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ANALYZING
FINANCING
ACTIVITIES
BUSINESS ACTIVITIES
Business activities are financed with either liabilities or
equity, or both.

LIABILITIES are financing obligations that require

future payment of money, services, or other assets.
They are outsiders claims against a companys present
and future assets and resources.

Liabilities can be either financing or operating in nature

and are usually senior to those of equity holders.
BUSINESS ACTIVITIES
FINANCING LIABILITIES are all forms of credit
financing (arise from financing activities) long-term
notes/bonds, short-term borrowings, leases, current
portion of long term liabilities, interest payable.

OPERATING LIABILITIES are obligations that arise

from operations accounts/notes payable from trade
creditors, unearned revenue, advanced payment, taxes
payable, postretirement obligations, wages payable,
other accruals/operating expenses.

Liabilities are commonly reported as either current or

noncurrent usually based on whether the obligation is
due within one year (or operating cycle, whichever is
longer) or not.
BUSINESS ACTIVITIES
EQUITY refers to claims of owners on the net assets of
a company. Claims of owners are junior to creditors,
meaning they are residual claims to all assets once
claims of creditors are satisfied.

Equity holders are exposed (tidak terbatasi oleh) to the

maximum risk associated with a company but also are
entitled to all residual returns of a company.

Certain other securities, such as convertible bonds,

straddle (bisa memiliki) the line separating liabilities and
equity and represent a hybrid form of financing.
CURRENT LIABILITIES
CURRENT / SHORT-TERM LIABILITIES are obligations
whose settlement requires the use of current assets or
the incurrence of another current liability.

Conceptually, companies should record all liabilities at the

PV of the cash outflow required to settle them. In
practice, current liabilities are recorded at their maturity
value, and not their present value, due to the short time
period until their settlement.
CURRENT LIABILITIES
Many borrowing agreements include covenants (jaminan)
to protect creditors. In the event of default, say in the
maintenance of a specified financial ratio such as the
debt-to-equity ratio, the indebtedness becomes
immediately due and payable.

Any long-term debt in default must, therefore, be

reclassified as a current liability.

A violation of a noncurrent debt covenant doesnt require

reclassification of the noncurrent liability as current
provided that the lender waives (melepas) the right to
demand repayment for more than a year from the
balance sheet date.
NONCURRENT LIABILITIES
Noncurrent (or long-term) liabilities are obligations that
mature in more than one year (or the operating cycle if
longer than one year). They include loans, bonds,
debentures, and notes.

Noncurrent liabilities can take various forms, and their

assessment and measurement requires disclosure of all
restrictions and covenants (interest rates, maturity dates,
conversion privileges, call features, and subordination
provisions, pledged collateral, sinking fund requirements,
and revolving credit provisions).

Companies must disclose defaults of any liability

provisions, including those for interest and principal
repayments.
NONCURRENT LIABILITIES
A bond is a typical noncurrent liability. The bonds par (or
face) value along with its coupon (contract) rate
determines cash interest paid on the bond.

Bond issuers sometimes sell bonds at a price either below

par (at a discount) or in excess of par (at a premium). The
discount or premium reflects an adjustment of the bond
price to yield the markets required rate of return.

DISCOUNT is amortized over the life of the bond and

increases the effective interest rate paid by the borrower.
PREMIUM is also amortized but it decreases the effective
interest rate incurred.
NONCURRENT LIABILITIES
Bond issuers offer a variety of incentives to promote the
sale of bonds and reduce the interest rate required
(convertibility features and attachments of warrants to
purchase the issuers common stock) (convertible debt
sweetener)

Disclosure is also required for future payments on long-

term borrowings and for any redeemable stock.
a) Maturities and any sinking funds requirements
b) Redemption requirements
ANALYZING LIABILITIES
Terms of indebtedness (maturity, interest rate, payment
pattern, and amount).
Restrictions on deploying resources and pursuing
business activities.
Ability and flexibility in pursuing further financing.
Obligations for working capital, debt to equity, and other
financial figures.
Dilutive conversion features that liabilities are subject
to.
Prohibitions on disbursements such as dividends.
LEASES

LEASES is a contractual agreement between a lessor (owner)

and a lessee (user), that gives a lessee the right to use an asset,
owned by the lessor, for the term of the lease, and in return, the
lessee makes rental payments, called minimum lease payments
(MLP, a series of payments over a specified future time period).

