sold | | | | | Financing cash flows (CFF)
determined by measuring the cash flows occurring between the firm and its capital suppliers. | | | C
F
F | net cash flows from creditors | | |
Note that interest paid is technically a cash flow to creditors, but it is included in CFO under U.S. GAAP. | | | net cash flows from shreholder | | |
Cash dividends paid can be calculated from dividends declared and any changes in dividends payable__ | | total cash flow | | | |
If calculated correctly, the total cash flow will equal the change in cash from one balance sheet to the next |

①
1-移除非现金费用影响Add Back Noncash expense: depreciation, amortization
2-移除CFI影响 subtract gains on the disposal of assets. a loss would be added back to net income
3-移除权责发生制影响 substract any increase in receivable; ass any increase in payable. 减去应收增加，加上应付增加
———————————————————————————————————————————————————————————-

g convert cash flows from the indirect to direct method;

Direct CFO can be computed using a combination of the I/S and indirect ** CF **statement
Major sections in direct CFO: cash inflows (receipts) and cash outflows (payments).
General Principle:
*adjust each I/S item for its corresponding B/S accounts
*eliminate noncash and nonoperating transactions.
Cash collections from customers:
1. Begin with net sales from the I/S.
2. Subtract (add) any increase (decrease) in receivable balance as reported in indirect method. 应收账款没有实际现金流入
3. Add (subtract) an increase (decrease) in unearned revenue. 未赚取收入没有实际现金流出
Cash payments to suppliers:
1. Begin with cost of goods sold (COGS) as reported in the I/S.
2. If depreciation and/or amortization have been included in COGS, these noncash expenses must be added back
3. Reduce (increase) COGS by any increase (decrease) in the accounts payable balance as reported in the indirect method.
4. Add (subtract) any increase (decrease) in the inventory balance as disclosed in the indirect method.
Increases in inventory are not included in COGS for the period but still represent the purchase of inputs, so they increase cash paid to suppliers.
5. Subtract an inventory write-off that occurred during the period (no cash flow is associated with writeoff )
Cash taxes paid:
1. Starting with income tax expense on the I/S.
2. Adjustment must be made for changes in related B/S accounts (DTA, DTL, and income taxes payable).
Cash operating expense:
Equal to selling, general, and administrative expense (SG&A) from the I/S, increased (decreased) for any increase (decrease) in prepaid expenses.
Any increase in prepaid expenses is a cash outflow that is not included in SG&A for the current period.

h analyze and interpret both reported and common-size cash flow statements;

1. Analyzing CF

• Major Sources and Uses of Cash

Sources and uses of cash change as the firm moves through its life cycle.
*early stages of growth, CFO may be negative (use cash to finance increases in inventory and receivables.)
⬆usually financed externally by issuing debt or equity securities (not sustainable).
*Eventually, the firm MUST begin generating positive CFO
*Over the long term, firms must generate CFO that exceed capital expenditures and provide a return to debt and equity holders.

• Operating Cash Flow

*Determinants of CFO.
🙂: Positive CFO ⋘ firm’s earnings-related activities.
🙁: Positive CFO ⋘ decreasing noncash working capital (not sustainable),
⬆e.g. liquidating inventory and receivables or increasing payables.
*Quality of a firm’s earnings.
A stable relationship of CFO and net income is an indication of quality earnings.
⬆(relationship can also be affected by the business cycle and the firm’s life cycle.)
‘Earnings significantly exceed CFO’ ⋙(maybe) aggressive (or even improper) accounting choices
(e.g. recognizing revenues too soon or delaying the recognition of expenses). ⬆
Investigate the variability of net income and CFO

• Investing Cash Flow*

* Increasing capital expenditures⋙indication of growth (usually)
* Firm may reduce capital expenditures or even sell capital assets in order to save or generate cash.
may result in higher cash outflows in the future (资产可能需要重置⋙未来outflow↑)
* 🙂：CFO＞capital expenditures

• Financing Cash Flow

* whether the firm is generating CF by issuing debt or equity.
* whether the firm is using cash to repay debt, reacquire stock, or pay dividends.

1. Common-Size Cash Flow Statement
   • each line item ⋙ percentage of revenue. useful in identifying trends and forecasting future CF
   • inflow of cash ⋙ percentage of **total cash inflows**,

outflow of cash ⋙ percentage of **total cash outflows**.

i calculate and interpret free cash flow to the firm, free cash flow to equity, and performance and coverage cash flow ratios.

free cash flow: cash flow that is available once the firm has covered its capital expenditures (自由现金流)

1. free cash flow to the firm

Free cash flow to the firm (FCFF) the cash available to all investors, both equity owners and debt holders


NI=net income; NCC=noncash charges (depreciation and amortization); Int=cash interest paid;
FCInv = fixed capital investment (net capital expenditures); WCInv = working capital investment
CFO=cash flow from operation; Int= cash interest paid; FCInv=fixed capital investment (net capital expenditures)
*interest paid, net of tax, is added back to net income

*fixed capital investment is cash spent on fixed assets minus cash received from selling fixed assets
not the same as CFI (CF from fixed investments, investments in securities, and repaid principal from loans made)

1. free cash flow to equity

   
   net borrowing = debt issued – debt repaid
   If firms that follow IFRS have subtracted dividends paid in calculating CFO, dividends must be added back when calculating FCFE

2. performance CF ratio | Performance Ratios | Formula | | —- | —- | | cash flow to revenue |
   | | cash return on assets |
   | | cash return on equity |
   | | cash to income |
   | | cash flow per share |
   | | If firms under IFRS have subtracted dividends paid in calculating CFO, dividends must be added back when calculating FCFE. | |

3. coverage CF ratio | Coverage Ratios | Formula | | —- | —- | | debt coverage |
   | | interest coverage |
   
   __If interest paid was classified as CFF under IFRS, no interest adjustment is necessary | | reinvestment |
   | | debt payment |
   | | dividend payment |
   | | investing & financing |
   |

R24 Financial Analysis Techniques

a describe tools and techniques used in financial analysis, including their uses and limitations;

Graphical Analysis
Definition
Uses	visually present performance comparisons and composition of financial statement elements over time
Limitations	/

b classify, calculate, and interpret activity, liquidity, solvency, profitability, and valuation ratios;

Liquidity ratios the ability to pay short-term obligations as they come due
Current Ratio
	higher ratio ➡ 🙂 ratio＜1➡负运营资本➡liquidity crisis
Quick Ratio
Marketable securities: short-term debt instruments, typically liquid+good credit quality	higher ratio ➡ 🙂
Cash Ratio
	/
Defensive Interval
	支出: COGS, SG&A, *研发. If these items are taken from the I/S, noncash charges should be added back
Cash Conversion Cycle
cash conversion cycle too high ➡ company has an excessive amount of capital investment in the sales process.

total capital = long-term debt + short-term debt + common and preferred equity
total capital = total assets
| | |
| | | | Gross Profit Margin 毛利润率 | | | |
| | | | Operating Profit Margin 营业利润率 | | | |
| | | | Pretax Margin 税前利润率 | | | |
| | | 利润表+资产负债表项目 | Return on Assets ROA**1 | | | |
| | | | Return on Assets ROA**2 | | | |

严格意义上的ROA需要加回支付给debt holder 的利息（不包括asset侧securities的gain/loss） | | | | Operating Return on Assets | | | |
| | | | Return on Total Capital | | | |
| | | | Return on Equity | | | |
| | | | Return on Common Equity | | | |
| |

c describe relationships among ratios and evaluate a company using ratio analysis;

d demonstrate the application of DuPont analysis of return on equity and calculate and interpret effects of changes in its components;

DuPont system of analysis: use basic algebra to decompose ROE into a function of different ratios, to reflect the impact of leverage, profit margins, and turnover on shareholder returns.

• original three-part approach | original three-part approach** | | | | | —- | —- | —- | —- | | | 1 | 2 | 3* | |
  |
  |
  |
  | | |
  |
  |
  | | If ROE is relatively low, it must be that at least one of the following is true:
  poor profit margin, poor asset turnover, too little leverage | | | |

• extended five-part system | extended five-part system | | | | | | | —- | —- | —- | —- | —- | —- | | | 1 | 2 | 3 | 4 | 5 | |
  |
  |
  |
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  |
  | | |
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  | | tax burden=1-tax rate | | | | | |

e calculate and interpret ratios used in equity analysis and credit analysis;

1. equity analysis

• valuation ratios

price-to-earnings (P/E) ratio

price-to-cash flow, price-to-sales, price-to-book value ratios.

EPS (basic EPS, diluted EPS), cash flow per share, EBIT per share, EBITDA per share
⚠ Per share measures are NOT comparable because the number of outstanding shares DIFFER among firms.

