CHAPTER 15 MINI SIM ON ACCOUNTING AND ACCOUNTING INFORMATION

**fixed assets**

assets retained for long-term use, such as land, buildings machinery, and equipment, also referred to as **property, plant, and equipment**

CH. 17 Financial Information and Accounting Concepts Understanding AccountingAccounting is the system a business uses to identify, measure, and communicate financial information to others

**Accounting is the system a business uses to identify, measure, and communicate financial information to others**

Financing Alternatives: Short-Term Debt •Credit cards •Trade credit •Secured loans •Unsecured loans •Commercial paper •Factoring and receivables auctions Financing Alternatives: Long-Term Debt •Long-term loans •Leases •Corporate bonds Financing Alternatives: Equity •Venture capital and other private equity •Public stock offerings

**Financing Alternatives: Factors to Consider** **Debt Financing Versus Equity Financing** most fundamental decision faced by company regarding financing is obtain funds by **debt financing** - borrowing money or **equity financing** - selling ownership shares in company **crowdfunding can have elements of either approach depending on how structured** to meet fund needs over time companies can use combination of debt and equity **debt not sign of financial trouble or mismanagement, well-run companies use debt routine element of financial management **key difference** is unlike consumer debt other than education loans, businesses can make money borrowing money **When choosing between debt and equity financing, companies consider a variety of issues, including the prevailing interest rates, maturity, the claim on income, the claim on assets, and the desire for ownership control companies already public or prepared to go public can raise funds by selling shares on open market - some debt options not available to small companies **Length of Term** **short-term financing** - financing repaid w/in one year **long-term financing** - financing repaid in period longer than one year primary purpose of short-term financing is to ensure company maintains **liquidity - its ability to meet financial obligations (such as inventory payments) as they become due **long-term financing** used to acquire long-term assets such as buildings or equipment or fund expansion via any number growth options **Cost of Capital** company wants money lowest cost/least risk **cost of capital** is average rate of interest must pay on its debt and equity financing - to make economic sense, expected returns must exceed cost of capital fin. man. study capital costs in relation to intended use potential sources of external funds - banks to stock market investors to suppliers who sell on credit analyze company plans & prospects to determine company safe & sensible use of their capital recent credit crisis sources available credit shrunk & limited available credit expensive **Cost of Capital Three Main Factors:** **risk associated w/ the company** **prevailing level of interest rates** **management's selection of funding vehicles** **Risk** lenders that provide money to businesses expect their returns proportion to **2 types of risk** - quality and length of time of venture (more financially solid a company is) **credit score**- vital to securing credit at reasonable rates companies must guard reputation being good credit/investment risks time plays vital role - dollar worth less tomorrow than today - lenders need compensated for waiting to be repaid as result **debt, long-term financing gen. costs company more than short-term financing** **Interest Rates** cost of money vary b/c interest rates fluctuate **prime interest rate (often called prime)** is lowest interest rate offered on short-term bank loans to preferred borrowers - changes irregularly, at times frequently, or b/c supply & demand - other times b/c prime rate closely tied to **discount rate** - the interest rate the Federal Reserve charges on loans to commercial banks & other depository institutions - companies must take interest rates into consideration projects/needs don't always coincide w/low interest rates **Opportunity Cost** using a company's own cash to finance growth **one chief attraction** no interest payments internal financing **not free** has **opportunity cost** - the value of the most appealing alternative from among those not chosen - makes sense if company can earn greater **rate of return** (the percentage increase in the value of an investment) on investments than rate of interest paid on borrowed money **leverage** concept b/c loan acts like a lever: it magnifies the power of the borrower to generate profits works both ways - borrowing may magnify your losses & your gains not issue of using outside money BUT how much should be raised - what means - when **capital structure** - total mix of debt and equity company uses to meet its short-and long-term needs

Fundamental Accounting Concepts The accounting equation Owners' equity = assets-liabilities The double entry booking principle Each transaction is entered twice - once as a credit and once as a debit Accrual basis vs. cash basis Using Financial Statements: The Balance Sheet Understanding financial statements The balance sheet Assets Liabilities Owners' equity

**The Accounting Equation** **Owners' equity = assets-liabilities**

CH. 18 Financial Management The Role of Financial Management Fundamental concepts •Balancing short-term and long-term demands •Balancing potential risks and potential rewards •Balancing leverage and flexibility Developing a financial plan Monitoring cash-flow •Managing **accounts receivable** and **accounts payable** •Managing inventory •Managing cash reserves

**financial management** or **finance** - planning for a firm's money needs and managing the allocation and spending of funds are foundations of most sm companies - owner responsible for firm's financial decisions lg operations financial management responsibility of finance dept. - includes accounting function, reports to vice president of finance or chief financial officer (CFO) Decisions regarding company finances must consider **3 fundamental concepts:** 1. **If firms spends too much money meeting short-term demands won't have enough to make strategic investments for future** i.e. building new facilities, developing next generation of products, or able to jump on strategic acquisition * If spend too little in short term, can lose key employees to better-paying competitors, compromise product quality or customer service or create other problems 2. **most financial decisions involve balancing potential risks against potential rewards** - **risk/return trade-off** higher the perceived risk, higher potential reward - safest choice isn't always best choice 3. financial choices have tremendous impact on company's flexibility and resilience companies **highly leveraged (carrying a lot of debt)** are forced to devote more of their cash flow to debt service and therefore can't spend that money on advertising, staffing, or product development **heavy debt loads and low cash flow make company esp. vulnerable to economic downturn** **companies w/ lots of cash on hand can weather tough times/make strategic moves their debt-constrained competitors can't make **well-funded companies view recessions as opportunities to take market share from weaker competitors or simply buy them outright** i.e. Intel **Developing a Financial Plan** **successful financial management begins with a financial plan** - a document that outlines the funds a firm will need for a certain period of time, along with the sources and intended uses of those funds. **financial plan takes input from 3 information sources** 1. **strategic plan** establishes the company's overall direction and identifies the need for major investments, expended staffing, and other activities that will require funds 2 **Company's financial statements**, including the income statement of cash flows, which tell the finance manager how much cash the company has now and how much it is likely to generate in the near future 3. **external financial environment** including interest rates and the overall health of the economy By considering information from these 3 sources, managers can identify how much money company will need and how much it will have to rely on external resources to complement its internal resources over span of time covered by financial plan **Monitoring Cash Flow** overall income - identified in income statement important **BUT knowing precisely how much cash is flowing into & out of company & when is **critical**b/c cash is necessary to purchase assets & supplies company needs to operate, meet payroll, pay dividends to shareholders (for those who pay dividends)** Cash flow generally related to net income - companies w/ relative high accounting profits gen. have high cash flow but relationship not precise **liquidity crisis** companies don't keep close eye on cash flow - having insufficient cash to meet short-term needs. - worst case finds itself in credit crisis doesn't have cash needs & can't borrow anymore **recent recession** companies caught w/ no money & no way to borrow had no choice **reduce workforces** - strengthen balance sheets & whatever need to ensure positive cash flow as conditions deteriorate **vital step in maintaining positive cash flow** is monitoring **working capital accounts** **Managing Accounts Receivable and Accounts Payable** **accounts receivable** the money owed to a firm by its customers - one way to **manage cash flow effectively** volume of receivables depends on **financial manager's** decisions : - who qualifies for credit & does not? - how long customers given to pay bills? - how aggressive firm is in collecting its debts financial manager analyzes firm's outstanding receivables identify patterns might indicate problems & establishes procedures for collecting overdue accounts **accounts payable** bills company owes to its suppliers, lenders, other parties - objective postpone paying bills b/c allows firm to hold on to cash long as possible weigh advantages pay promptly if allows cash discounts paying on time essential maintain good credit rating lowers cost of borrowing **Managing Inventory** area fin. man. fine-tune cash flow inventory on shelf represents capital tied up w/o earning interest, expenses storage/handling, insurance, taxes risk inventory obsolete before converted into finished goods & sold **GOAL** maintain enough inventory to fill orders timely, lowest cost fin. man. work w/operations managers & marketing managers to determine **economic order quantity (EOQ)** - quantity of materials, that, when ordered regularly, results in the lowest ordering and storage costs