Lease contracts can be complex, and they vary in provisions

relating to the lease term, the transfer of ownership, bargain
purchase option, bargain renewal option, guaranteed /
unguaranteed residual value, early termination, penalty for failure
to renew (extend) the lease, executory cost, initial direct cost, etc.

The decision to account for a lease as a capital or operating

lease can significantly impact F/S.
LEASES
CAPITAL / FINANCE LEASE (for Lessee)
Lease that transfers substantially all the benefits and risks of
ownership is accounted for as an asset acquisition and a liability
incurrence by the lessee.
Lessor treats such a lease as a sale (sales type lease) and
financing (direct financing) transaction.
Both the leased asset and the lease obligation are recognized on
the balance sheet.
If (1) transfer ownership
(2) bargain purchase option
(3) lease term >= 75% assets economic life (economic life test)
(4) PV MLP >= 90% FMV asset (recovery of investment test)
for Lessor (+)
(5) FMV asset = BV asset Direct Financing Lease
(6) FMV asset > BV asset Sales Type Lease
LEASES
OPERATING LEASE (for Lessee & Lessor)

Lessee (lessor) accounts for the minimum lease payment as a

rental expense (revenue), and no asset or liability is recognized
on the balance sheet.

Lessees often structure a lease so that it can be accounted for

as an operating lease even when the economic characteristics
of the lease are more in line with a capital lease.

Lessee is engaging in off-balance-sheet financing (refers to

the fact that neither the leased asset nor its corresponding
liability are recorded on the balance sheet when a lease is
accounted for as an operating lease even though many of the
benefits and risks of ownership are transferred to the lessee).
Advantages of Lease (motivations for lease)
1. Sellers use leasing to promote sales by providing financing to
buyers. Interest income from leasing is often a major source
of revenue to those sellers. In turn, leasing often is a
convenient (mudah) means for a buyer to finance its asset
purchases.
2. Tax considerations
3. Leasing can be a source of off-balance-sheet financing (used
in this way, leasing is said to window-dress F/S).
4. 100% financing at fixed rates
5. Protection against obsolescence (there is an expected use
period that is less than the assets economic life)
6. Lessor has advantage in reselling the asset or has market
power to force buyers to lease
7. More flexible than debt agreement
8. Less costly financing
9. An asset that is not specialized to the company or is not
sensitive to misuse
Advantages of Lease (motivations for lease)
10. Financial reporting factors
a) While financial accounting and tax reporting need not be
identical, use of operating leases for financial reports
creates unnecessary obstacles (hambatan) when claiming
capital lease benefits for tax purposes. This explains the
choice of capital leasing for some financial reports. Still,
the choice of operating leasing seems largely dictated
(ditetapkan) by managers preference for off-balance-sheet
financing.
b) Capital leasing yields deterioration (menurunkan) in
solvency ratios and creates difficulties in raising additional
capital capital lease increases the tightness
(pengetatan) of debt covenants (perjanjian bond) and,
therefore, managers try to loosen debt covenants with
operating leases)
Lease Disclosure
Future MLPs separately for capital leases and operating
leases
Rental expense for each period on income statement
Off-Balance-Sheet financing

NOTE (Risk of Operating Lease) :

Main impact of capitalizing non-cancellable operating
leases is an increase in the debt to equity and similar
ratios with a corresponding increase in the companys
risk assessment.
ANALYZING LEASES
Impact of operating leases vs capital leases on both the
balance sheet and the income statement.