• dividends

dividends declared: total dividends on a firm-wide basis
retained earnings: net income minus dividends declared

retention rate (RR): the proportion of earnings reinvested

⬆
sustainable growth rate (g):grow rate without additional external equity issues +holding leverage constant

• othet ratios

net income per employee, **sales per employee **
used in the analysis and valuation of service and consulting companies
growth in same-store sale: growth without the effects of new locations that have been opened
used in the restaurant and retail industries
sales per square foot
used in the retail industry

1. Business Risk

• 营收的变异系数衡量risk

    ![](https://cdn.nlark.com/yuque/__latex/833b94c2afeb834100e816247f267922.svg#card=math&code=%5Cmathrm%7B%0ACV%5C%3Bsales%7D%3D%0A%5Cmathrm%7B%0A%5Cfrac%0A%7Bstandard%5C%3Bdeviation%5C%3Bof%5C%3Bsales%7D%0A%7Bmean%5C%3Bsales%7D%0A%7D&height=40&width=287)<br />        ![](https://cdn.nlark.com/yuque/__latex/488d05c42afd71aa12f23997f4f6ea7f.svg#card=math&code=%5Cmathrm%7B%0ACV%5C%3Boperating%5C%3Bincome%7D%3D%0A%5Cmathrm%7B%0A%5Cfrac%0A%7Bstandard%5C%3Bdeviation%5C%3Bof%5C%3Boperating%5C%3Bincome%7D%0A%7Bmean%5C%3Boperating%5C%3Bincome%7D%0A%7D%0A&height=42&width=469)<br />        ![](https://cdn.nlark.com/yuque/__latex/9fe0d3855401c6244f7108d2c495be99.svg#card=math&code=%5Cmathrm%7B%0ACV%5C%3Bnet%5C%3Bincome%7D%3D%0A%5Cmathrm%7B%0A%5Cfrac%0A%7Bstandard%5C%3Bdeviation%5C%3Bof%5C%3Bnet%5C%3Bincome%7D%0A%7Bmean%5C%3Bnet%5C%3Bincome%7D%0A%7D&height=38&width=378)

• 金融行业

capital adequacy: ratio of some dollar measure of the risk, both operational and financial, of the firm to its equity capital 资本总额与加权风险资产总额的比例
value-at-risk: 在险价值，一定概率水平（置信度）下，某一金融资产或证券组合价值在未来特定时期内的最大?可能损失
reserve requirements: ratios of various liabilities to bank’s central bank reserves
liquid asset requirement: ratio of a bank’s liquid assets tocertain liabilities

Credit analysis is based on many of the ratios that we have already covered in this review

f explain the requirements for segment reporting and calculate and interpret segment ratios;

• Definition

business segment
*a portion of a larger company that accounts for more than 10% of the company’s revenues, assets, or income
*distinguishable from the company’s other lines of business in terms of the risk and return characteristics of the segment
geographic segments
*meet the size criterion of business segment
*the geographic unit has a different business environment

• Reporting Requirement
  • both U.S. GAAP and IFRS require companies to report segment data,
  • required disclosure items: a subset of the required disclosures for the company as a whole.

🟠 analyst implication
*examining the performance of business or geographic segments separately.
*segment ratio analysis, useful in gaining a clear picture of a firm’s overall operations.
*for forecasting, growth rates of segment revenues and profits can be used for estimation

g describe how ratio analysis and other techniques can be used to model and forecast earnings.

pro forma financial statements 财报预测
Ratio analysis can be used in preparing pro forma financial statements that provide estimates of future financial statement items
————————————
sensitivity analysis: based on “what if” questions
scenario analysis: based on specific scenarios (a specific set of outcomes for key variables) and will also yield a range of values for financial statement items.
simulation: probability distributions for key variables are selected and a computer is used to generate a distribution of values for outcomes based on repeated random selection of values for the key variables

Financial Reportingand Analysis (3)

R25 Inventories

a distinguish between costs included in inventories and costs recognised as expenses in the period in which they are incurred;**

b describe different inventory valuation methods (cost formulas);

(because) product change over time
(have to choose a) _cost flow method (cost flow assumption under U.S. GAAP and cost flow formula under IFRS)
(aim to)_ allocate the inventory cost to I/S (COGS) and B/S (ending inventory).

c calculate and compare cost of sales, gross profit, and ending inventory using different inventory valuation methods and using perpetual and periodic inventory systems;

• periodic inventory system inventory values and COGS are determined at the end of the accounting period 定期盘存制
  
• perpetual inventory system inventory values and COGS are updated continuously 永续盘存制

d calculate and explain how inflation and deflation of inventory costs affect the financial statements and ratios of companies that use different inventory valuation methods;

FIFO		LIFO
Inventory	COGS	Inventory	COGS
New	Old	Old	New
*inflation + stable/increasing inventory levels Inventory: HIGHER COGS: LOWER		*inflation + stable/increasing inventory levels Inventory: LOWER COGS: HIGHER
*deflation+stable/increasing inventory quantities Inventory: LOWER COGS: HIGHER		*deflation+stable/increasing inventory quantities Inventory: HIGHER COGS: LOWER
better approx.: Ending inventory		better approx.: COGS
When prices are changing, the weighted average cost method will produce values of COGS and ending inventory between those of FIFO and LIFO

e explain LIFO reserve and LIFO liquidation and their effects on financial statements and ratios;

FIFO/LIFO➡不同存货水平、COGS➡影响Ratio analysis➡分析时需调整
during price rising
LIFO inventory < FIFO inventory | LIFO COGS > FIFO COGS | LIFO net income < FIFO net income | *LIFO tax < FIFO tax

1. LIFO reserve与conversion

• LIFO reserve: the amount by which LIFO inventory is less than FIFO inventory

  

• 存货水平的调整

调整步骤(不考虑税收影响)：
*add the LIFO reserve to LIFO inventory on the B/S.
*increase the retained earnings component of shareholders’ equity by the LIFO reserve
调整步骤(考虑税收影响)🚩：
*add the LIFO reserve to LIFO inventory on the B/S.↘
*decrease cash by LIFO reserve*t
*increase stockholders’ equity (retained earnings) by LIFO reserve*(1-t)

• COGS的调整

    ![](https://cdn.nlark.com/yuque/__latex/37c118e5d18587eb87770327b66e94b0.svg#card=math&code=%5Cbegin%7Baligned%7D%0A%5Cmathrm%7B%0AFIFO%5C%3BCOGS%7D%26%3D%5Cmathrm%7BLIFO%5C%3BCOGS-%28ending%5C%3B%20LIFO%5C%3Breserve-beginning%5C%3B%20LIFO%5C%3Breserve%29%0A%7D%20%0A%5C%5C%26%3D%5Cmathrm%7BLIFO%5C%3BCOGS-%20%5CDelta%20%5C%3BLIFO%5C%3Breserve%0A%7D%20%0A%5Cend%7Baligned%7D&height=42&width=591)<br />**

1. Effect on Ratios | | From LIFO to FIFO
   under 通胀假设 | Note | | —- | :—-: | :—-: | | Profitability | ↗ | COGS变小 | | Liquidity | ↗ | 存货水平变大 | | Activity | ↘ | 总资产变大（存货原因） | | Solvency | ↗ | 总资产变大（存货原因） |

2. LIFO liquidation

The LIFO reserve will increase when prices are rising and inventory quantities are stable or increasing. If a firm is liquidating its inventory, or if prices are falling, the LIFO reserve will decline.
LIFO liquidation: a LIFO firm’s inventory quantities decline
在LIFO下，当存货水平下降时，COGS中包括了早期所计成本较低的存货，使I/S中的利润率升高(not sustainable)
存货水平下降的原因：①管理层操作I/S利润率 ②供应商原材料短缺 ③对未来市场的预期
LIFO Liquidation：影响
*gross profit ⬆
*pretax income ⬆
*net income⬆
*CFO：存货投资下降，CFO⬆；应税上升，CFO⬇

f convert a company’s reported financial statements from LIFO to FIFO for purposes of comparison;

g describe the measurement of inventory at the lower of cost and net realisable value;

	IFRS	U.S. GAAP
		LIFO/retail method	LIFO/retail method
Mesurement
written down
to	NRV	NRV	market
by		small: by increaing COGS large: separately
write-up	by reducing COGS MAX to previously write down	NOT ALLOWED
*LIFO方法，B/S中inventory value较低。故write down较难发生

• Net realizable value (NRV): expected sales price less the estimated selling costs and completion costs.

  

• Market** **is usually equal to replacement cost, but cannot be greater than NRV or less than NRV minus a normal profit margin. If replacement cost exceeds NRV, then market is NRV. If replacement cost is less than NRV minus a normal profit margin, then market is NRV minus a normal profit margin.

h describe implications of valuing inventory at net realisable value for financial statements and ratios;

存货以NRV估值代表有write down 减记

1. 减记当期

根源：inventory ⬇ ；expense(COGS)⬆
降低流动资产、总资产
总资产周转率上升；debt-to-assets ratio 上升
equity下降，debt-to-equity ratio上升
流动比率降低，速动比率不变
存货周转率上升,周转天数下降，现金周期下降
gross margin, operating margin, and net margin下降 （COGS上升）
一般情况：% decrease in net income ＞ % decrease in assets or equity ⋙ ROA, ROE *⬇

1. 减记之后的若干期

COGS可能会降低，导致Net Income上升。且由于Asset和equity降低，ROA和ROE会上升

i describe the financial statement presentation of and disclosures relating to inventories;

1. inventory disclosure (in footnotes)

Requirement (U.S. GAAP & IFRS)

• cost flow method (LIFO, FIFO, etc.) used.
• total carrying value of inventory, with value classification if appropriate.