Financing Alternatives: Long-Term Debt

**long-term loans or term loans** - can have maturities between 1 & 25 yrs depending on lender & purpose of loan **intermediate-term loans** - lender designated loan maturities 1-3 yrs common reasons taking loan - buy real estate, build or expand facilities, acquire other companies, purchase equipment or inventory, refinance existing debt at lower interest rates or provide working capital **mortgages** long-term loans on real estate attractive option for borrowers b/c loans can provide substantial capital w/o need to sell equity in company b/c tie up lender's capital long time & usually involve lg sums of money lending standards tend to be fairly stringent & not all companies qualify **Five C's** considered for applications for loans: **character** - personal & professional character of company owners also experience & qualifications to run the type of business for which they plan to use loan proceeds **capacity** - to judge the company's capacity or ability to repay the loan, lenders scrutinize debt ratios, liquidity ratios, & other measures of financial health. Small businesses owner's personal finance evaluated **capital** - lender want to know how well **capitalized** the company is - whether it has enough capital to succeed - small business loans lenders want to know how much money owners themselves already invested in business **conditions** - lenders look at overall condition of the economy & conditions w/in applicant's specific industry to determine if they are comfortable w/ business's plans & capabilities **collateral** - long-term goals usually secured w/ collateral of some kind - lenders expect to be repaid from borrower's cash flow, in case inadequate - they look for assets could be used to repay loan such as real estate or equipment old joke about applying for **only way to qualify for loan is prove don't need money** **Leases** instead borrow money to purchase asset firm may enter into a **lease** - owner of an asset (**the lessor**) allows another party (**lessee**) to use in exchange for regular payments (similar to renting key difference is leases fix terms of agreement for specific amt of time) commonly used for real estate, major equipment, vehicles sometimes lease arrangement directly between asset owner and lessee other cases - bank or other financial firm provides leasing service to its clients takes care of payments to lessor **good alternative for company has difficulty obtaining loan b/c poor credit rating or is unwillingly or unable use working capital for down payment on loan creditor more willing provide lease than loan b/c if company fails, lessor doesn't have to worry about default just repossess asset it legally owns some firms use leases to finance significant portions of assets like airlines where assets lg expensive equipment more flexibility than loan **Corporate Bonds** when company needs borrow large sum money may not be able get entire amt from one source may try borrow from many individual investors issuing **bonds** - certificates that obligate company repay certain sum, plus interest, to bondholder on specific date (**although bondholders buy bonds, acting as lenders**) Companies issue variety **corporate bonds**: **secured bonds** -like secured loans, backed by company-owned property (airlines or plant equipment) passes to bondholders if issuer doesn't repay amt borrowed. **mortgage bonds** - one type of secured bond backed by real property owned by issuing corporation **Debentures** - unsecured bonds, backed only by **corporation's promise to pay**- b/c riskier than other types bonds companies that issue them must pay higher interest rates to attract buyers **convertible bonds** - can be exchanged at investor's option for a certain number of shares of corporation's common stock - b/c of this feature, convertible bonds generally pay lower interest rates companies that issue bonds must eventually repay borrowed amt to bondholders - normally repayment done when bonds mature - **cost of retiring debt staggering b/c bonds generally issued in quantity - thousands in single issue** - to ease cash flow burden of redeeming bonds all at once company can issue **serial bonds** that mature various times as opposed to **term bonds** which mature SAME TIME - another way relieving financial strain retiring many bonds at once is set up **sinking fund** - when corporation issues bond payable by sinking fund it must set aside certain sum of money each yr to pay the debt - money may be used to retire few bonds e. yr. or set aside to accumulate until issue matures w/ most bond issues corp retains right to pay off bonds before maturity **callable bonds or redeemable bonds** - bonds containing provision to pay off bonds before maturity - if company issues bonds when interest rates are high then rates fall later may want to pay off high-interest bonds & sell new issue at lower rate**carries price tag** investors must be offered higher interest rate to encourage them to buy callable bonds **

**bookkeeping**

- recordkeeping: the clerical aspect of accounting - clerical function of recording the economic activities of a business

**accountants** **Understanding Accounting**

- some perform bookkeeping functions - work generally goes beyond scope of bookkeeping - prepare financial statements, analyze and interpret financial information, prepare financial forecasts and budgets, prepare tax returns some specialize in specialized areas of accounting: **cost accounting** - (computing and analyzing production and operating costs) **financial analysis** (evaluating a company's performance and the financial implications of strategic decisions such as product pricing, employee benefits, and business acquisitions) **forensic accounting** (combining accounting and investigating skills to assist in legal and criminal matters) accountants also help clients improve business processes, plan for future, evaluate product performance, analyze profitability by customer & product groups, and design and install new computer systems, assist companies w/ decision making, provide variety other management consulting services **performing these functions requires a strong business background & a variety of business skills beyond accounting**

**financial accounting**

- the area of accounting concerned with preparing financial information for users outside the organization - concerned with preparing financial statements and other information for outsiders such as stockholders and **creditors** (people or organizations that have lent a company money or have extended its credit)

