Chapter 15

Accounting & Financial Analysis

Guideline Establishment
GAAP (Generally Accepted Accounting Principles) FASB (Financial Accounting Standards Board) SEC ( Securities & Exchange Commission) IRS (Internal Revenue Service)

Learning Objectives
Explain how firms use accounting Explain how to interpret financial statements Explain how to evaluate a firms financial condition

Accounting and Financial Analysis

Accounting Function Summary and Analysis of a Firms Financial Condition

Management decisions such as how much to produce and how many employees to hire

Marketing decisions such as pricing and the amount of promotion necessary

Finance decisions such as the amount of debt financing versus equity financing that is appropriate

Earnings of Firm

Value of Firm

Two Types of Accounting

Financial: concerned with preparing information for review by those outside the firm

Managerial: concerned with preparing information for review by those inside the firm

Audit for Control

A formal evaluation of the records used to prepare a firms financial statements
Internal Auditors Employees who analyze and evaluate the company Public accountants who work for an independent accounting firm

External Auditors

Two Major Financial Statements

Income Statement Indicates the revenue, costs, and earnings of a firm over a given time frame Balance Sheet Reports the book value of assets, liabilities, and owners equity of a firm at a given point in time Based on the accounting equation: Assets = Liabilities + Owners Equity (ALOE)

Sample Income Statement

Net sales $20,000,000 Cost of goods sold 16,000,000 Gross profit (margin) $ 4,000,000 Selling expense $1,500,000 General & administrative 1,000,000 Total operating expenses 2,500,000 Earnings before interest and taxes $ 1,500,000 Interest expense 500,000 Earnings before tax $ 1,000,000 Income tax (at 30%) 300,000 Net income $ 700,000
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Sample Balance Sheet

Assets Current assets Cash Marketable securities Accounts receivable Inventory Total current assets Fixed assets Plant and equipment Less accumulated depreciation Net fixed assets Total assets
Liabilities & Owners Equity Current liabilities Accounts payable Notes payable Total current liabilities Long-term debt Common stockholders equity Common stock Retained earnings Total owners equity Total liabilities and owners equity $ 200,000 300,000 500,000 1,000,000 $ 2,000,000 $10,000,000 2,000,000 $ 8,000,000 $10,000,000 ==========

600,000 400,000 $ 1,000,000 $ 5,000,000 $ 3,000,000 1,000,000 $ 4,000,000 $10,000,000 ==========

Ratio Analysis
A quantitative measurement used to evaluate a firms financial performance

Liquidity Efficiency Profitability Leverage

Liquidity Ratios
Measures a firms ability to meet its short term obligations
Current ratio
measures the amount of current assets the company has to satisfy each $ of current liability

Current Assets Current Liabilities

Acid-Test ratio or Quick ratio Quick Assets Current Liabilities

Efficiency Ratios
Measures how well the firm is managing its assets

Inventory Turnover ratio

measures the speed of inventory moving through the firm and its conversion into sales

Cost of Goods Sold Average Inventory

Asset Turnover ratio

measures the amount of sales generated by every $ invested in assets

Net Sales Total Assets

Profitability Ratios
Measures a firms ability to generate revenue in excess of expenses

1. Return on Assets
measures the amount of net income generated by every $ invested in assets

Net Income Total Assets

Profitability Ratios
2. Return on Sales (Net Profit Margin)
measures how much profit was earned for each sales $

Net Income Net Sales

3. Return on Equity
measures how much profit was earned for each $ invested by owners

Net Income Total Owners Equity

Leverage or Debt Ratio

An important indicator of a firms financial strength

Debt-to-Equity
Measures the degree to which a firm relies on borrowed funds vs. from owners

Total Liabilities Total Owners Equity

Tootsie Roll Industries, Inc. Annual Report 2007

Tootsie Roll Industries, Inc. 2007 Balance Sheet

Assets Current assets Cash & cash equivalents Marketable securities (Investments) Accounts receivable & other receivables Inventories Other current assets Total current assets Fixed assets Land Buildings, machinery & equipment Less accumulated depreciation Net fixed assets Other assets Total assets
Liabilities & Owners Equity Current liabilities Accounts payable Dividends, notes, & taxes payable Total current liabilities Long-term debt Common stockholders equity Common stock Retained earnings Total owners equity Total liabilities and owners equity

(in thousands)
$ 57,606 41,307 35,284 57,402 8,127 $ 199,726 $ 19,398 358,295 176,292 $ 201,401 411,598 $ 812,725 ======== $ 11,572 46,400 $ 57,972 $ 116,523 $ 481,478 156,752 $ 638,230 $ 812,725 ========

Tootsie Roll Industries, Inc. 2007 Income Stmt

(in thousands)

Net revenue Costs of goods sold Gross profit (margin) Selling, genl & admin expenses $ 97,821 Other operating income & exp ( 6,315) Total operating expense Earnings before income taxes Income taxes Net income

$497,717 329,044 $168,673

91,506 $ 77,167 25,542 $ 51,625

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Tootsie Roll Industries, Inc. Annual Report 2008

Tootsie Roll Industries, Inc. 2008 Balance Sheet

Assets Current assets Cash & cash equivalents Marketable securities (Investments) Accounts receivable & other receivables Inventories Other current assets Total current assets Fixed assets Land Buildings, machinery & equipment Less accumulated depreciation Net fixed assets Other assets Total assets
Liabilities & Owners Equity Current liabilities Accounts payable Dividends, notes & taxes payable Total current liabilities Long-term debt Common stockholders equity Common stock Retained earnings Total owners equity Total liabilities and owners equity

(in thousands)
$ 68,908 17,963 34,196 55,584 11,328 $ 187,979 $ 19,307 388,878 190,557 $ 217,628 406,485 $ 812,092 ======== $ 13,885 45,367 $ 59,252 $ 118,070 $ 491,898 142,872 $ 634,770 $ 812,092 ========

Tootsie Roll Industries, Inc. 2008 Income Stmt

(in thousands)

Net sales Cost of goods sold Gross profit (margin) Selling, genl & admin expenses $ 95,254 Other operating income & exp 10,618 Total operating expense Earnings before income taxes Income taxes Net income

$496,016 334,235 $161,781

105,872 $ 55,909 17,132 $ 38,777

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