⬆(raw materials, work-in-process, and finished goods)

• carrying value of inventories reported at fair value less selling costs.
• cost of inventory recognized as an expense (COGS) during the period. 当期转换为销售成本的量
• amount of inventory write-downs during the period. 当期减记
• (IFRS only) reversals during the period, discussion of the circumstances reversal及其原因，仅限IFRS
• carrying value of inventories pledged as collateral. 存货用于抵押品的状况
  1. cost flow method changes
  • General conditions

*cost flow methods change is made **retro**spectively
prior years’ financial statements are recast based on the new cost flow method.
cumulative effect ⋙ adjustment to the beginning retained earnings of the earliest year presented.
*relevant information 为什么变更方法

• Exception

*changes to LIFO from another cost flow method applied pro**spectively**;

j explain issues that analysts should consider when examining a company’s inventory disclosures and other sources of information;

*公司对市场状况预期的调整
raw materials and/or work-in-process inventory ⬆ ⋙ expected increase in demand⬆⋙ revenues and earnings⬆
finished goods inventory⬆, raw materials and work-in-process⬇⋙ demand⬇/inventory write-downs in the future
*公司存货管理
finished goods inventory growing faster than sales ⋙demand⬇ and excessive or potentially obsolete inventory ⋙ future write-down⋙ lower earnings in the future
too much inventory is costly as the firm may incur storage costs, insurance premiums, and inventory taxes.
too much inventory uses cash that might be more efficiently used somewhere else.

k calculate and compare ratios of companies, including companies that use different inventory methods;

*inventory turnover ratio
一般情况，越高越好
过高 ⋙ 存货可能较少 ⋙ 不足以应对需求，产生收入损失
过高 ⋙ 发生了较大的write down ⋙ poor inventory management
high turnover+slower growth(与行业相比) ⋙ inadequate inventory quantities.
sales growth at or above the industry average supports the conclusion that high inventory turnover reflects greater efficiency.

l analyze and compare the financial statements of companies, including companies that use different inventory methods.

Comparison of company financial statements may require statements to be adjusted to reflect the same inventory costing methods for both firms, or for the subject firm and any industry or peer group of firms used for comparison.

R26 Long-lived Assets

a distinguish between costs that are capitalised and costs that are expensed in the period in which they are incurred;

1. capitalised or expensed | | capitalize** the cost as an asset on B/S | expense the cost in I/S in the period incurred. | | —- | —- | —- | | requirement | provide a future economic benefit over multiple accounting periods is capitalized | future economic benefit is unlikely or highly uncertain | | procedure | 1. recorded as an asset on the B/S at cost, typically its fair value at acquisition plus any costs necessary to prepare the asset for use.
   2. the cost is then allocated to the I/S over the life of the asset
   as depreciation expense (for tangible assets) or amortization expense (for intangible assets with finite lives).
   *Except for land and intangible assets with indefinite lives (such as acquisition goodwill) | current period pretax income is reduced by the amount of the expenditure | | note* | capitalized后的相关费用
   provide more future economic benefits are capitalized. (e.g., rebuilding the asset)
   *merely sustain usefulness are expensed when incurred (e.g., regular maintenance) | |

1. Capitalized Interest

• 哪些利息需要资产化

asset contructed for its own **use or resale**:
the interest that accrues during the construction period is capitalized as a part of the asset’s cost.

• 资产化后的allocation

Once construction interest is capitalized, the interest cost is allocated to the I/S through：
depreciation expense (if the asset is held for use)
COGS (if the asset is held for sale).

• 会计标准

U.S. GAAP: capitalized interest is reported as CFI, (对比：interest expense is reported as CFO)
IFRS: Interest expense can be CFO/CFI/CFF

• implication

both capitalized and expensed interest should be used when calculating interest coverage ratios.
depreciation of capitalized interest on the I/S should be added back when calculating income measures.

b compare the financial reporting of the following types of intangible assets: purchased, internally developed, acquired in a business combination;

Intangible assets: long-term assets that lack physical substance, such as patents, brand names, copyrights, and franchises. **

• finite/infinite lived inangible asset

finite-lived: amortized over its useful life.
Indefinite-lived: NOT amortized; tested for impairment at least annually.
If impaired, the reduction in value is recognized in the I/S as a loss

• identifiable or unidentifiable

identifiable intangible asset
Capable of being separated from the firm or arise from a contractual or legal right.
Controlled by the firm.
Expected to provide future economic benefits
unidentifiable intangible asset: cannot be purchased separately and may have an indefinite life.

• report standards | Intangible Assets | | | | :—-: | —- | —- | | Created Internally | Purchased | Obtained in a Business Combination | | costs to create intangible assets are expensed as incurred | initially recorded on B/S at cost, typically fair value at acquisition. | acquisition method:
  purchase price is allocated to the identifiable assets and liabilities of the acquired firm on the basis of fair value
  Any remaining amount of the purchase price is recorded as goodwill | | exceptions:
  research and development costs (under IFRS)
  software development costs. | | Goodwill: an unidentifiable asset that cannot be separated from the business itself
  Only goodwill created in a business combination is capitalized on the balance sheet |

• Exceptions

IFRS:
*research costs: costs aimed at the discovery of new scientific or technical knowledge and understanding, are expensed as incurred
*development costs: translate research findings into a plan or design of a new product or process, may be capitalized
——————————————————
U.S. GAAP:
both research and development costs are generally expensed as incurred
software for sale: costs incurred to develop are expensed as incurred until the product’s technological feasibility has been established

c explain and evaluate how capitalising versus expensing costs in the period in which they are incurred affects financial statements and ratios;

把一项支出资本化或费用化会影响net income, shareholder’s equity, total assets, CFO, CFO以及各种ratio (方法选择不影响实际运营)

d describe the different depreciation methods for property, plant, and equipment and calculate depreciation expense;

1. definition

depreciation: systematic allocation of an asset’s cost over time
carrying (book) value: the net value of an asset or liability on the balance sheet.
For property, plant, and equipment, carrying value equals historical cost minus accumulated depreciation.

historical cost: original purchase price of the asset including installation and transportation costs.
economic depreciation: the actual decline in the value of the asset over the period.

1. depreciation methods

• Straight-Line depreciation: depreciation is the same amount each year over the asset’s estimated life

    ![](https://cdn.nlark.com/yuque/__latex/16699d64ced3c1e378e8eb1de67bcd4c.svg#card=math&code=%0A%5Cmathrm%7Bdepreciation%5C%3Bexpense%3D%5Cfrac%7Boriginal%5C%3Bcost-salvage%5C%3Bvalue%7D%7Bdepreciable%5C%3Blife%7D%7D%0A&height=42&width=385)

• accelerated depreciation: more depreciation expense is recognized in the early years of an asset’s life and less depreciation expense in the later years

  • double-declining balance (DDB) method

    
    salvage value is NOT in the formula for DDB depreciation. depreciation STOP when carrying (book) value =salvage value

• units-of-production method

    ![](https://cdn.nlark.com/yuque/__latex/8e971fc472c776189213647a2390e223.svg#card=math&code=%5Cmathrm%7B%0Aunits%5C%3Bof%5C%3Bproduction%5C%3Bdepreciation%3D%0A%5Cfrac%0A%7Boriginal%5C%3Bcost-salvage%5C%3Bvalue%7D%0A%7Blife%5C%3Bin%5C%3Boutput%5C%3Bunits%7D%5Ctimes%0Aoutput%5C%3Bunits%5C%3Bin%5C%3Bthe%5C%3Bperiod%7D&height=42&width=678)

component depreciation: useful life of each component is estimated and depreciation expense is computed separately

e describe how the choice of depreciation method and assumptions concerning useful life and residual value affect depreciation expense, financial statements, and ratios;

1. 折旧方法的影响 | Effects of Depreciation Methods (Early Years or Fast-Growing Firm) | | | | :—-: | —- | —- | | | Straight-Line | Accelerated | | Depreciation expense | Lower | Higher | | Net income | Higher | Lower | | Total assets | Higher | Lower | | Shareholders’ equity | Higher | Lower | | Return on assets* | Higher | Lower | | Return on equity* | Higher | Lower | | Asset turnover ratios | Lower | Higher | | Cash flow | Same | Same |

because the effect on the numerator (higher NI) is relatively larger than the effect on the denominators (higher A & E).
For a single long-lived asset, effects reverse in the later years of its useful life.
*For a fast-growing firm, effects will persist as long as the firm is acquiring more depreciable assets than it is derecognizing.

1. 使用寿命和残值的影响
   

Calculating depreciation expense requires estimating an asset’s useful life and its salvage (residual) value.
⚠Firms can manipulate depreciation expense, and therefore net income, by increasing or decreasing either of these estimates.