Decision Point: The Statement of Cash Flows It doesn't surprise you at all that Alex is a bit confused by what these activities mean. You explain the following: Cash flows from operations are cash inflows and outflows caused by the restaurant's main business -- selling food and beverages and catering. Cash flows from investing are payments made to acquire long-term assets or cash received from the sale of long-term assets. Cash flows from financing reflect changes in debt, loans, or dividends. You're still getting a blank look from Alex, so you give him a series of examples to help him understand the different categories. Consider each of the following items and determine whether it affects cash flows from operating, investing, or financing, and whether it is a cash inflow or a cash outflow. Then drag and drop that item into the correct bucket and click Submit. 1. You sell a used 10-burner range and convection oven. 2. You take out a second mortgage on the building. 3. You pay off the note payable that was originally due in November. 4. You pay the supplier for a shipment of beer and wine. 5. You buy a supply of linens to be used in your catering business. 6. A customer pays her lunch bill in cash. 7. You send in the quarterly payment for payroll taxes. 8. You buy a new delivery truck for your growing catering business. 9. A catering customer pays you by check. 10. You incorporate the restaurant and sell shares of stock. 9. A catering customer pays you by check. 4. You pay the supplier for a shipment of beer and wine. 6. A customer pays her lunch bill in cash. 3. You pay off the note payable that was originally due in November. 7. You send in the quarterly payment for payroll taxes. 5. You buy a supply of linens to be used in your catering business. 8. You buy a new delivery truck for your growing catering business. 1. You sell a used 10-burner range and convection oven. 10. You incorporate the restaurant and sell shares of stock. 2. You take out a second mortgage on the building. Submit Cash Inflow from Investing Cash Inflow from Financing Cash Outflow from Operations Cash Outflow from Investing Cash Inflow from Operations Cash Outflow from Financing

Cash Inflow from Operations - 1,6,9 Cash Outflow from Operations - 4,7,5,8 Cash Inflow from Investing - 10 Cash Outflow from Investing Cash Inflow from Financing - 2 Cash Outflow from Financing - 3 You're still getting a blank look from Alex, so you give him a series of examples to help him understand the different categories. Cash Inflow from Operations 1. You sell a used 10-burner range and convection oven. 6. A customer pays her lunch bill in cash. 9. A catering customer pays you by check. Cash Outflow from Operations 4. You pay the supplier for a shipment of beer and wine. 5. You buy a supply of linens to be used in your catering business. 8. You buy a new delivery truck for your growing catering business. 7. You send in the quarterly payment for payroll taxes. Cash Inflow from Investing 10. You incorporate the restaurant and sell shares of stock. Cash Outflow from Investing Cash Inflow from Financing 2. You take out a second mortgage on the building. Cash Outflow from Financing 3. You pay off the note payable that was originally due in November. 3 out of 5 points earned: When asked to categorize items as cash inflows or outflows as a result of operating, investing, or financing activities, you correctly identified most of the items. Good job!. LO 17.5 Explain the purpose of the income statement and the statement of cash flows. pp. 409-411 Cash Inflow from Operations 5. You sell a used walk-in cooler. 6. A company pays for its catering bill by giving you a check. Cash Outflow from Operations 1. The restaurant buys a new 10-burner range and convection oven. 4. You pay the supplier for a shipment of meat. 7. You send in your quarterly estimated income tax payment. Cash Inflow from Investing 9. You incorporate the restaurant and sell shares of stock. Cash Outflow from Investing 8. The restaurant buys a new delivery truck to be used in its growing catering business. 10. You purchase the building next door to the restaurant so you can add more seating area for customers. Cash Inflow from Financing 3. You obtain a short-term loan from the bank. Cash Outflow from Financing 2. You pay off the mortgage on the building.

Decision Point: The Balance Sheet: Assets "Let's start out slowly," you suggest to Alex. "We'll put together a balance sheet first and see where we stand. The first section of the balance sheet lists your assets, so let's start with those. Assets are things that the restaurant owns. Do you have that information?" Alex tells you that he had to prepare a list of equipment for his insurance agent, and he has a pretty good idea of his inventory. "That's a good start," you tell Alex, "but don't forget about the cash you have on hand, how much you have in checking or savings accounts, and any accounts receivable -- money you're owed from customers." Alex turns to his computer and after a few minutes, he hands you a list. "This is exactly what I need," you tell him. "Now we're going to list these assets as current assets or fixed assets, and we'll put the current assets in the order of liquidity -- in other words, how easily they can be converted into cash. Then we'll have the first part of our balance sheet." Accounting Assets AssetsAmountAssetsAmountCash on hand $2000Office equipment $11,400 Checking account balance $13,240 Restaurant furniture/fixtures $37,000 Certificate of deposit at bank $25,000 Kitchen/bar equipment $68,900 Accounts receivable from catering $3,000 Building $300,000 Food/beverage inventory $28,000 Drag each of the assets listed into the correct category in the asset portion of Alex's Ristorante's balance sheet. Remember, the current assets should be listed in order of liquidity, with the most liquid assets at the top. Alex's Ristorante Balance Sheet

Current Assets: Accounts receivable from catering $3000 Cash on Hand $2500 Checking Account Balance $13240 Certificate of deposit at bank $25000 Food/beverage inventory $28000 Total current assets $71740 Fixed Assets: Building $300000 Kitchen/bar equipment $68900 Office equipment $11400 Restaurant furniture/fixtures $37000 Total fixed assets $417300 Total assets: $489040 When asked to list current and fixed assets for Alex's Ristorante, you correctly categorized all items. Great job!

**equity financing**

arranging funding by selling ownership shares in the company, publicly or privately

Learning Objective 3: Compare the advantages and disadvantages of debt and equity financing, and explain the two major considerations in choosing from financing alternatives.

SUMMARY: **Debt financing** offers a variety of funding alternatives and is available to a wider range of companies than **equity financing**. It also doesn't subject management to outside influence the way equity financing does, and debt payments reduce a company's tax obligations. On the downside, **except for trade credit, debt financing always puts a demand on cash flow,** so finance managers need to consider whether a company can handle debt payments. The **major advantages of equity financing** are the fact that the money doesn't have to be paid back and the resulting discretionary drain on cash flow (publicly held companies don't have to pay regular dividends if they choose not to). The **major disadvantages are the dilution of management control and the fact that equity financing—public equity financing in particular—is not available to many firms**. The **two major considerations in choosing financing alternatives are length of term (the duration of the financing) and cost of capital (the average cost to a company of all its debt and equity financing).**

Learning Objective 2: Describe the budgeting process, three major budgeting challenges, and the four major types of budgets.