Operating leases understate liabilities by keeping lease

financing off the balance sheet, positively impacts
solvency ratios (such as debt to equity) that are often
used in credit analysis.
Operating leases understate assets so can inflate both
return on investment and asset turnover ratios.
Operating leases delay recognition of expenses in
comparison to capital leases (operating leases overstate
income in the early term of the lease but understate
income later in the lease term)
ANALYZING LEASES
Operating leases understate current liabilities by keeping
the current portion of the principal payment off the
balance sheet, so inflates the current ratio and other
liquidity measures.
Operating leases include interest with the lease rental (an
operating expense), consequently operating leases
understate both operating income and interest expense,
inflates interest coverage ratios (such as times interest
earned), understates operating cash flow, & overstates
financing cash flow.
ANALYZING LEASES
The ability of operating leases to positively affect key
ratios used in credit and profitability analysis provides a
major incentive for lessees to pursue (memburu) this
source of off-balance-sheet financing. Lessees also
believe that classifying leases as operating leases helps
them meet debt covenants and improves their prospects
for additional financing.

Because of the impacts from lease classification on F/S

and ratios, an analyst must make adjustments to F/S
prior to analysis (convert all operating leases to capital
leases or selective to reclassifying leases will be used
only when the lessees classification appears inconsistent
with the economic characteristics of the lease.
ANALYZING LEASES (contoh..)
CNH Capital and Ivanhoe Mines Ltd. Sign a lease agreement
dated January 1, 2015, that calls for CNH to lease a front
end loader to Ivanhoe beginning January 1, 2015. The terms
and provision of the lease agreement and other pertinent
data are as follows.
The term of the lease is 5 years. The lease agreement is
non-cancellable, requiring equal rental payments of $
25,981.62 at the beginning of each year (annuity due basis)
The loader has a fair value at the inception of the lease of
$ 100,000 , an estimated economic life of 5 years, and no
residual value
Ivanhoe pays all of the executory cost directly to third
parties except for the property taxes of $ 2,000 per year,
which is included as part of its annual payments to CNH.
ANALYZING LEASES (contoh..)
The lease contains no renewal options. The loader reverts
to CNH at the termination of the lease
Ivanhoes incremental borrowing rate is 11 % per year
Ivanhoe depreciates similar equipment that it owns on a
straight line basis
CNH sets the annual rental to earn a rate of return on
its investment of 10% per year; Ivanhoe knows this fact.
The lease meets the criteria for finance lease:
The lease term of 5 years, being equal to the equipments
estimated economic life of 5 years, satisfies the economic
life test
The PV of minimum lease payments (MLP) = $ 100,000
equals the fair value (FV) of the loader ($ 100,000).
 ANALYZING LEASES (contoh..)
Lease amortization schedule (annuity due basis)

Annual Interest Reduction of

Executory Lease
Year lease (10%) on lease
cost liability
payment liability liability

1/1/2015 100,000.00

1/1/2015 25,981.62 2,000.00 0.00 23,981.62 76,018.38

1/1/2016 25,981.62 2,000.00 7601.84 16,379.78 59,638.60

1/1/2017 25,981.62 2,000.00 5,963.86 18,017.76 41,620.84

1/1/2018 25,981.62 2,000.00 4,162.08 19,819.54 21,801.30

1/1/2019 25,981.62 2,000.00 2,180.32 21,801.30 0.00

TOTAL 129,908.10 10,000.00 19,908.10 100,000.00

 ANALYZING LEASES (contoh..)
Schedule of expenses (Finance/capital lease >< operating lease)

Finance / capital lease

Operating
Diffe-
Year lease
Executory Interest Deprec. Total rence
charge
cost expense expense expense

2015 2,000.00 7601.84 20,000.00 29,601.84 25,981.62 3,620.22

2016 2,000.00 5,963.86 20,000.00 27,963.86 25,981.62 1,982.24

2017 2,000.00 4,162.08 20,000.00 26,162.08 25,981.62 180.46

2018 2,000.00 2,180.32 20,000.00 24,180.32 25,981.62 -1,801.30

2019 2,000.00 20,000.00 22,000.00 25,981.62 -3,981.62

TOTAL 10,000.00 19,908.10 100,000.00 129,908.10 129,908.10 0.00

PENSION & OTHER POST-RETIREMENT BENEFITS

1. PENSION BENEFITS, where the employer promises

monetary benefits to the employee after retirement
(defined benefit plans or defined contribution plans)

