Chapter 6

Financial Reporting and Analysis

By Kong Ratanak-MBA
Course facilitator
 OBJECTIVES
1. Define objectives of financial reporting
2. Qualitative Characteristics of accounting
information and its interrelationship
3. Accounting convention of comparability and
consistency, materiality, conservatism, full
disclosure and cost-benefit.
4. Explain management responsibility for ethical
financial reporting and define fraudulence
financial reporting
5. Basic components of classified balance sheet
6. Multiple step Vs single step income statement
7. Use classified financial statements for evaluation
of liquidity and profitability.
Objectives of Financial reporting

• Investment and credit decision

• Assessing Cash flow prospect
• Business resources, claim and
changes in those resources.
 Qualitative characteristics…
FINANCIAL STATEMENTS

CONVENTION THAT
QUALITATIVE CHARACTERISTICS HELP IN
Understandability Usefulness
Decisionmakers must be able Accountant must provide information that is INTERPRETATION
to interpret accounting useful in making decision Comparability &Consistency
information.  Materiality

 Conservatism

 Full Disclosure

 Cost-benefit

Relevance Reliability
Feed back value Faithful representation
Predictive Value Verifiability
Timeliness Neutrality
Conventions that help in interpretation of
Financial Statement
• Comparability and Consistency:
– similarity, differences, trend over different time
period and companies to companies
– Procedures of accounting are kept unless it is
informed of the change.
• Materiality
– Relative important of an Item or event
• Conservatism
– When facing the uncertainty, accountant will choose
the procedures that is least likely overstated assets
and income.
–
Conventions………..cont.
• Full Disclosure
– Financial statements and their notes present all
information that is relevant to the users.
• Cost benefit
– Benefit to be gained from providing new
accounting information should be greater than
the Cost of providing it.
 Management’s responsibility for Ethical
Reporting
• Preparation of Financial statements comply to
GAAP
• Internal Control (the assurance that the
objective is achieved)
• Fraudulent financial reporting is the intentional
preparation of misleading financial
statements.
 Multiple Step Income statement Single step Income statement

Shafer Auto Parts Corporation Shafer Auto Parts Corporation

Income Statement Income Statement
For the year ended December 31, 2009 For the year ended December 31, 2009
Net Sales $ 289,656.00 Net Sales $ 289,656.00
Cost of Good Sold $ 181,260.00 Interest income $ 1,400.00
Gross Margin $ 108,396.00
Operating Expenses Total Revenue $ 291,056.00
Selling Expenses $ 54,780.00 Cost and Expenses
General and Administrative$Expenses
34,504.00
Cost of goods sold $ 181,260.00
Total Operating expenses $ 89,284.00
Selling Expenses $ 54,780.00
Income from operation $ 19,112.00 General and Administrative Expenses
$ 34,504.00
Interest income $ 1,400.00
Less: Interest expenses $ 2,631.00 Interest expenses $ 2,631.00
Excess of other expenses over other income $ 1,231.00 Total Operating expenses $ 273,175.00
Income before income taxes $ 17,881.00
Income taxes $ 3,381.00
Net income $ 14,500.00 Income before income taxes $ 17,881.00
Earning Per Share (5000 shares of common stock) $ 2.90 Income taxes $ 3,381.00
Net income $ 14,500.00
Earning Per Share (5000 shares of common stock) $ 2.90
Tools for Analysis of Financial Statements
LIQUIDITY AND DEBT SERVICES RATIO
Current Ratio Current Assets / A measure of Liquidity; the
Current Liability ability to meet near-term
obligation
Quick Ratio (Cash + Short-term A narrow measure of liquidity;
investment + A/R)/ the ability to meet near-term
Current Liabilities obligation
Debt to Total Total Debt / Total Percentage of Assets finance by
Assets Ratio Assets long-term and short term debt
Debt to Total Total Debt / Total Proportion of financing that is
Equity ratio Equity debt related
Time interest earn Income before income Ability to meet interest obligation
ratio taxes and interest /
Interest Charged
 Tools for Analysis of Financial Statements
TURNOVER
Account Receivable
RATIO
Net Credit Sales / Average Frequency of collection cycle to
turnover ratio Net Account Receivable monitor credit policy
Inventory turnover Cost of Goods Sold / Frequency of inventory rotation;
ratio Average inventory to monitor inventory
management

PROFITABILITY RATIO
Net profit on Sales ratio Net income / Net Sales Profitability on sales for
comparison and trend analysis
Gross profit margin Gross Profit / Net Sales Gross profit rate; for comparison
ratio and trend analysis.
Return on Assets Ratio (Net income+ Interest Assets utilization in producing
expenses) / Average returns
Assets
Return on Equity Ratio (Net income - Preferred Effectiveness of equity
Dividend)/ Average investment in producing returns
common Equity
Classified Financial Statements
Ratio for Emerson Corporation
December 31, 19x5
 Review Problem
19x2 19x1
Current Assets 200,000.00 170,000.00
Total Assets 880,000.00 710,000.00
Current Liabilities 90,000.00 50,000.00
Long-term Liabilities 150,000.00 50,000.00
Stockholders‘ Equity 640,000.00 610,000.00
Sales 1,200,000.00 1,050,000.00
Net Income 60,000.00 80,000.00

Beginning Total Asset 19x1= $690,000 & Equity = $590,000

Liquidity Analysis? & Profitability Analysis ?
 Answer to Review problems
Liquidity Analysis Current Asset Current Working Capital Current Ratio
Liabilities
19x1 170,000 50,000 120,000 3.40
19x2 200,000 90,000 110,000 2.22
Increase (Decrease) in working capital (10,000)
Decrease in current ratio 1.18

Profitability Analysis Net Sales Profit Average total Assets Return Average Return
Income Margin Assets Turnover on Stock on
Assets Holders Equity
'Equity

19x1 7.6% 700,000 1.50 11.4% 13.3%

80,000 1,050,000 600,000
19x2 5.0% 795,000 1.51 7.5% 9.6%
60,000 1,200,000 625,000
Increase(Decrease) -2.6% 95,000.000 0.01 -3.9% -3.7%
(20,000) 150,000 25,000
 Total Liability Stockholders‘ Debt to Equity
Equity Ratio
19x1 100,000.00 610,000.00 16.4%
19x2 240,000.00 640,000.00 37.5%
Increase 140,000.00 30,000.00 21.1%

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