SUMMARY: A budget is a financial guide for a given time period or project that identifies how much money will be needed and where and when it will be spent. Budgeting often combines top-down mandates, whereby company executives identify how much money each functional area will have to spend, and bottom-up requests, whereby individual division or department managers add up the funding they'll need to meet their respective goals. **Three major budgeting challenges are** (1) reconciling the competing demands on the finite amount of money the company has to spend, (2) trying to predict future costs, (3) and deciding how much to spend in each area of the budget. **Four major types of budgets are** the **start-up budget**, which guides companies during the launch phase of a new company; the operating or master budget, which outlines all spending during a given time period (typically a year) and incorporates various special budgets; the **capital budget**, which plans expenditures on major capital purchases; and the **project budget**, which guides spending on projects such as new product launches.

Learning Objective 18-1: Identify three fundamental concepts that affect financial decisions, and identify the primary responsibilities of a financial manager.

SUMMARY: Decisions regarding company finances must take into account three fundamental concepts. First, every company has to balance short-term and long-term financial demands. Failure to do so can lead to serious cash flow problems and even bankruptcy. Second, most financial decisions involve a risk/return trade-off in which, generally speaking, the higher the perceived risk, the higher the potential reward, and vice versa. Third, financial choices can have a tremendous impact on a company's flexibility and resilience. Overburdening a company with debt limits its strategic options and makes it vulnerable to economic slowdowns. Financial managers are responsible for developing and implementing a firm's financial plan, monitoring cash flow and managing excess funds, and budgeting for expenditures and improvements. In addition, these managers raise capital as needed and oversee the firm's relationships with banks and other financial institutions.

Learning Objective 6: Describe the two options for equity financing, and explain how companies prepare an initial public offering.

SUMMARY: Equity financing can be accomplished through private equity (ownership assets that aren't publicly traded the way shares of company stock are) or the issuance of public stock. Private equity investments such as venture capital are often used at specific points in a company's growth history, such as to get the company off the ground or to perform a leveraged buyout. Preparing for an initial public offering (IPO) involves a number of financial, legal, and promotional activities that fall into three stages: (1) preparing the IPO by assembling a team that includes a public auditor and an underwriter, preparing required financial statements, and making sure the company's financial statements and systems are up to public company standards; (2) registering the IPO with the SEC and responding to any demands for additional information from the SEC; and (3) selling the IPO, primarily through a **road show**, a series of presentations to institutional investors aimed at getting them interested in buying blocks of the soon-to-be-released stock.

Learning Objective 4: Identify the major categories of short-term debt financing.

SUMMARY: The major categories of short-term debt financing are credit cards, trade credit (the option to delay paying for purchases for 30 to 60 days or more), secured loans (loans backed by sellable assets such as land, equipment, or inventory), unsecured loans (loans and lines of credit extended solely on the borrower's creditworthiness), commercial paper (short-term promissory notes issued by major corporations), and factoring (selling a firm's accounts payable to a third-party financer; strictly speaking, not a form of debt financing).

Learning Objective 5: Identify the major categories of long-term debt financing.

SUMMARY: The three major categories of long-term debt financing are long-term loans (substantial amounts of capital for major purchases or other needs, on terms up to 25 years, usually secured by assets), leases (similar to renting, conferring the rights to use an asset in exchange for regular payments), and bonds (certificates that obligate the company to repay a specified sum, plus interest, to the bondholder on a specific date).

Decision Point: The Difference Between an Income Statement and a Balance Sheet You tell Alex that the two of you are off to a great start. The balance sheet is completed, and it's time to start putting together an income statement for the restaurant. Alex doesn't understand why you need to put together both an income statement and a balance sheet. What's the difference between them? What's the best way to respond to him? Select an option from the choices below and click Submit. The statements show two different things. The income statement provides the most detail about how the restaurant generates and uses cash, whereas the balance sheet is like a snapshot of the restaurant's financial condition at a specific point in time. The statements show two different things. The income statement takes all income and expenses into account and shows how the restaurant performs over a period of time, whereas the balance sheet is like a snapshot of the restaurant's financial condition at a specific point in time. The statements show two different things. The balance sheet shows the financial results of the restaurant during a specific period of time, whereas the income statement shows the financial condition of the firm at a specific point in time.

You chose that the income statement shows how the restaurant performs over a period of time, whereas the balance sheet is like a snapshot of the restaurant's financial condition at a specific point in time. That was the best choice. The income statement is sometimes called a profit-and-loss statement because it shows how a business performs over a period of time, taking into account all income and expenses. The income statement reveals whether the business is making a profit. The balance sheet, also known as a statement of financial position, is a snapshot of a business's financial condition at a specific point in time and reveals the business's assets, liabilities, and owners' or shareholders' equity.

Decision Point: The Income Statement You explain the basic format of the income statement to Alex. When he sells a meal or a drink in his restaurant, he receives revenues -- funds that flow into his business from the sale of goods or services. On the income statement, he then needs to subtract the cost of revenues (or cost of goods sold) -- the cost to his restaurant of the food and beverages it sells. When he subtracts the cost of revenues from revenues, the result is his gross profit. He then needs to subtract his operating expenses. These are expenses incurred in running the restaurant, such as utilities, insurance, payroll, cleaning supplies, and the like. Alex also needs to then subtract approximated taxes in order to arrive at his net income. Consider the items shown below and drag them to the appropriate section of the income statement template. Laundry service Purchase of wine Mortgage payment Purchase of eggs, dairy, and cheese Food/beverage sales Purchase of fruit and vegetables Labor Replacement of glassware Business insurance Air conditioning repair Purchase of meat/poultry Monthly utilities Submit Revenues (Gross Sales) Cost of Revenues Operating Expenses

When asked to categorize items as either revenues, cost of revenues, or operating expenses, you correctly identified all 12 items. Great job! Revenues (Gross Sales) Food/beverage sales Cost of Revenues: Purchase of fruit and vegetables Purchase of eggs, dairy, and cheese Purchase of wine Purchase of meat/poultry Operating Expenses Laundry Service Replacement of glassware Monthly utilities Business insurance Labor Air conditioning repair mortgage payment

Decision Point: The Balance Sheet: Liabilities You explain to Alex that the second part of the balance sheet lists his liabilities -- amounts that the restaurant owes to other parties. After some digging, Alex puts together a list of what he owes. Alex's Ristorante Balance Sheet LiabilityAmountAccounts payable$14,344Sales and liquor tax payable$8,200Mortgage on building$55,300Payroll taxes payable$15,600Note payable (due in November)$27,500 You look over the list and tell Alex, "Now we're going to separate these liabilities into two categories -- current liabilities, which need to be paid within a year, and long-term liabilities." Drag each of the liabilities listed into the correct category in the liabilities section of Alex's Ristorante's balance sheet. Alex's Ristorante Balance Sheet