2. OTHER POST- RETIREMENT EMPLOYEE BENEFITS

(OPEB), where the employer provides other (usually
nonmonetary) benefits after retirementprimarily health
care and life insurance.
 PENSION & OTHER POST-RETIREMENT BENEFITS

Elements of the Pension Process

Employer Pension Employee

Fund
Benefits
Contributions
(Disbursements)

Investment and returns

PENSION & OTHER POST-RETIREMENT BENEFITS
Pension Plan agreement by the employer to provide pension
benefits involving 3 entities
employer who contributes to the plan
employee-who derives benefits
pension fund

Pension Fund account administered by a trustee,

independent of employer, entrusted (dipercaya) with
responsibility of receiving contributions, investing them in a
proper manner, & disbursing pension benefits to employees

Vesting specifies employees right to pension benefits

regardless of whether employee remains with the company or
not; usually conferred (diberikan) after employee has served
some minimum period with the employer
PENSION & OTHER POST-RETIREMENT BENEFITS
Defined benefit plan a plan specifying amount of pension
benefits that employer promises to provide retirees; employer
bears risk of pension fund performance

Defined contribution plan a plan specifying amount of

pension contributions that employers make to the pension plan;
employee bears risk of pension fund performance

Defined benefit plans constitutes the major share of pension

plans and are the focus of analysis given their implications to
future company performance and financial position
PENSION & OTHER POST-RETIREMENT BENEFITS
Elements of Accounting for Pensions (Defined Benefit
Obligation = DBO)
Net Benefit Obligation = defined benefit obligation (DBO)
FV plan assets (if any).
(-) = deficit (+) = surplus

Service cost
Current service cost is increase in the PV of DBO from
employee service in the current period
Past service cost is change in the PV of DBO for
employee service for prior period, generally resulting from
a plan amendment (introduction, changes, or withdrawal
to the plan) or a curtailment (significant reduction in the
number of employees covered by the plan)
PENSION & OTHER POST-RETIREMENT BENEFITS
Net interest
= interest expense interest revenue
= (discount rate x DBO) - (discount rate x plan assets)

Service cost & net interest will be reported in net income

Remeasurements are gains or losses related to DBO

(changes in discount rate or other actuarial assumptions) and
gains/losses on the fair value of the plan assets (actual rate of
return less interest revenue included in the finance compo-
nent) reported in other comprehensive income (net of
tax)

Contributions are companys contributions to pension fund

PENSION & OTHER POST-RETIREMENT BENEFITS
Plan assets are investments in shares, bonds, other securities
and real estate that a company holds to earn a reasonable rate
of return, reported at fair value. Companies generally hold
these assets in a separate legal entity (a pension fund) that
exists only to administer the employee benefit plan.

Actual return on plan assets are increase in the pension fund

assets arising from interest, dividends, and realized &
unrealized changes in FV of the plan. Benefits paid to retired
employees decrease plan assets
Formula:
Actual return on plan assets
= (plan asset ending balance plan asset beginning
balance) (contributions benefits paid)
PENSION & OTHER POST-RETIREMENT BENEFITS
Accumulated benefit obligation (ABO) is actuarial present
value of future pension benefits payable to employees at
retirement based on their current compensation and service to-
date

Project benefit obligation (PBO) actuarial estimate of future

pension benefits payable to employees on retirement based on
expected future compensation and service to-date