• estimation的影响

longer estimated useful life⋙ decreases annual depreciation ⋙ increases reported net income
higher estimate of the salvage value ⋙ decrease depreciation ⋙ increase net income

• estimation的变更

put into effect in the current period and prospectively.

f describe the different amortisation methods for intangible assets with finite lives and calculate amortisation expense;

intangible assets with finite lives are amortized over their useful lives.
same methods, straight-line, accelerated, and units-of-production, are permitted.
requires estimates of useful lives and salvage values.
estimating useful lives is complicated by many legal, regulatory, contractual, competitive, and economic factors that may limit the use of the intangible assets.
注：trademark可能有到期日,但可以以较底成本更新寿命. 仍被视为indefinite useful life，不用摊销

g describe how the choice of amortisation method and assumptions concerning useful life and residual value affect amortisation expense, financial statements, and ratios;

*与PPE等有形资产相同

h describe the revaluation model;

Under U.S. GAAP, most long-lived assets are reported on the B/S at depreciated cost (original cost less accumulated depreciation and any impairment charges).There is no fair value alternative for asset reporting under U.S. GAAP.
Under IFRS, most long-lived assets are also reported at depreciated cost (the cost model).
revaluation model,

1. General

IFRS 的规则
a long-lived asset reported at its fair value,
条件: an active market exists for the asset (so its fair value can be reliably (and somewhat objectively) estimated.)
Firms must choose the same treatment for similar assets (e.g., land and buildings)
*⬆ so they cannot revalue only specific assets that are more likely to increase than decrease in value.
注：revaluation model is rarely used in practice by IFRS reporting firms.

1. Procedure

the B/S value is adjusted to fair value at each revaluation date,
between revaluation dates, depreciation is recorded for the asset.
Revaluation to fair value must be done sufficiently often that the reported value is not significantly different from fair value.

• First Revaluation Date
  

if fair value ＜ carrying value, a loss is recorded on the I/S, much like an impairment charge.
公允价值小于账面价值，在I/S中记录损失
If fair value ＞ carrying value of the asset, the difference is recorded as revaluation surplus, a component of equity, so net income is not affected.
公允价值大于账面价值，在B/S的equity中计重估价盈余

• Subsequent Revaluation Dates
  

If fair value＞carrying value, a gain is first reported on theI/S to the extent it reverses any previously recorded loss from revaluation. 公允价值大于账面价值，首先补回之前I/S中的损失(if exits)
If the revaluation gain is greater than prior losses reported in the I/S that have not been reversed, the excess is reported in the revaluation surplus account 多出的部分，在B/S的equity中计重估价盈余
If fair value ＜ carrying value, the difference first goes to reduce any existing balance in the revaluation surplus account. 公允价值大于账面价值，首先减少B/S中的重估价盈余(if exits)
Any remaining difference in excess of the balance in the revaluation surplus account is reported on the income statement as a loss. 超出重估价盈余的部分，在I/S中记录损失

i explain the impairment of property, plant, and equipment and intangible assets;

Impairments Under **IFRS
🚩 carrying value > recoverable amount. ⋙ impaired
recoverable amount: the greater of its fair value less any selling costs and its value in use.

value in use* the present value of its future cash flow stream from continued use.

If impaired, the asset’s value must be written down on the B/S to the recoverable amount.
impairment loss is recognized in the I/S.
can be reversed if the asset’s value recovers in the future.(limited to the original impairment loss).

Impairments Under **U.S. GAAP
🚩two steps.
S1, recoverability test (to test for impairment)
recoverability. impaired if the carrying value>asset’s future undiscounted cash flow stream.
S2 loss measurement.
asset’s value is written down to fair value on the B/S and
a loss, equal to the excess of carrying value over the fair value of the asset (or the discounted value of its future cash flows if the fair value is not known), is recognized in the I/S
*loss recoveries are typically NOT permitted
Intangible Assets With Indefinite Lives
*NOT amortized; tested for impairment at least annually.
*An impairment loss is recognized when the carrying amount exceeds fair value.
Long-Lived Assets Held for Sale*
when a firm reclassifies an asset as held-for-sale, the asset is tested for impairment.
the asset is no longer depreciated or amortized
held-for-sale asset is impaired if its carrying value exceeds its NRV.
If impaired, the asset is written down to NRV ; loss is recognized in the I/S.
loss can be reversed under IFRS and U.S. GAAP if asset value recovers in the future.
loss reversal is limited to the original impairment loss.

j explain the derecognition of property, plant, and equipment and intangible assets;

derecognition: occurs when assets are sold, exchanged, or abandoned

1. sold

asset is removed from the B/S
difference between the sale proceeds and carrying value is reported as a gain or loss in the I/S
gain /loss is usually reported in the I/S as a part of other gains and losses, or reported separately if material.
gain/loss is removed from NI to compute CFO (proceeds from selling a long-lived asset belongs toCFI)

1. abandoned

the carrying value of the asset is removed from the B/S
a loss of that amount(CV) is recognized in the I/S

1. exchanged

a gain or loss is computed by comparing the carrying value of the old asset with fair value of the old asset
(or the fair value of the new asset if that value is clearly more evident)
carrying value of the old asset is removed from the B/S and the new asset is recorded at its fair value.

k explain and evaluate how impairment, revaluation, and derecognition of property, plant, and equipment and intangible assets affect financial statements and ratios;

Impairment
reduces an asset’s carrying value on the B/S
recognized as a loss in the I/S, reducing assets and equity (retained earnings).
In the year of impairment, ROA and ROE will decrease because the impairment charge reduces NI.
In subsequent periods, NI will be higher than it would have been without the impairment charge (折旧费用减少)
ROA and ROE will increase in periods after the impairment charge （NI变高，资产、权益减少）
Asset turnover will increase (总资产减少，收入不变，在impairment当期和后期周转率均上升)
NO impact on cash flow (不影响taxable income)
Analysis of Impairments
impairment⋙ underestimate depreciation/amortization expense⋙overstated earnings
管理层有较大决策任意空间，可能用于操纵利润（转移损失的责任，同时后期的数据变得更加亮眼）
（例：在利润较高时impairment可smooth earning; 外部因素导致应收下降时趁机进行更多impairment; 高管上任进行impairment）
Revaluation
Under U.S. GAAP,
most long-lived assets are reported on the B/S at depreciated cost using the cost model
(original cost less accumulated depreciation and impairment charges)⬆
reversal is generally prohibited.（例外： held for sale）
Under IFRS
firms can choose to use the revaluation model and report long-lived assets at their fair values.
Firms can choose depreciated cost for some asset classes and fair value for others.
Revaluing an asset’s value upward will result in:
Higher total assets and higher shareholders’ equity.
Lower leverage ratios, debt ratio (total debt / total assets) and debt-to-equity ratio (higher denominators).
Higher depreciation expense and thus lower profitability in periods after revaluation.
Lower ROA and ROE in periods after revaluation (lower numerators and higher denominators).
However, if the increase in the asset value is the result of higher operating capacity, such higher capacity should result in higher revenues and thusn higher earnings.
Derecognition of Assets
Derecognition of an asset refers to its disposal by sale, exchange for another asset, or abandonment.
对B/S
Under the cost model, the carrying (book) value of a long-lived asset is its historical cost minus accumulated depreciation or amortization, adjusted for any impairment charges taken.
Under the revaluation model, the carrying value of an asset is its value as of the last revaluation date, less any subsequent depreciation or amortization.
对I/S
The difference between the sale price and the carrying value is reported as a gain or loss on the I/S. Such gains and losses may be reported in other income or losses or as a separate line item if the amount is material. When an asset is abandoned, the treatment is the same, but the sale price is zero and the loss is equal to the carrying value.

If an asset is exchanged for another asset, the sale price is taken to be the fair value of the asset exchanged, or the value of the asset acquired if that value is more readily available.
There are no cash flows with an exchange of assets, but gains or losses, based on the difference between the carrying value and the ‘price’ received for the exchanged asset, are reported on the I/S (as they are with a sale).
If the fair values of the assets cannot be reliably estimated, the price of the acquired asset is taken to be the carrying value of the exchanged asset and no gains or losses are recorded.

l describe the financial statement presentation of and disclosures relating to property, plant, and equipment and intangible assets;

1. IFRS Disclosures

• PP&E

Basis for measurement (usually historical cost).
Useful lives or depreciation rate.
Gross carrying value and accumulated depreciation.
Reconciliation of carrying amounts from the beginning of the period to the end of the period
Title restrictions and assets pledged as collateral.
Agreements to acquire PP&E in the future.

• more about revaluation model

The revaluation date.
How fair value was determined.
*Carrying value using the historical cost model.

• intangible assets

PP&E的要求
disclose whether the useful lives are finite or indefinite

• impaired assets

Amounts of impairment losses and reversals by asset class.
Where the losses and loss reversals are recognized in the I/S.
*Circumstances that caused the impairment loss or reversal.