When asked to list current and long-term liabilities for Alex's Ristorante, you correctly categorized all the items. Great job! Alex's Restorante Balance Sheets Current Liabilities Accounts payable $14344 Note payable $27500 Payroll taxes payable $15600 Sales and liquor tax payable $8200 Long-term Liabilities Mortgage on building $255300 Total current liabilities $65644 Total long-term liabilities $255300 Total liabilities $320944

Decision Point: The Balance Sheet: Owners' Equity You tell Alex that you're almost done with the balance sheet. Because his restaurant is a sole proprietorship, there's only one section that still needs to be completed: owners' equity. He asks what that is and how you calculate it. How should you respond to Alex? Select an option from the choices below and click Submit. Owners' equity on the balance sheet is the difference between the assets and liabilities. It's calculated as:Assets = Liabilities + Owners' Equity Owners' equity is the total assets of the restaurant, plus its total liabilities. It's calculated as:Assets + Liabilities = Owners' Equity Owners' equity is the total assets of the restaurant plus paid-in capital (how much Alex put into the restaurant to get it started), less the liabilities. It's calculated as: Assets + Paid-in Capital - Liabilities = Owners' Equity Submit

You chose Assets = Liabilities + Owners' Equity. That was the best choice. The layout of a balance sheet reflects this basic accounting equation. The acronym to remember is: A = L + E

Decision Point: The Parts of the Statement of Cash Flows Alex seems to be catching on faster than you thought he would, so you go on to try to explain the last major financial statement to him -- the statement of cash flows. You tell Alex that the statement of cash flows shows the effect of cash on three aspects of a business. Which three aspects are they? Select an option from the choices below and click Submit. Revenues, expenses, and profit/loss Current, fixed, and intangible operations Operating, investing, and financing

You chose operating, investing, and financing. That was the best choice. The statement of cash flows shows the effects of cash on a business's operating, investing, and financing activities.

Decision Point: How to Show Dividends If Alex's Ristorante were a corporation, and instead of paying out dividends to its shareholders, it kept the profits to be used for future growth, how would this amount be shown on the balance sheet? Select an option from the choices below and click Submit. Paid-in capital Retained earnings Contributed capital

You chose retained earnings. That was the best choice. Retained earnings are net profits kept by a firm rather than paid out as dividend payments to shareholders. They accumulate when profits, which can be distributed to shareholders, are kept instead for the company's use.

**underwriter**

a specialized type of bank that buys the shares from the company preparing an initial public offering and sells them to investors

**debt financing**

arranging funding by borrowing money

Decision Point: The First Meeting At your first meeting with Alex, you ask to see his most recent financial statements so that you can get an overall assessment of the restaurant's financial health. Alex looks at you blankly and says, "I'm a chef, not an accountant, and I don't know what financial statements you're talking about. Can you explain to me?" What should your response be? Select an option from the choices below and click Submit. The financial statements for your restaurant summarize its financial information for a given period of time. The three most important statements are the statement of cash flows, the balance sheet, and the budget. The financial statements for your restaurant summarize its financial information for a given period of time. The three most important statements are the statement of cash flows, the income statement, and the budget. The financial statements for your restaurant summarize its financial information for a given period of time. The three most important statements are the balance sheet, the statement of cash flows, and the income statement.

You chose that the three most important statements are the balance sheet, the statement of cash flows, and the income statement. That was the best choice. The restaurant's financial statements summarize its financial information for a given period of time, and the three most important statements are the balance sheet, the income statement, and the statement of cash flows.

calendar year

a 12-month accounting period that begins on January 1 and ends on December 31

**project budget**

a budget that identifies the costs needed to accomplish a particular project

**start-up budget**

a budget that identifies the money a new company will need to spend to launch operations

**capital budget**

a budget that outlines expenditures for real estate, new facilities, major equipment, and other capital investments

**zero-based budgeting**

a budgeting approach in which each department starts from zero every year and must justify every item in the budget, rather than simply adjusting the previous year's budget amount

**prospectus**

a document required by the Securities and Exchange Commission that discloses required information about the company, its finances, and its plans for using the money it hopes to raise

**financial plan**

a document that outlines the funds needed for a certain period of time, along with the sources and intended uses of those funds

**capital structure**

a firm's mix of debt and equity financing

**debt-to-assets ratio**

a measure of a firm's ability to carry long-term debt, calculated by dividing total liabilities by total assets **Debt-to-assets ratio** (total liabilities divided by total assets) indicates how much company's assets financed by creditors - like debt-to-equity ratio higher ratio riskier company looks to lender investor's point: high level debt relative to assets could indicate company making aggressive moves to grow w/o diluting value of existing shares by offering more shares for sale - having high level debt to assets or being **highly leveraged** puts company at risk - assets may not be able generate enough cash pay back debt or lenders/suppliers might cut off company's credit

**earnings per share**

a measure of a firm's profitability for each share of outstanding stock, calculated by dividing net income after taxes by the average number of shares of common stock outstanding **earnings per share (the profit earned for each share of stock outstanding)**

**current ratio**

a measure of a firm's short-term liquidity, calculated by dividing current assets by current liabilities **current ratio** - current assets divided by current liabilities - figure compares current debt **owed** w/ current assets available to pay that debt

**debt-to-equity ratio**

a measure of the extent to which a business is financed by debt as opposed to invested capital, calculated by dividing the company's total liabilities by owners' equity

**debt-to-equity ratio**

a measure of the extent to which a business is financed by debt as opposed to invested capital, calculated by dividing the company's total liabilities by owners' equity **debt-to-equity ratio** (total liabilities divided by total equity) indicates extent a business financed by debt opposed to invested capital (equity) **lenders standpoint:** - higher ratio riskier the loan b/c company must devote more cash to debt payments **investor's standpoint:** - higher ratio indicates company spending more cash on interest payments than investing in activities that help raise stock price

**accounts receivable turnover ratio**

a measure of the time a company takes to turn its accounts receivable into cash, calculated by dividing sales by the average value of accounts receivable for a period **accounts receivable turnover ratio** - activity ratio measures how well company's credit & collection policies working by indicating how frequently accounts receivable are converted to cash volume of receivables outstanding depends on financial manager's decisions regarding - i.e. who qualifies for credit or not - how long customers given to pay bills - how aggressive firm is in collecting late payments **if ratio going up, need to determine if company doing better job collecting or sales are rising - if ratio going down may be b/c sales decreasing or b/c collection efforts lagging**