Funded Status of the Plan Difference between the value of

the plan assets and the PBO which represents the net
economic position of the plan
Plan is overfunded (underfunded) when value of plan assets
exceeds (is less than) PBO
PENSION & OTHER POST-RETIREMENT BENEFITS
Elements of Accounting for Other Post-Retirement Benefits
Accumulated Postretirement Benefit Obligation (APBO)
employers OPEB obligation
Expected Postretirement Benefit Obligation (EPBO) PV of
future OPEB payments associated with the employees.
OPEB accounting is similar to pension accounting
OPEB costs are recognized when incurred rather than when
actually paid out.
Assets of the OPEB plan are offset against the OPEB
obligation, and returns from these assets are offset against
OPEB costs.
Actuarial gains and losses, prior service costs, and the excess
of actual return over expected return on plan assets are
deferred and subsequently amortized.
POST RETIREMENT BENEFITS
Accounting standards require that the costs of providing
postretirement benefits be recognized when the employee is in
active service, rather than when the benefits are actually paid.

The estimated PV of accrued benefits is reported as a liability

for the employer.

Because of the uncertainty regarding the timing and magnitude

of these benefits, postretirement costs (and liabilities) need to
be estimated based on actuarial assumptions regarding life
expectancy, employee turnover, compensation growth rates,
health care costs, expected rates of return, and interest rates.
Comparison between pension & other post-
retirement benefits (health-care benefits)
Criteria Pension Health care
Funding generally funded generally not funded
Benefit well-defined and level $ generally uncapped
amount (tidak dibatasi) and
great variability
Beneficiary retiree, maybe some retiree, spouse, other
benefit to surviving dependents
spouse
Benefit payable monthly as needed & used
Predictability variables are utilization difficult to
reasonably predictable predict, level of cost
varies geographically
and fluctuatives over
time)
PENSION & OTHER POST-RETIREMENT BENEFITS

Analyzing Pension & Other Postretirement Benefits

1. Determine and reconcile the reported and economic benefit

cost and liability (or asset).
2. Make necessary adjustments to financial statements.
3. Evaluate actuarial assumptions (discount rate, expected
return, growth rate) and their effects on financial statements.
4. Examine pension risk exposure (arises to the extent to which
plan assets have a different risk profile than the pension
obligation).
5. Consider the cash flow implications of postretirement
benefit plans.
CONTINGENCIES
Contingencies are potential gains and losses whose resolution
depends on one or more future events.
Loss contingencies are potential claims on a companys
resources and are known as contingent liabilities.
Contingent liabilities can arise from litigation, threat of
expropriation (pengambilalihan), collectibility of receivables,
claims arising from product warranties or defects, guarantees
of performance, tax assessments, self-insured risks, and
catastrophic (bencana) losses of property.
Contingent assets are contingencies with potential additions to
resources. A contingent assets (and gain) is not recorded until
the contingency is resolved.
CONSERVATISM to recognize contingent liabilities &
contingent assets in F/S
CONTINGENCIES
A loss contingency must meet two conditions.
1. it must be probable that an asset will be impaired or a
liability incurred (it must be probable that a future
event will confirm the loss)
2. the amount of loss must be reasonably estimable.
3. Examples: losses from uncollectible receivables and
the obligations related to product warranties.

If a company does not record a loss contingency because

one or both of the conditions are not met, the company
must disclose the contingency in the notes when there is
at least a reasonable possibility that it will incur a loss.
CONTINGENT LIABILITIES

Outcome Probability Accounting treatment

Virtually certain At least 90% Report as liability /

provision
Probable / 51 89% probable Report as liability /
more likely than not provision

Possible but not 5 50% Disclosure required

probable
Remote Less than 5% No disclosure required
CONTINGENT ASSETS
Outcome Probability Accounting treatment

Virtually certain At least 90% Report as asset (no

probable longer contingent)

Probable / 51 90% probable Disclose

more likely than not

Possible but not 5 50% No disclosure required

probable

Remote Less than 5% No disclosure required

CONTINGENCIES
Analyzing contingencies:
1. Accuracy of underlying estimates scrutinize (mempelajari)
management estimates
2. Note disclosures of all loss (and gain) contingencies
(description of the contingent liability, degree of risk, amount
of risk, and how treated in assessing risk exposure, charges,
if any, against income)
3. Recognize a bias to not record or underestimate contingent
liabilities
4. Beware of big-baths, loss reserves are contingencies
5. Review fillings from authority for details of loss reserves
6. Analyze deferred tax notes for undisclosed provision for
future losses
Notes: loss reserves do not alter (mengubah) risk exposure, have
no cash flow consequences, and do not provide insurance
COMMITMENTS
COMMITMENTS are potential claims against a companys
resources due to future performance under contract. They are
not recognized in financial statements since events such as the
signing of an executory contract or issuance of a purchase order
is not a completed transaction.