1. U.S. GAAP Disclosures

• PP&E

Depreciation expense by period.
Balances of major classes of assets (e.g. land, improvements, buildings, machinery, and furniture).
Accumulated depreciation by major classes or in total.
General description of depreciation methods used.

• intangible assets

PP&E的requirement
estimate of amortization expense for the next five years

• impaired assets

A description of the impaired asset.
Circumstances that caused the impairment.
How fair value was determined.
The amount of loss.
*Where the loss is recognized in the I/S

m analyze and interpret financial statement disclosures regarding property, plant, and equipment and intangible assets;

1. average age of the firm’s assets

older, less-efficient assets may make a firm less competitive.
helps to estimate the timing of major capital expenditures and a firm’s future financing requirements.

• Average Age

more accurate for a firm that uses straight-line depreciation.
can be significantly affected by the mix of assets.

• Total **Useful Life**

  

• Remaining **Useful Life **

Net PP&E is equal to original cost (gross PP&E) minus accumulated depreciation.

1. Other Analysis Technique

Another popular metric is the ratio of annual capital expenditures to depreciation expense.
whether the firm is replacing its PP&E at the same rate as its assets are being depreciated

n compare the financial reporting of investment property with that of property, plant, and equipment.

investment property IFRS: property for the purpose of collecting rental income, earning capital appreciation, or both.
U.S. GAAP does not distinguish investment property from other kinds of long-lived assets

• valuating investment property

cost model (同PP&E)
fair value model (与PP&E不同处：an upward revaluation is recognized as a gain on the I/S)
\must use the same valuation model for all of its investment properties.
\required to disclose which valuation model they use for investment property.
\fair value model: must state how to determine the fair value of investment property and reconcile its beginning and ending values.
\cost model: must disclose the fair value of their investment property, along with the disclosures that are required for other types of long-lived assets (e.g., useful lives, depreciation methods used).

• Investment Property与PP&E的转换

如果用cost model，no change 如果用fair value model, 下表↓

R27 Income Taxes

a describe the differences between accounting profit and taxable income and define key terms, including deferred tax assets, deferred tax liabilities, valuation allowance, taxes payable, and income tax expense;

• Tax Return Terminology

Taxable income. Income subject to tax based on the tax return. 应税所得
Taxes payable. The tax liability caused by taxable income. aka current tax expense 应交税金
Income tax paid. The actual cash flow for income taxes including payments or refunds from other years.
Tax loss carryforward. A current or past loss that can be used to reduce taxable income (thus, taxes payable) in the future. Can result in a deferred tax asset. 税损结转
Tax base. Net amount of an asset or liability used for tax reporting purposes.

• Financial Reporting Terminology

Accounting profit. Pretax financial income based on financial accounting standards.aka. IBT and EBT.
Income tax expense. Expense recognized in the I/S that includes taxes payable and changes in DTA and DTL.

注：income tax expense 是I/S项目，除taxes payable，负债[DTL]的增多，和资产[DTA]的减少，会导致expense的上升
Deferred tax liabilities. |*B/S amounts |*income tax expense ＞taxes payable
|*expected to result in future cash outflows
Deferred tax assets. |*B/S amounts |*taxes payable ＞income tax expense，
|*expected to be recovered from future operations. |**Can also result from tax loss carryforwards.
Valuation allowance. Reduction of deferred tax assets based on the likelihood the assets will not be realized.
Carrying value. Net B/S value of an asset or liability
Permanent difference. difference that will not reverse in the future.
** ⬆between taxable income (tax return) and pretax income (I/S)
Temporary difference. A difference that will result in either taxable amounts or deductible amounts in the future.
⬆**between tax base and carrying value of an asset or liability

b explain how deferred tax liabilities and assets are created and the factors that determine how a company’s deferred tax liabilities and assets should be treated for the purposes of financial analysis;

tax return 纳税申报单

• DTA&DTL的产生条件

*timing of revenue and expense recognition in the income statement and the tax return differ. 收入/费用在I/S和tax return中的纳入时间点规定存在差异
*certain revenues and expenses are recognized in the I/S but never on the tax return or vice-versa. 收入/费用仅在I/S或tax return中的一方被纳入
*assets and/or liabilities have different carrying amounts and tax bases. 负债、资产的账面价值与税基不同
*gain or loss recognitioin the I/S differs from the tax return.
*tax losses from prior periods may offset future taxable income 前期的tax loss可以抵减未来的应税
*financial statement adjustments may not affect the tax return or may be recognized in different periods. 财报的调整不反映在纳税单或通过多期产生影响

• 具体定义 | | Deferred Tax Liabilities | Deferred Tax Assets | | —- | —- | —- | | created
  when | income tax expense (I/S)＞taxes payable (tax return)
  I/S term较大，先创造Liabilities，待税收实际发生 | tax payable (tax return) ＞ income tax expense (I/S)
  I/S term较小，先创造Asset，待I/S纳入该项支出后消除 | | occur when | Revenues/gains：收入先I/S，后tax return
  Expenses/losses：费用先tax return，后I/S | Revenues/gains：收入先tax return，后I/S
  Expenses/losses：费用先I/S，后tax return | | | | Tax loss carryforwards are available to reduce future taxable income. 税损结转 | | features | *expected to reverse
  result in future cash outflows | **expected to reverse*
  provide future tax savings (相当于inflows) | | typical causes | tax return用加速折旧， I/S用直线折旧 | Post-employment benefits, warranty expenses, and tax loss carryforwards | | Analytical
  Treatment | DTL为例：
  reversible⋙视作Liabilities；inreversible⋙视作Equity
  When or will the total deferred tax liability be reversed in the future? | |

c calculate the tax base of a company’s assets and liabilities;

1. Assets

asset’s tax base: amount that will be deducted (expensed) on the tax return in the future

carrying value: the value of the asset reported on the financial statements, net of depreciation and amortization
Depreciable equipment:
财报和纳税所用折旧标准/参数不同会导致 税基≠账面价值
出售资产/资产全部折旧完毕会导致DTA/DTL的reversal
Research and development
研发费用在当期全部expense化，而tax return将其资本化并摊销。导致tax payable＞income tax expense，产生DTA
*Accounts receivable
可能会在I/S前提前确认应收账款的损失，而tax return对于应收账款损失用于抵减应税所得有更严格要求（导致税基≠账面价值 ）

1. Liabilities

liability’s tax base carrying value of the liability minus any amounts that will be deductible on the tax return in the future.

tax base of revenue received in advance is the carrying value minus the amount of revenue that will not be taxed in the future.
Customer advance
税基：carrying value minus the amount of revenue that will not be taxed in the future
Warranty liability？
*Note payable？

d calculate income tax expense, income taxes payable, deferred tax assets, and deferred tax liabilities, and calculate and interpret the adjustment to the financial statements related to a change in the income tax rate;

e evaluate the effect of tax rate changes on a company’s financial statements and ratios;

1. 对DTL和DTA的影响

因为reversal发生时(future)，税率为最新税率，故DTL和DTA要做出相应调整
An increase in the tax rate will increase both DTL & DTA
A decrease in the tax rate will decrease both DTL & DTA
*Rationale: tax rate ⬆(⬇)
DTL: when previously deferred income is recognized for tax, the tax due will be higher (lower)
DTA: when expense items previously reported in I/S are recognized for tax, the benefit will be greater (less).

1. 通过DTL/DTA对income tax expense产生的影响

income tax expense = taxes payable + ∆DTL − ∆DTA
⬆I/S term ⬆ tax return

1. 另一种方法：通过税基计算影响

The effects of a change in the tax rate can also be calculated based on the difference between the tax base and carrying value for an asset or a liability

f distinguish between temporary and permanent differences in pre-tax accounting income and taxable income;

permanent difference: difference between taxable income and pretax income that will NOT reverse in the future
Permanent differences do NOT create DTAs or DTLs.
Permanent differences can be caused by
revenue that is not taxable, expenses that are not deductible, tax credits that result in a direct reduction of taxes.
Permanent differences will cause the firm’s effective tax rate to differ from the statutory tax rate.
statutory tax rate is the tax rate of the jurisdiction where the firm operates.
effective tax rate:derived from the income statement.

temporary difference: difference between the tax base and the carrying value of an asset or liability that will result in taxable amounts or deductible amounts in the future
Temporary differences can be taxable temporary differences that result in expected future taxable income or *deductible temporary differences that result in expected future tax deductions.

g describe the valuation allowance for deferred tax assets—when it is required and what effect it has on financial statements;

neither DTA nor DTL are carried on the B/S at their discounted present value.

1. DTA的计价备抵

DTAs are assessed at each B/S date to determine the likelihood of sufficient future taxable income to recover the tax assets. Without future taxable income, a DTA is worthless.

• U.S. GAAP

  a contra account that reduces the net B/S value of the DTA.⬇
  p*≥50% ⋙ DTA must be reduced by a valuation allowance.
  ⬆(insufficient future taxable income to recover the tax asset)
  效果：valuation allowance⬆ ⋙net B/S DTA ⬇ ⋙** income tax expense⬆, net income ⬇.
  