**inventory turnover ratio**

a measure of the time a company takes to turn its inventory into sales, calculated by dividing cost of goods sold by the average value of inventory for a period

**bonds**

a method of funding in which the issuer borrows from an investor and provides a written promise to make regular interest payments and repay the borrowed amount in the future

**double-entry bookkeeping**

a method of recording financial transactions that requires a debit entry and credit entry for each transaction to ensure that the accounting equation is always kept in balance most companies use a **double-entry bookkeeping** system to keep accounting equation in balance - system that records every transaction affecting assets, liabilities, or owners' equity each transaction entered twice once as **debit* and once as **credit** must offset each other to keep accounting equation in balance

**budget**

a planning and control tool that reflects expected revenues, operating expenses, and cash receipts and outlays

**balance sheet**

a statement of a firm's financial position on a particular date; also known as a **statement of financial position** also known as the **statement of financial position** is a snapshot of a company's financial position on a particular date - it freezes all business actions & provides a baseline from which a company can measure change from that point forward **called balance sheet b/c includes all elements in the accounting equation & shows the balance between assets on one side of the equation & liabilities & owners' equity on the other side** - every company prepares balance sheet at least once year , most often at end of **Calendar year** covering **Jan. 1 to Dec. 31** many businesses and govt bodies use **fiscal year** may be **any 12 consecutive months** - some companies prepare balance sheet more often than once yr such as end of each month or quarter - every balance sheet dated to show exact date when **financial snapshot was taken** -**reading company's balance sheet should determine** - size of company - major assets owned - any asset changes that occurred in recent periods - how the company's assets are financed - any major changes that have occurred in the company's debt and equity in recent periods

**collateral**

a tangible asset a lender can claim if a borrower defaults on a loan

**fiscal year**

any 12 consecutive months used as an accounting period

**assets**

any things of value owned or leased by a business *assets** valuable items owned or leased by businesses and governments - i.e. equipment, cash, land, buildings, inventory, investments

**operating budget**

also known as the **master budget**, a budget that identifies all sources of revenue and coordinates the spending of those funds throughout the coming year

**accounts payable**

amounts that a firm currently owes to other parties **Accounts payable** include the money the company owes its suppliers as well as money it owes vendors for miscellaneous services (electricity, telephone)

**accounts receivable**

amounts that are currently owed to a firm the money owed to a firm by its customers = is one way to manage cash flow effectively

**accrual basis**

an accounting method in which revenue is recorded when a sale is made and an expense is recorded when it is incurred accountants match revenue to expenses by adopting the **accrual basis** of accounting, states that revenue is recognized when you make a sale or provide a service, not when you get paid - your expenses are recorded when you receive the benefit of a service or when you use an asset to produce revenue - not when you pay for it **accrual accounting focuses on economic substance of an event rather on the movement of cash** it's a way of recognizing that revenue can be earned either before or after cash is received & that expenses can be incurred when a company receives a benefit (shipment of supplies) either before or after the benefit is paid for

**cash basis**

an accounting method in which revenue is recorded when payment is received and an expense is recorded when cash is paid **cash basis** - business using - company **records revenue only when money from sale is actually received** - checking account is simple cash-based accounting system: you record checks, debit card charges, ATM withdrawals at time of purchase & record deposits at time of receipt - **cash-based accounting simple but misleading** - easy to inflate appearance of income i.e. delaying the payment of bills **public companies required to keep their books on accrual basis**

**depreciation**

an accounting procedure for systematically spreading the cost of a tangible asset over its estimated useful life **depreciation** - the allocation of the cost of a tangible long-term asset over a period of time - another way companies match expenses with revenue for intangible assets this allocation over time is known as **amortization** Google buys real estate, instead of deducting entire cost time of purchase, the company **depreciates** it spreads cost over certain number of years specified by tax regulations b/c asset will likely generate income for many years - if company expense long-term assets time of purchase, its apparent financial performance be distorted negatively in year of purchase & positively all future years when assets generate revenue

**lease**

an agreement to use an asset in exchange for regular payment; similar to renting

**line of credit**

an arrangement in which a financial institution makes money available for use at any time after the loan has been approved

**secured bonds**

bonds backed by specific assets that will be given to bondholders if the borrowed amount is not repaid

**current assets**

cash and items that can be turned into cash within one year an assets is something owned by a company with the intent to generate income assets can be **Tangible** or **intangible** **Tangible assets** include land, buildings, equipment **Intangible assets** include intellectual property (patents, business methods), **goodwill** (includes company reputation), brand awareness & recognition, workforce skills, management talent, customer relationships assigning value to intangible assets not easy one of major points of difference between GAAP and IFRS - i.e. Google value is in search engine algorithms, software designs, brand awareness, brainpower of workforce - recent balance sheet listed nearly $20 billion in goodwill & other intangibles asset section of balance sheet divided into **current assets** & **fixed assets** **current assets** include cash, other items will or can become cash w/n following year, i.e. short-term investments - money-market funds and **accounts receivable** (amounts due from customers) **fixed assets** (sometimes referred to as **property, plant, and equipment**) are long-term investments in buildings, equipment, furniture and fixtures, transportation equipment, land, other tangible property used in running the business. **Fixed assets useful life of more than one year** Assets listed in descending order by **liquidity** or ease with which they can be converted into cash **Current assets listed before fixed assets** **balance sheet gives subtotal for each type asset and grand total for all assets**

**debentures**

corporate bonds backed only by the reputation of the issuer

**convertible bonds**

corporate bonds that can be exchanged at the owner's discretion into common stock of the issuing company