Examples are long-term non-cancellable contracts to purchase

products or services at specified prices and purchase contracts
for fixed assets calling for payments during construction.

A lease agreement is also, in many cases, a form of

commitment. (All commitments call for disclosure of important
factors surrounding their obligations including the amounts,
conditions, and timing).
COMMITMENTS
Analyzing commitments:
1. Scrutinize management communications and press release
2. Analyze notes regarding commitments, including descriptions
of commitments and degree of risk, amount of risk and how to
treated in assessing risk exposure, contractual conditions &
timing
3. Recognize a bias to note disclose commitments
4. Review authority fillings for detail of commitments
OFF BALANCE SHEET FINANCING
OFF-BALANCE-SHEET FINANCING refers to the non-recording
of certain financing obligations.
purchase agreements & through-put agreements (where a
company agrees to purchase output from or run a specified
amount of goods through a processing facility)
take-or-pay arrangements (where a company guarantees to
pay for a specified quantity of goods whether needed or not).

Motivation:
To keep debt off the balance sheetpart of ever-changing
landscape, where as one accounting requirement is brought in to
better reflect obligations from a specific off-balance-sheet
financing transaction, new and innovative means are devised to
take its place
OFF BALANCE SHEET FINANCING
Transactions sometimes used as off-balance-sheet financing:
Operating leases that are indistinguishable from capital leases
Through-put agreements, where a company agrees to run
goods through a processing facility
Take-or-pay arrangements, where a company guarantees to
pay for goods whether needed or not
Certain joint ventures and limited partnerships
Product financing arrangements, where a company sells and
agrees to either repurchase inventory or guarantee a selling
price
Sell receivables with recourse and record them as sales rather
than liabilities
Sell receivables as backing for debt sold to the public
Outstanding loan commitments
OFF BALANCE SHEET FINANCING
Disclosure:
Face, contract, or principal amount
Terms of the instrument and info on its credit and market risk,
cash requirements, and accounting Loss incurred if a party to
the contract fails to perform
Collateral or other security, if any, for the amount at risk
Information about concentrations of credit risk from a
counterparty or groups of counterparties

Analyses:
Scrutinize management communications and press releases
Analyze notes about financing arrangements
Recognize a bias to not disclose financing obligations
Review authority filings for details of financing arrangements
 SHAREHOLDERS EQUITY
Equity refers to owner (shareholder) financing of a
company (viewed as reflecting the claims of owners on the
net assets of the company).
Holders of equity securities are typically subordinate to
creditors, meaning that creditors claims are settled first.
Equity holders are exposed to the maximum risk
associated with a company. At the same time, they have
the maximum return possibilities as they are entitled to all
returns once creditors are covered.
Variation across equity holders on seniority
Basic Components are C/S and R/E
SHAREHOLDERS EQUITY
Analysis would include:
1. Classifying and distinguishing among major sources of
equity financing.
2. Examining rights for classes of shareholders and their
priorities in liquidation.
3. Evaluating legal restrictions for distribution of equity.
4. Reviewing contractual, legal, and other restrictions on
distribution of retained earnings.
5. Assessing terms and provisions of convertible
securities, stock options, and other arrangements
involving potential issuance of shares.
 CAPITAL STOCK
Sources of increases in capital stock outstanding
1. Issuances of stock.
2. Conversion of debentures and preferred stock.
3. Issuances pursuant to stock dividends and splits.
4. Issuances of stock in acquisitions and mergers.
5. Issuances pursuant to stock options and warrants exercised.