• IFRS

*similar calculation is made but only the net amount of the DTA is presented on B/S.
valuation allowance is not separately disclosed.
*net DTA can be increased by decreasing the valuation allowance. (result in higher earnings)

1. implication

• 可能被管理层用于操纵利润

It is up to management to defend the recognition of all DTAs.
Because an increase (decrease) in the valuation allowance will decrease (increase) earnings, management can manipulate earnings by changing the valuation allowance.

• for analysis

review the company’s financial performance to determine the likelihood that those assets will be realized, whenever a company reports substantial DTA
scrutinize changes in valuation allowance to determine whether those changes are economically justified

h explain recognition and measurement of current and deferred tax items;

Measurement of deferred tax items depends on the tax rate (expected to be in force when the underlying temporary difference reverses).
The applicable tax may depend on how the temporary difference will be settled (e.g., if a capital gains tax rate will apply). If a change that leads to a deferred tax item is taken directly to equity, such as an upward revaluation, the deferred tax item should also be taken directly to equity.

i analyze disclosures relating to deferred tax items and the effective tax rate reconciliation and explain how information included in these disclosures affects a company’s financial statements and financial ratios;

Changes in those B/S accounts are reflected in income tax expense on the I/S.

1. 产生DTA/DTL的情况** | [加速折旧~tax return] and [直线折旧~B/S.] ➡DTL
   注: consider the firm’s growth rate and capital spending levels when determining whether the difference will actually reverse. | | —- | | Impairments ➡DTA
   *I/S: write-down is recognized immediately;
   *tax return: the deduction is generally not allowed until the asset is sold or disposed of. | | Restructuring ➡DTA
   *I/S: the costs are recognized for financial reporting purposes when the restructuring is announced
   *tax return: not deducted for tax purposes until actually paid.
   注: usually significant cash outflows (net of the tax savings) in the years after the restructuring costs are reported. | | Post-employment benefits and deferred compensation ➡DTA
   *I/S: recognized for financial reporting when earned by the employee
   *tax return: not deducted for tax purposes until actually paid. | | *cost-flow method
   In the U.S., firms that use LIFO for their financial statements are required to use LIFO for tax purposes, so no temporary differences result.
   However, in countries where this is not a requirement, temporary differences can result from the choice of inventory cost-flow method | | *A deferred tax adjustment is made to stockholders’ equity to reflect the future tax impact of unrealized gains or losses on available-for-sale marketable securities that are taken directly to equity. No DTL is added to the B/S for the future tax liability when gains/losses are realized. |

2. Disclosure

• DTL, DTA, any valuation allowance, and the net change in the valuation allowance over the period.
• Any unrecognized DTL for undistributed earnings of subsidiaries and joint ventures.
• Current-year tax effect of each type of temporary difference.
• Components of income tax expense
• Reconciliation of reported income tax expense and the tax expense based on the statutory rate.
• Tax loss carryforwards and credits.

1. Analyzing the Effective Tax Rate Reconciliation

Some firms’ reported income tax expense [I/S] differs from the amount based on the statutory income tax rate. the tax rate of the jurisdiction where the firm operates ⬆
The differences are generally the result of:
*Different tax rates in different tax jurisdictions (countries).
*Changes in tax rates and legislation
*Deferred taxes provided on the reinvested earnings of foreign and unconsolidated domestic affiliates.
*Permanent tax differences: tax credits, tax-exempt income, nondeductible expenses, and tax differences between capital
gains and operating income.
*Tax holidays in some countries (watch for special conditions such as termination dates for the holiday or a requirement
to pay the accumulated taxes at some point in the future)

j identify the key provisions of and differences between income tax accounting under International Financial Reporting Standards (IFRS) and US generally accepted accounting principles (GAAP).

R28 Non-current (Long-term) Liabilities

bond: contractual promise between a borrower (the bond issuer) and a lender (the bondholder) that obligates the bond issuer to make payments to the bondholder over the term of the bond. two types of payments are involved: (1) periodic interest payments, and (2) repayment of principal at maturity.
face value, maturity value, par value
coupon rate: interest rate stated in the bond that is used to calculate the coupon PMT
coupon payments: periodic interest payments to the bondholders

effective rate of interest: interest rate that equates the PV of the future cash flows of the bond and the issue price

The effective rate is the market rate of interest required by bondholders and depends on the bond’s risks (e.g., default risk, liquidity risk), as well as the overall structure of interest rates and the timing of the bond’s cash flows.
balance sheet liability: PV of its remaining cash flows, discounted rate market rate of interest at issuance.
a.k.a. book value or carrying value of the bond
interest expense: reported in the I/S

a determine the initial recognition, initial measurement and subsequent measurement of bonds;**

**

b describe the effective interest method and calculate interest expense, amortisation of bond discounts/premiums, and interest payments;

For a bond issued at a premium or discount, interest expense and coupon interest payments are not equal.
Interest expense includes amortization of any discount or premium
effective interest rate method:

IFRS: effective interest rate method is required
U.S. GAAP: effective interest rate method is preferred. straight-line method is allowed (如果差别不大)
discount和premium和amortization是非现金项目，在计算现金流时需要加回。
Some analysts believe classifying interest expense as an operating activity is inconsistent with treating the bond proceeds as a financing activity.
In addition, treating interest expense as an operating activity incorrectly describes the economics of a bond issued at a premium or discount.
For bonds issued at a discount, CFO is overstated. This is because the coupon payment is reported as an CFO, while the discount, when paid (as part of a bond’s maturity payment), is reported as a CFF.
Stated differently, had the firm issued the bond at par, the coupon payment would have been higher to match the market rate of interest.
Reclassifying interest as a financing activity in the cash flow statement corrects this inconsistent treatment.
The effects of zero-coupon bonds on the financial statements are qualitatively the same as any discount bond, but the impact is larger because the discount is larger.

c explain the derecognition of debt;

Issuance Costs
Issuing a bond involves legal and accounting fees, printing costs, sales commissions, and *other fees.
Under IFRS and U.S. GAAP,
initial bond liability on the B/S (the proceeds from issuing the bond) is reduced by the amount of issuance costs, increasing the bond’s effective interest rate.
In effect, issuance costs are treated as unamortized discount.

注1：Before 2016, under U.S. GAAP, issuance costs were capitalized as an asset and allocated to the I/S over the life of the bond. Although the treatment of issuance costs has now converged, U.S. GAAP still permits the earlier treatment.
注2：Under both U.S. GAAP and IFRS, bond issuance costs (an outflow) are usually netted against the bond proceeds (an inflow) and reported on the cash flow statement as a financing cash flow.

Fair Value Reporting Option
Recall that the BV of a bond liability is based on its market yield at issuance. So, as long as the bond’s yield does not change, the bond liability represents fair (market) value. However, if the yield changes, the balance sheet liability is no longer equal to fair value.
bond’s yield⬆, fair value⬇
bond’s yield⬇, fair value⬆
fair value of the bond economic liability at a point in time.
IFRS and U.S. GAAP give firms the __irrevocable option to report debt at fair value.
Under this option, gains (bond liability⬇) and losses (bond liability⬆) that result from changes in bonds’ market yields are reported in the I/S.

For analysis, the market value of a firm’s debt may be more appropriate than its book value.
For example, a firm that issued a bond when interest rates were low is relatively better off when interest rates increase. This is because the firm could repurchase the bond at its now lower market value. Decreasing the bond liability on the balance sheet to market value increases equity and decreases the debt-to-assets and debt-to-equity ratios. If interest rates have decreased since issuance, adjusting debt to its market value will have the opposite effects.

	Income Statement Impact of Issuing a Bond
Issued at	Par	Premium	Discount
Market rate	Market rate = coupon rate	Market rate < coupon rate	Market rate > coupon rate
Interest expense	cash paid (coupon rate×par)	cash paid - premium amortization	cash paid+discount amortization
	constant	decreases over time	increases over time

at maturity
When bonds mature, no gain or loss is recognized by the issuer.
At maturity, any original discount or premium has been fully amortized; thus, the book value of a bond liability and its face value are the same.
The cash outflow to repay a bond is reported in the cash flow statement as a CFF
before maturity
A firm may choose to redeem bonds before maturity because
interest rates have fallen, the firm has generated surplus cash through operations, funds from the issuance of equity make it possible (and desirable).
When bonds are redeemed before maturity, a *gain or loss is recognized:

⚠** If the redeemed bonds’issuance costs were capitalized, any remaining unamortized costs must be written off and included in the gain or loss calculation.
No separate entry is necessary if the issuance costs were accounted for in the initial bond liability
for analysis
Any gain or loss from redeeming debt is reported in the I/S,
*usually as a part of continuing operations, *additional info is disclosed separately.
Redeeming debt is usually not a day-to-day operations➡eliminate the gain or loss from the income statement for analysis and forecasting
Cash flow resulted from trdeeming is a CFF, 使用indirect method计算CFO时需除掉

d describe the role of debt covenants in protecting creditors;

debt covenants: restrictions imposed by the lender on the borrower to protect the lender’s position
reduce default risk and thus reduce borrowing costs (因果关系)
affirmative covenants: borrower promises to do certain things
make timely payments of principal and interest.
maintain certain ratios in accordance with specified levels.(e.g. current, D/E, and interest coverage ratios)
maintain collateral, if any, in working order.
negative covenants: borrower promises to refrain from certain activities
increasing dividends or repurchasing shares.
issuing more debt.
engaging in mergers and acquisitions
technical default: the borrower violates a covenant 技术性违约
bondholders can demand immediate repayment of principal if the firm violates a covenant

e describe the financial statement presentation of and disclosures relating to debt;

• Firms will often report all of their outstanding long-term debt on a single line on the balance sheet.
• The portion that is due within the next year is reported as a current liability.
• The firm separately discloses more detail about its long-term debt in the footnotes.
• The footnote disclosure usually includes a discussion of:

*|The nature of the liabilities. *|Maturity dates.
*|Stated and effective interest rates. *|Call provisions and conversion privileges.
*|Restrictions imposed by creditors. *|Assets pledged as security.
*|The amount of debt maturing in each of the next five years.