**expenses**

costs created in the process of generating revenues

Financing Alternatives: Short-Term Debt

credit cards, trade credit, secured loans, unsecured loans, commercial paper, factoring **Credit Cards** **one of most expensive forms of financing, sometimes only form available esp in early stages company growth used judiciously & short-term viable way to provide financing - can leave entrepreneur buried under expensive debt **Trade Credit or open-account purchasing** - occurs when suppliers provide goods/services to their customers w/o requiring immediate payment -transactions create accounts receivable - buyer: trade credit allows company to get goods & services needs w/o immediately disrupting its cash flow - lower transaction costs for buyers & sellers by consolidating multiple purchases into single payment - sometimes credit extended no interest for short period (30 days) - seller:offering credit terms often competitive necessity & can allow supplier sell more to each customer b/c purchase levels not constrained to buyers' immediate cash balances - costs/risks - allow customers delay payments affects seller's cash flow & exposes it to risk some customer can't pay when bills due -can reduce company's own credit worthiness b/c lenders look how quickly closing accounts receivable - need to check credit worthiness of all buyers - keep credit limits low for new customers until establish reliable payment history - keep close eye on every customer's payment status **Secured Loans** - back by something of value **collateral** that may be seized by lender if borrower fails to repay loan - common types collateral include property, equipment, accounts receivable, inventories, securities **Unsecured Loans** - ones that require no collateral - lender relies on general credit record & earning power of borrower - to increase returns on loans & obtain protection in case of default, most lenders insist borrow maintain some minimum amt money on deposit at bank - **compensating balance** - while loan outstanding - common unsecured loan is **line of credit** - agreed maximum amt money bank willing lend a business- once line credit est. business may obtain unsecured loans any amt up to that limit - **key advantage of line of credit over regular loan is interest (at least full interest) usually not charged on untapped amount** **Commercial Paper** - issued when businesses need a sizable amount of money for short period of time - short **promissory notes** or contractual agreements to repay borrowed amount by specified time w/ a specified interest rate - usually sold only by major corporations w/strong credit ratings in denominations of $100,000 or more w/ maturities of up to **270 days (maximum allowed by Securities and Exchange Commission SEC w/o formal registration process)** - normally issued to secure funds for short-term needs such as supplies & paying rent rather than financing major expansion projects - b/c amounts generally lg notes usually purchased by various investment funds not individual investors **Factoring and Receivables Auctions** businesses w/ slow-paying trade credit customers - have option of selling accounts receivable **factoring** can help companies w/variety cash-flow challenges i.e. big swings seasonal revenue, shortage working capital relative to growth needs, long manufacturing cycles that delay availability of new inventory to sell **alternative to short-term debt financing** **factoring steps** - 1. **factor or factoring agent** purchases a company's receivables, paying company percentage total outstanding amount typically 70-90% 2. factoring agent collects amounts owed, freeing company from task of collection 3. after customer pays the factor, factor makes second payment to company, keeping percentage as fee for services - some factors assume customers never pay and fees higher others don't and company has to refund initial payment it received from factor use of factoring increased recent yrs as banks/lenders reduced level of credit businesses rely on to manage cash flow expensive so best suited for profitable, growing companies w/cash flow needs & lg creditworthy customers (businesses, govt agencies - not consumers) likely to pay bills, just slow **receivables auction**pioneered by Receivables Exchange - using online format like eBay post receivables for investors to bid on - those offer best combo funding amt and fees win business - sellers get money w/in short period time

**trade credit**

credit obtained by a purchaser directly from a supplier

**EBITDA**

earnings before interest, taxes, depreciation, and amoritization alternative & controversial **measure of profitability is earnings before interest, taxes, depreciation, amortization or EBITDA** doesn't include various items such as interest payments on loans or effects of depreciating expensive capital equipment - viewed by some investors as **purer** measure of profitability & easier way to compare financial performance across companies or industries - is non-GAAP indicator & labeled as such, many companies publish EBITDA b/c can suggest greater profitability than standard operating profit number - also criticized b/c doesn't reflect costs every company has - could mask serious financial concerns i.e. Twitter reported EBITDA earnings of $301 million but actually lost $578 million by conventional accounting measures

**short-term financing**

financing used to cover current expenses (generally repaid within a year)

**long-term financing**

financing used to cover long-term expenses such as assets (generally repaid over a period of more than one year)

**audit**

formal evaluation of the fairness and reliability of a client's financial statements a formal evaluation of a company's accounting records and processes to ensure the integrity and reliability of a company's financial statements

The Budgeting Process Budgeting challenges •Every company has a limited amount of money to spend •Revenues and costs are difficult to project •It is not always clear how much should be spent •Zero-based budgeting can help Types of budgets •Startup budget •Operating budget •Capital budget •Project budget • Financing Alternatives: Factors to Consider Debt financing vs. equity financing Length of term Cost of capital Risk Interest rates Opportunity cost

in addition to developing financial plan & monitoring cash flow - fin. man. responsible develop budget **budget** - a financial guide for a given period, usually company's fiscal year, or for the duration of a particular project - identifies where/when money will be spent through yr - particularly in lg. organizations budgeting combo of **top-down-mandate** - top execs specify amt of money each functional area can have based on company's total available budget for yr **bottom-up-requests** - ind. supervisors/managers add up amts. need based on number employees, project expenses, supplies, other costs **finalizing budget negotiation/compromise fin. man. try to reconcile top-down & bottom-down numbers** **financial control** after budget developed, fin. man. compares actual results w/ projections to discover variances & recommends corrective action **Budgeting Challenges** **hedging** - arranging contracts that allow companies buy supplies in the future at designated prices to protect against future price increases **challenge** - 1. company has finite amt money spend yr w/ every group in company wanting share of it 2. managers can't predict w/ accuracy how much revenue come in/how much various items covered by budget will cost in time frame by budget i.e. energy use **hedging** risk - contracts that allow buy supplies in future at designated prices - prices could drop & company end up paying more **Budgeting Challenges** 1. Every company has a limited amount of money to spend 2. Revenues and costs are often difficult to predict **rolling forecasts** company starts yr w/budget based on revenue & cost assumptions made at that point but reviews economic performance every month or every quarter to see whether budget need modified **scenario planning** - managers identify two or more possible ways events could unfold - different scenarios & have budgetary response ready for each one **valuable for long-range planning b/c longer time frame, harder to pin down revenues & costs accuracy** (volatile situation makes conventional forecasting dicey b/c planners can't make solid assumptions about major factors in forecasting models) 3. It's not always clear how much should be spent can't predict revenue or cost can't be sure how much **should** spend on each part of budget **common practice** take amounts spent previous yr & raise/lower by some amount for this yr budget can produce serious flawed numbers ignoring real-world inputs **encourages mentality "use it or lose it" w/ hurriedly spending end of year b/c if don't spend it budget reduced next yr **more responsive approach** is **zero-based budgeting** - each department starts from zero every year and must justify every item in budget approach forces each dept show how money wants to spend will support overall strategic plan **downside** to zero-based budgeting is amount time it takes practical alternative is hybrid approach which zero-basing reserved for areas of budget w/ greatest flexibility i.e. advertising & various developmental projects **Types of Budgets** company can have **up to four types of budgets**depending on nature/age of business: 1st - **start-up budget or launch budget** - before company starts business, entrepreneurial team assembles - identifies all money need to "get off the ground" - **major concern is burn rate** rate company is using funds from initial investors - if too high firm risks running out of money before start generating sustainable sales revenues/become self-funding - difficult b/c no operating history use as baseline - feedback from other entrepreneurs, exp. early-stage investors, advisors such as SCORE execs or business incubators are invaluable next after start-up phase is **operating budget or master budget** - **identifies all sources of revenue & coordinates spend those funds through coming yr** - help fin. man. estimate flow of money into/out **business structuring financial plans w/in framework of estimated revenues, expenses, cash flows - incorporates any special budgets like **capital & project budgets** **capital budget** outlines expenditures for real estate, new facilities, major equipment, and other **capital investments** sm capital purchases company might designate certain % annual op budget for capital items every yr. - significant capital investments might require planning over multiple yrs as company assembles funds/makes payments on purchases while maintaining operating budget **project budget** another special type of budget has to be coordinated w/operating budget - identifies the costs needed to accomplish a particular project, i.e. R & D new product or moving company to new office bldg. Project managers request funds based on estimates of cost to complete project & value to company - make sure project completed on budget