Sources of decreases in capital stock outstanding:

1. Purchases and retirements of stock.
2. Stock buybacks.
3. Reverse stock splits.
CAPITAL STOCK
Important aspect of analysis of capital stock is the evaluation of
the options held by others that, when exercised, cause the
number of shares outstanding to increase and thus dilute
ownership:
1. Conversion rights of debentures and preferred stock into
common.
2. Warrants entitling holders to exchange them for stock under
specified conditions.
3. Stock options with compensation and bonus plans calling
for issuances of capital stock over a period of time at fixed
pricesexamples are qualified stock option plans and
employee stock ownership plans.
4. Commitments to issue capital stockan example is merger
agreements calling for additional consideration contingent
on the occurrence of an event such as achieving a specific
earnings level.
 CAPITAL STOCK
Contributed (paid-in) capital is the total financing received from
shareholders in return for capital shares.
1. par or stated value of capital shares: common and/or
preferred stock (if stock is no-par, then it is assigned the
total financing).
2. contributed (or paid-in) capital in excess of par or stated
value (also called additional paid-in capital).
When combined, these accounts reflect the amounts paid in by
shareholders for financing business activities.
 CAPITAL STOCK
Charges or credits from a variety of capital transactions:
1. sale of treasury stock
2. capital changes arising from business combinations
3. capital donations, often shown separately as donated
capital;
4. stock issuance costs and merger expenses; and
5. capitalization of retained earnings by means of stock
dividends.
 CAPITAL STOCK
Treasury Stock (buybacks) are the shares of a companys stock
reacquired after having been previously issued and fully paid
for.
a. Acquisition of treasury stock by a company reduces both
assets and shareholders equity.
b. Treasury stock is not an asset, it is a contra-equity account
(negative equity).
c. Treasury stock is typically recorded at cost, and the most
common method of presentation is to deduct treasury stock
cost from the total of shareholders equity.
d. When companies record treasury stock at par, they
typically report it as a contra to (reduction of ) its related
class of stock.
CAPITAL STOCK
Preferred Stock (special class of stock possessing preferences
or features not enjoyed by common stock)
1. Dividend distribution preferences including participating
and cumulative features.
2. Liquidation prioritiesespecially important since the
discrepancy between par and liquidation value of preferred
stock can be substantial.
3. Convertibility (redemption) into common stock (the SEC
requires separate presentation of these shares when
preferred stock possesses characteristics of debt (such as
redemption requirements)).
4. Nonvoting rightswhich can change with changes in items
such as arrearages in dividends.
5. Call provisionsusually protecting preferred shareholders
against premature redemption (call premiums often
decrease over time).
 CAPITAL STOCK
Common Stock (class of stock representing ownership interest
& bearing ultimate risks and rewards of company performance)
a. represents residual interests having no preference, but
reaping residual net income and absorbing net losses.
b. Common stock can carry a par value; if not, it is usually as-
signed a stated value.
c. The par value of common stock is a matter of legal and
historical significance it usually is unimportant for
modern financial statement analysis.
d. There is sometimes more than one class of common stock
for major companies. The distinctions between common
stock classes typically are differences in dividend, voting,
or other rights.
 CAPITAL STOCK
Analyzing Capital Stock from the composition of capital
accounts and to their applicable restrictions, because of
provisions that can affect residual rights of common
shares and, accordingly, the rights, risks, and returns of
equity investors.