• A discussion of the firm’s long-term debt is also found in the MD&A section

  f explain motivations for leasing assets instead of purchasing them;

  With a lease, a firm (the lessee** 承租人) essentially purchases the right to use an asset from another firm (the lessor **出租人) for a specified period, ranging from a month to many years.
  The lessee makes periodic payments to the lessor for the use of the asset. Thus, a lease can be considered an alternative to financing the purchase of an asset

The advantages of leasing rather than purchasing an asset may include the following:
*Less costly financing.
The interest rate implicit in a lease contract may be less than the interest rate on a loan to purchase the asset
Typically no down payment(头期款) is required.
*Less restrictive provisions.
Compared to other borrowing (bank loans or bond issuance), the terms of a lease may be less restrictive.
The lessor will typically not require all the covenants that are included in most loan agreements or bond indentures.
*Less risk of obsolescence.
lessee不拥有资产➡ does not bear the risk of an unexpected decline in the asset’s end-of-lease value

g explain the financial reporting of leases from a lessee’s perspective;

IFRS

• except for short-term leases：

An asset and a liability, both equal to the PV of the promised lease payments, are reported on the B/S.
The asset recoded on the B/S is NOT the leased asset itself, BUT the right to use the leased asset for the specified period.
This lease asset is depreciated over the term of the lease.
The periodic lease payments are reported like payments on an amortizing loan.
interest portion of each lease payment is reported as interest expense,
principal repayment portion of each payment reduces the outstanding lease liability

• short-term leases and leases of low-value assets,

no B/S entries are required.
rent expense is reported on the income statement and classified as CFO.
U.S. GAAP

• finance lease

finance lease: leases in which the benefits and risks of ownership have been substantially transferred to the lessee are classified as finance leases.
reporting standard 同IFRS中租赁资产的标准

• operating lease

operating lease: the benefits and risks of owning the asset are not substantially transferred to the lessee
The entire lease payment is recorded as a lease expense on the income statement;
NO separate interest expense reported.
principal portion of an operating lease payment is used to reduce the B/S lease liability？

Because IFRS gives companies a choice of treating lease interest expense as CFO or CFF, while interest expense is always an operating cash flow under U.S. GAAP, there may be differences between the CFO effects of identical finance leases reported under IFRS and U.S. GAAP.

h explain the financial reporting of leases from a lessor’s perspective;

i compare the presentation and disclosure of defined contribution and defined benefit pension plans;**

**

For manufacturing companies, under either IFRS or U.S. GAAP, pension expense is allocated to inventory and COGS for employees who provide direct labor to production and to salary or administrative expense for other employees.
As a result, pension expense does not appear separately on the I/S for manufacturing companies.
An analyst must examine the financial statement notes to find the details of these companies’ pension expense.

j calculate and interpret leverage and coverage ratios.

Leverage Ratios

• Debt-to-assets ratio = total debt / total assets

Measures the percentage of total assets financed with debt.

• Debt-to-capital ratio = total debt / (total debt + total equity)

Measures the percentage of total capital financed with debt.
⚠ total capital excludes non-interest bearing liabilities.

• Debt-to-equity ratio = total debt / total equity

Measures the amount of debt financing relative to the firm’s equity base.

• Financial leverage ratio = average total assets / average total equity

Measure of leverage used in the DuPont formula.
Coverage Ratios

• Interest coverage = EBIT / interest payments

A firm with lower interest coverage will have more difficulty meeting its interest payments.

• Fixed charge coverage = (EBIT + lease payments) / (interest payments + lease payments)

Similar to interest coverage ratio but more inclusive because operating lease payments are added to the numerator and denominator.
Significant operating lease payments will reduce this ratio as compared to interest coverage. Fixed charge coverage is more meaningful for firms that engage in significant operating leases

SS09 Financial Reportingand Analysis (4)

R29 Financial Reporting Quality

a distinguish between financial reporting quality and quality of reported results (including quality of earnings, cash flow, and balance sheet items);

• financial reporting quality:

financial reporting quality the characteristics of a firm’s financial statements
High quality financial reporting ➡ decision useful➡ *relevance & *faithful representation
Relevance info presenteds is useful (对决策有用) and materia__(是否掌握该信息对如何决策产生影响)
Faithful representation encompasses the qualities of completeness, neutrality, and the absence of errors.

• quality of reported results

根据info对财报item的可持续性/水平高低进行评价
it is quite possible that a firm has high financial reporting quality but a low quality of reported earnings.

b describe a spectrum for assessing financial reporting quality;

c distinguish between conservative and aggressive accounting;

Ideally, financial statements should be _neutral _or _unbiased _in order to offer the most value to analysts**

d describe motivations that might cause management to issue financial reports that are not high quality;

• 基本动机

meet or exceed a benchmark number for EPS
具体的benchmark可能包括：管理层早期预测.| 分析师的一致意见.| 往年利润

• 为什么要达到benchmark

career oriented
seeking to enhance reputation, improve future career opportunities, incentive compensation
other possible motivations
gain credibility with equity market investors
improve the way the company is viewed by its customers and suppliers.
for highly leveraged and unprofitable companies, aggressive accounting➡avoid violating debt covenants.
利润若超过benchmark，管理层可能选择conservative accounting，将’超额’部分转移至未来，保证未来的收益超过对应benchmark

e describe conditions that are conducive to issuing low-quality, or even fraudulent, financial reports;

motivation

opportunity
weak internal controls.
board of directors provides inadequate oversight.
所用会计标准过于宽松，对违规的惩罚较轻
*rationalization of the behavior
Most people who do something they know is wrong tell themselves a story that seems (at least to them) to justify breaking the rules. Whether the story is “I’ll fix it next period” or “I have to do it to get my bonus and pay for my parents’bcare,” the resulting behavior is the same

f describe mechanisms that discipline financial reporting quality and the potential limitations of those mechanisms;

Each country has its own regulatory body responsible for publicly traded securities and the markets in which they trade (e.g. U.S. / Securities and Exchange Commission, SEC)
Securities regulations typically require:
A registration process for the issuance of new publicly traded securities. 新股发行的注册流程
Specific disclosure and reporting requirements. 信息公开
An independent audit of financial reports. 独立审计
A statement of financial condition (or management commentary) made by management.管理层对财务状况的评估
A signed statement by the person responsible for the preparation of the financial reports. 财报负责人的签字声明
A review process for newly registered securities and periodic reviews after registration.
对违规情况的处理
fines 罚款
suspension of participation in issuance and trading of securities 市场禁入
public disclosure of the results of disciplinary proceedings. 公开批评
pursue criminal prosecution of fraudulent or otherwise illegal activities 诉讼

In addition to the audit opinion, a requirement for securities that trade in the United States is that management must include an assessment of the effectiveness of the firm’s internal controls.
Note that an unqualified or “clean” audit opinion is not a guarantee that no fraud has occurred but only offers reasonable assurance that the financial reports (prepared the under the direction of management) have been “fairly reported” with respect to the applicable GAAP. The auditor is selected and paid by the firm being audited.

Another source of discipline on financial reporting quality is private contracts, such as those with lenders. Such contracts will often specify how financial measures referenced in the loan covenants will be calculated. The counterparties to private contracts with the firm have an incentive to see that the firm produces high-quality financial reports

g describe presentation choices, including non-GAAP measures, that could be used to influence an analyst’s opinion;

Firms will sometimes report accounting measures that are not defined or required under GAAP.
typically exclude some items in order to make the firm’s performance look better than it would using measures defined and required by GAAP.
The claim is often made that certain items are excluded because they are one-time or nonoperating costs that will not affect operating earnings going forward, because the items are non-cash charges, or to “improve comparability with companies that use different accounting methods” for depreciation or restructuring charges.