**external auditors**

independent accounting firms that provide auditing services for public companies

**secured loans**

loans backed up with assets that the lender can claim in case of default, such as a piece of property

**unsecured loans**

loans that require a good credit rating but no collateral

**accounting**

measuring, interpreting, and communicating financial information to support internal and external decision making the system a business uses to identify, measure, and communicate financial information to others, inside and outside the organization **to be useful, all accounting information must be accurate, objective, consistent over time, and comparable to information supplied by other companies**

**accounting**

measuring,, interpreting, and communicating financial information to support internal and external decision making

**capital investments**

money paid to acquire something of permanent value in a business

Financing Alternatives: Equity

most far-reaching alternative for securing funds is sell shares of ownership in company even thorough loan application reviews & strict repayment terms can't match degree selling equity changes way company is managed **most extreme** selling equity can lead to founder of company ousted even when owners retain control, equity financing can complicate operations adding layers of public scrutiny & accountability **obtaining equity financing expensive & time-consuming** Why do it? tremendous upside potential for company as a whole & for any individual or organization that owns shares **equity financing has funneled growth of most major corps in world contributed to financial security employees & made some employees millionaires** unlike w/ debt financing selling stock can continue to generate money for yrs if share prices continue to increase **one of most powerful forms of financing** only available to small fraction of companies - directly & indirectly huge role in economy giving individual & institutional investors opportunity increase own capital investing in company shares **Venture Capital and Other Private Equity** venture capitalists (VCs) & angel investors for companies not ready for VC funding are key source of equity financing for certain class start-up companies - VCs invest millions in companies long before firms qualify for other financing represent essential form funding for high-growth ventures - VC provide managerial expertise & industry connections crucial to new companies - VCs one of most specialized lease widely available forms of funding - most firms have no chance getting it - VCs typically look for privately held firms already well-established to use significant amt money & positioned to grow aggressively to give VCs good shot eventually sell interests at acceptable profit - not all VC-backed firms grow enough to pay back investors so to compensate for losses VCs rely on getting high returns from handful of winners - Venture capital specialized form of funding known as **private equity** (ownership assets not publicly traded) & other forms of private equity provide funding for companies beyond start-up stage **Public Stock Offerings** **going public** - offering shares of stock to public through a stock market such as New York Stock Exchange - can generate millions/billions dollars in funding process takes months time/attention cost millions, exposes company to scrutiny no assurance will pay off some offerings fail to sell at hoped-for share price some w/drawn before going public b/c backers don't think market conditions strong enough like economy market for IPOs runs in cycles **timing for IPO one of key factors for success **3 Phases of Going Public** **Preparing the IPO - assembling a team of advisors including legal experts, a public accounting firm serve as auditor, and **underwriter** a specialized type of bank know as **investment bank** buys shares from company & sells to investors (to spread risk, a lead underwriter usually assembles a syndicate of other underwriters) working w/ company management, team prepares required financial statements, organizes board of directors, hires public relations firm begin promoting upcoming offering, and engages in **Due diligence** to make sure company's financial policies & systems meet expectations & legal requirements of public ownership **Registering the IPO** before company can sell shares to public in US, must first register w/ the SEC. Process includes submitting a **prospectus** which discloses required information about company, its finances, its plan for using money it hopes to raise. SEC reviews information & typically requests modifications & additional information to make filing conform with all applicable regulations **Selling the IPO** before stock officially offered for sale, company & its team promote the offering privately to institutional investors through a series of meetings called the **road show**. Although IPO is first "public" offering, shares usually offered only to institutional investors or selected individual investors before the IPO date. **Based on demand they perceive during road show, company & underwriter decide how to price the IPO shares** After SEC approves the registration, stock begins trading on designated stock exchange, and company is now officially **public**

**current liabilities**

obligations that must be met within a year **Current liabilities** include accounts payable, short-term financing, accrued expenses

**factoring**

obtaining funding by selling accounts receivable

**private equity**

ownership assets that aren't publicly traded; includes venture capital

**financial management**

planning for a firm's money needs and managing the allocation and spending of funds

**certified public accountants (CPAs)**

professionally licensed accountants who meet certain requirements for education and experience and who pass a comprehensive examination

**hedging**

protecting against cost increases with contracts that allow a company to buy supplies in the future at designated prices

**economic order quantity (EOQ)**

quantity of materials, that, when ordered regularly, results in the lowest ordering and storage costs

**commercial paper**

short-term **promissory notes,** or contractual agreements, to repay a borrowed amount by a specified time with a specified interest rate

**cost of capital**

the average rate of interest a firm pays on its combination of debt and equity

**risk/return trade-off**

the balance of potential risks against potential rewards

**cost of goods sold**

the cost of producing or acquiring a company's products for sale during a given period include direct costs associated w/ creating or purchasing products for sale & indirect costs associated w/ operating business - if company manufactures or purchases inventory - cost of storing the product for sale (heating warehouse, paying rent, buying insurance on storage facility) is added to difference between cost of beginning inventory & cost of ending inventory to compute expenses actual cost of items sold during period or the **cost of goods sold** - computation: cost of goods sold = beginning inventory + net purchases - ending inventory

**accounting equation**

the equation stating that assets equal liabilities plus owners' equity

**controller**

the highest-ranking accountant in a company, responsible for overseeing all accounting functions

**prime interest rate**

the lowest rate of interest that banks charge for short-term loans to their most creditworthy customers

**compensating balance**

the portion of an unsecured loan that is kept on deposit at a lending institution to protect the lender and increase the lender's return

**financial control**

the process of analyzing and adjusting the basic financial plan to correct for deviations from forecasted events

**leverage**

the technique of increasing the rate of return on an investment by financing it with borrowed funds

**closing the books**

transferring net revenue and expense account balances to retained earnings for the period