Such provisions include dividend participation rights,

conversion rights, and a variety of options and conditions
that characterize complex securities frequently issued
under merger agreements most of which dilute
common equity.
RETAINED EARNINGS (R/E)
R/E are the earned capital of a company that reflects the
accumulation of undistributed earnings or losses of a company
since its inception (contrasts with the capital stock and additional
paid-in capital accounts that constitute capital contributed by
shareholders), and the primary source of dividend (distributions to
shareholders).
1. Cash dividend
2. Stock dividend
a. Small (or ordinary) stock dividends (<= 20% to 25% of
shares outstanding) the stock dividend be valued at its
market value on the date of declaration.
b. Large stock dividends (split-ups effected in the form of a
dividend) (> 25% of shares outstanding) the stock
dividend be valued at par value of shares issued.
3. Property dividend
4. Liquidating dividend
RETAINED EARNINGS
Spin-Offs and Split-Offs (to divest subsidiaries)
a. Spin-off, the distribution of subsidiary stock to shareholders
as a dividend; assets (investment in subsidiary) are
reduced as is retained earnings.
b. Split-off, the exchange of subsidiary stock owned by the
company for shares in the company owned by the
shareholders; assets (investment in subsidiary) are
reduced and the stock received from the shareholders is
treated as treasury stock.
RETAINED EARNINGS
Restrictions / covenants / appropriations of Retained Earnings
(for specific purposes, as a result of contractual agreements,
such as loan covenants, or by action of the board of directors) /
constrains / retention

Prior Period Adjustments (are mainly corrections for errors in

prior periods financial statements, companies exclude them
from the income statement and report them as an adjustment
(net of tax) to the beginning balance of retained earnings).
Book Value per Share
Book value per share is the per share amount resulting from a
companys liquidation at amounts reported on its balance sheet.

Book value is referring to net asset valuethat is, total assets

reduced by claims against them. The book value of common
stock is equal to the total assets less liabilities and claims of
securities senior to common stock (such as preferred stock) at
amounts reported on the balance sheet (but can also include
unbooked (tidak tercatat) claims of senior securities).

A simple means of computing book value is to add up the

common stock equity accounts and reduce this total by any
senior claims not reflected in the balance sheet (including
preferred stock dividend arrearages, liquidation premiums, or
other asset preferences to which preferred shares are entitled).
Book Value per Share
Book Value in financial statements analysis:
1. Book value, with potential adjustments, is frequently
used in assessing merger terms.
2. Analysis of companies composed of mainly liquid
assets (finance, investment, insurance, and banking
institutions) relies extensively on book values.
3. Analysis of high-grade bonds and preferred stock
attaches (memperhatikan) considerable importance to
asset coverage.
 Book Value per Share
These applications must recognize the accounting considerations
entering into the computation of book value per share such as the
following:
1. Carrying values of assets, particularly long-lived assets like
property, plant, and equipment, are usually reported at cost
and can markedly differ from market values.
2. Internally generated intangible assets often are not reflected
in book value, nor are contingent assets with a reasonable
probability of occurrence.
3. Other adjustments often are necessary. For example, if
preferred stock has characteristics of debt, it is appropriate to
treat it as debt at the prevailing interest rate. In short, book
value is a valuable analytical tool, but we must apply it with
discrimination and understanding.
 LIABILITIES AT EDGE OF EQUITY
Redeemable Preferred Stock

Analysts must be alert for equity securities (typically preferred

stock) that possess mandatory redemption provisions making
them more akin (lebih dekat/mirip) to debt than equity. These
securities require a company to pay funds at specific dates. A
true equity security does not impose (memaksakan) such
requirements. Examples of these securities, under the guise of
preferred stock, exist for many companies.

The SEC asserts that redeemable preferred stocks are different

from conventional equity capital and should not be included in
shareholders equity nor combined with nonredeemable equity
securities.
 LIABILITIES AT EDGE OF EQUITY
Redeemable Preferred Stock

The SEC also requires disclosure of redemption terms and five-

year maturity data. Accounting standards require disclosure of
redemption requirements of redeemable stock for each of the five
years subsequent to the balance sheet date. Companies whose
shares are not publicly traded are not subject to SEC
requirements and can continue to report redeemable preferred
stock as equity. Still, our analysis should treat them for what they
are an obligation to pay cash at a future date.
Referensi
Kieso, Donald E., Jerry J. Weygandt, and Terry D. Garfield,
Intermediate Accounting: IFRS edition, edisi 2, Wiley,
2014

Subramaniam, K R and John J. Wild, Financial Statement

Analysis, edisi 10, McGraw Hill Irwin, 2009