In the U.S., companies that report non-GAAP measures are required to:
Display the most comparable GAAP measure with equal prominence.
Provide an explanation by management as to why the non-GAAP measure is thought to be useful.
Reconcile the differences between the non-GAAP measure and the most comparable GAAP measure.
Disclose other purposes for which the firm uses the non-GAAP measure.
Include, in any non-GAAP measure, any items that are likely to recur in the future, even those treated as nonrecurring, unusual, or infrequent in the financial statements
IFRS require that firms using non-IFRS measures in financial reports must:
Define and explain the relevance of such non-IFRS measures.
*Reconcile the differences between the non-IFRS measure and the most comparable IFRS measure

h describe accounting methods (choices and estimates) that could be used to manage earnings, cash flow, and balance sheet items;

• Revenue Recognition

how a firm’s choices affect the timing of revenue recognition is the choice of where in the shipping process the customer actually takes title to the goods.
A firm may choose terms with their customer of free-on-board (FOB)
FOB at the shipping point revenue is recognized earlier compared to FOB at the destination
⬆ (the firm’s loading dock) ⬆ (the customer’s location)
Firms can also manage the timing of revenue recognition by accelerating or delaying the shipment of goods.
提升reported revenue的方式： 折扣；金融优惠；未收到order即发货
channel stuffing: overloading a distribution channel with more goods than would normally be sold during a period

bill-and-hold transaction: 消费者buy goods & receive invoice；但公司keep the goods for a period of time
虚构bill-and-hold transaction 增加当期收入（将未出售商品expense）；降低未来收益（实际发生交易不进入I/S，以抵消过去的虚构交易）

• Estimates of Credit Losses

On the B/S, the reserve for uncollectible debt is an offset to accounts receivable.
如果管理层认为应收账款成功回收的概率上升
reserve for uncollectible accounts⬇⋙ net receivables⬆(B/S)⋙ expenses⬇(I/S)⋙ net income⬆
低估应收账款损失⋙higher 应收 +higher 净利润 （将来应收损失实际发生时，loss会使利润和应收下降）
Management can adjust the bad-debt reserve in order to smooth earnings.
Other reserves , such as a reserve for warranty expense, can also be changed to manage reported earnings.

• Valuation Allowance

a valuation allowance reduces the carrying value of a deferred tax asset based on the probability it will not be realized.
valuation allowance⬆ ⋙ net DTA⬇ (B/S) ,NI⬇ for the period
valuation allowance can be understated to
show higher asset values and it can also be adjusted over time to smooth earnings

• Depreciation Methods and Estimates

加速折旧在资产寿命前期产生更多费用，早期净利润较低
使用寿命和残值的估计会影响折旧期I/S中的expense，影响净利润。
(在资产到期后，sale proceed和book value差异造成的gain/loss会抵消原来的效果).

• Amortization and Impairment

摊销的情况基本与折旧相同
Goodwill is NOT amortized but is subject to a test for impairment.
By ignoring or delaying impairment charge for goodwill, management can increase earnings in the current period.

• Inventory Method

存货成本流转方法的选择影响报表净利润和存货的账面价值
Consider the choice between FIFO and weighted-average inventory costing method.
During periods of rising prices
COGS: FIFO< weighted-average costing method.
Gross profit, gross margin, and earnings: FIFO > weighted-average method
B/S inventory value FIFO > weighted-average method
During periods of decreasing prices,
COGS: FIFO> weighted-average costing method.
Gross profit, gross margin, and earnings: FIFO < weighted-average method
B/S inventory value FIFO < weighted-average method
In terms of relevance, in an environment of either increasing or decreasing prices,
accuracy:
B/S inventory values: FIFO more accurate (inventory value is closer to current replacement cost)
COGS weighted-average cost method more accurate (更接近current cost，更真实反映利润状况）
Gross profit under FIFO is distorted in that it includes gains from rising prices (or losses from decreasing prices), so the weightedaverage cost method produces “better” information on the income statement.
高质量的财报应足够信息透明，讨论其方法选择造成的对真实情况的偏离。

• Related-Party Transactions

通过操纵与关联公司的交易(e.g. 涨价/降价)来转移利润

• Capitalization

Any expense that can be capitalized creates an asset on the B/S, and the impact of the expense on net income can be spread over many years.
Capitalization also affects cash flow classifications.
when capitalized⋙entire amount is classified as an CFI outflow⋙CFO is increased

• Other Cash Flow Effects

Management can affect the classification of cash flows through other methods, primarily with the goal of increasing reported CFO.
stretching payables: taking longer to pay suppliers increases operating cash flows
⬆ NO effect on reported earnings in the current period from stretching payables

i describe accounting warning signs and methods for detecting manipulation of information in financial reports.

Revenue Recognition

• Changes in revenue recognition methods.
• Use of bill-and-hold transactions.
• Use of barter transactions.
• Use of rebate programs that require estimation of the impact of rebates on net revenue.
• Lack of transparency with regard to how the various components of a customer order are recorded as revenue.
• Revenue growth out of line with peer companies.
• Receivables turnover is decreasing over multiple periods.
• Decreases in total asset turnover, especially when a company is growing through acquisition of other companies.
• Inclusion of nonoperating items or significant one-time sales in revenue.

Inventories

• Declining inventory turnover ratio.
• LIFO liquidations—drawing down inventory levels when LIFO (U.S. GAAP only) inventory costing is used so that COGS reflects the lower costs of items acquired in past periods, which increases current period earnings.

Capitalization Policies

• Firm capitalizes costs that are not typically capitalized by firms in their industry.

Relationship of Revenue and Cash Flow

• The ratio of CFO to net income is persistently less than one or declining over time.

Other Warning Signs

• Depreciation methods, estimated asset lives, or estimates of salvage values are out of line with those of peer
• Fourth-quarter earnings show a pattern (either high or low) compared to the seasonality of earnings in the industry or seasonality of revenue for the firm.
• Significant transactions with related parties (entities controlled by management).
• Certain expenses are classified as nonrecurring but appear regularly in financial reports.
• Gross or operating profit margins are noticeably higher than are typical for the industry and peer companies.
• Management typically provides only minimal financial reporting information and disclosure.
• Management typically emphasizes non-GAAP earnings measures and uses special or nonrecurring designations aggressively for charges.
• Growth by purchasing a large number of businesses can provide many opportunities to manipulate asset values and future depreciation and amortization and make comparisons to prior period earnings problematic

当有较大规模重组或减值费用时，这部分费用可能需要被摊销调整
资产质量提高，对未来利润有帮助➡spreading these costs across prior periods and restating prior earnings
⬆ give a more realistic picture of true earnings trends.

R30 Financial Statement Analysis: Applications

a evaluate a company’s past financial performance and explain how a company’s strategy is reflected in past financial performance;

• premium and custom products are usually sold at higher gross margins than less differentiated commodity-liked products
• a company with products that have cutting edge features and high quality is expected to spend a higher proportion of sales on research and development
• the ratio of gross profits to operating profits will be larger for a firm that has relatively high research and development ang/or advertising expenditures.

• if a firm claims it will improve earnings per share by cutting cost, examination of operating ratios and gross margins over time will reveal whether the firm has actually been able to implement such strategy.

  b forecast a company’s future net income and cash flow;

  a forecast of future net income and cash flow often begin with a forecast of future sales based on the top-down approach (especially for short horizons)

• 预测GDP增长

• 根据GDP与销售的关系，预测销售额
• 估算公司的期望市场份额，结合行业销售总额，计算公司预期销售
• for simple forecasting model, some historical average or trend-adjusted measure of profitability (operating margin, EBT margin, or net margin) can be used to forecast earnings.
• for complex forecasting models, each item on an I/S and B/S can be estimated based on separate assumptions about its growth in relation to revenue growth.
• for multi-period forecast, the analyst typically employ a single estimate of sales growth at some point that is expected to continue indefinitely.
• to estimate cash flows, the analyst must make assumptions about the future sources and uses of cash, especially as regards changes in working capital, capital expenditures on new fixed assets, issuance or repayments of debt, and issuance or repurchase of stock.
• a typical assumption is that onocash working capital as a percentage of sales remains constant.

• a first-pass model might indicate a need for cash in future periods and these cash requirement can be then met by projecting necessary borrowwing in future periods .

  c describe the role of financial statement analysis in assessing the credit quality of a potential debt investment;

  Three Cs of credit analysis:

• Character: firm management’s professional repution and the firm’s history of debt repayment

• Collateral: the ability to pledge specific collateral reduces lender risk
• Capacity: screw firm’s financial statements and ratios

four items used to assess credit worthness

• Scale and diversification
• Operational efficiency
• Margin stability

• Leverage

  d describe the use of financial statement analysis in screening for potential equity investments;

  Criteria commonly used for attractive equity investment include:
  low P/E; low P/CF; low P/S; high ROA; high ROE

  e explain appropriate analyst adjustments to a company’s financial statements to facilitate comparison with another company

  Common adjustments required include adjustment for:

• Differences in depreciation methods and assumptions

• Differences in inventory cost flow assumptions/methods
• Differences in the treatment of the effect of exchange rate changes
• Differences in classification of investment securities
• Capitalization decisions
• Goodwill