chapter 2

what does shareholders equity represent?

a residual claim against the firms total assets

Non cash items do not affect

cash flow

liabilities

on the right-hand side of the balance sheet. current or long term.

Liquidity

speed and ease with which an asset can be converted to cash. gold very liquid

net working capital

the difference between a firm's current assets and its current liabilities

under gaap assets are generally carried on a firms balance sheet at

historical cost book value

net working capital will be negative when current assets are

less than current liabilities

long-term liability

A debt that is not due in the coming year. A loan that the firm will pay off in five years is one such long-term debt. bonds/bondholders refer to long-term debt and long-term creditors

Generally Accepted Accounting Principles (GAAP) audited financial statements in the USA generally show assets at

historical cost. In other words, assets are "carried on the books" at what the firm paid for them (minus accumulated depreciation), no matter how long ago they were purchased or how much they are worth today.

if dividends are $100, stock sold is $10, and stock repurchased is $25, what is the cash flow to stockholders?

$115

If ending net fixed assets are $100, beginning net fixed assets are $60, and depreciation is $10, then the capital spending on fixed assets during the period is

$50

According to the originators of the current U.S. corporate tax code, the tax rates in effect for 2015 are

15 25 34 35

what is reported on an income statement?

1st: revenue and expenses from the firm's principal operations. financing expenses such as interest paid. Taxes paid are reported separately The last item is net income

What is depreciation?

A systematic expensing of an asset based on the assets estimated life

For financial decision-making purposes, the most important tax rate is

marginal tax rate

what is the purpose of the income statement?

to measure performance over a set period of time

free cash flow is better described as

total distributable cash flow

Which is an example of a non-cash item on an income statement?

Depreciation

with the income statement, the financial manager needs to keep three things in mind:

GAAP, cash versus noncash items, and time and costs.

GAAP

Generally Accepted Accounting Principles

market value

The true value of any asset, the amount of cash we would get if we actually sold it.

Assets

classified as either current or fixed.

product costs are usually shown on the income statement under the heading of

cost of goods sold

What are components of cash flow from assets?

Capital spending change in net working capital operating cash flow

For financial analysis, financial statements and accounting numbers are more important than cash flows

False

income statement equation

Revenues − Expenses = Income

Assets = Liabilities + Shareholders' equity

So, the balance sheet "balances" because the value of the left-hand side always equals the value of the right-hand side.

Which of these questions can be answered by reviewing a firm's balance sheet?

What is the total amount of assets the firm owes? How much debt is used to finance the firm? nothing about net income

According to GAAP, when is income reported?

When it is earned or accrued

if interest paid is $100 and net borrowing is $150, then cash flow to creditors equals:

-$50

The companies in biotechnology industry pay tax at what tax rate?

The lowest average

financial leverage

The use of debt in a firm's capital structure. The more debt a firm has (as a percentage of assets), the greater is its degree of financial leverage.

matching principle

determine revenues as described earlier and then match those revenues with the costs associated with producing them. So, if we manufacture a product and then sell it on credit, the revenue is recognized at the time of sale. The production and other costs associated with the sale of that product would likewise be recognized at that time. doesnt represent actual cash in and outflows

When a firm smooths earnings to please investors, it is called

earnings management

Depreciation is the accountants estimate of the cost of ________________ used in the production process matched with the benefits produced from owning it

equipment and fixed assets

Marginal tax rates are the most important tax rates because

financial decisions are usually based on new cash flows incremental cash flows are taxed at marginal tax rates

Which is not a component of cash flow from assets?

financing expenses

Costs that do not change in the short run arise because of

fixed commitments

fixed asset

has a relatively long life. Fixed assets can either be tangible, such as a truck or a computer, or intangible, such as a trademark or patent.

cash flow to creditors =

interest paid - net new borrowing

The general rule (the recognition principle)

is to recognize revenue when the earnings process is virtually complete and the value of an exchange of goods or services is known or can be reliably determined. In practice, this principle usually means that revenue is recognized at the time of sale, which need not be the same as the time of collection.

For a mature firm, operating cash flow:

is usually positive is a sign of trouble if negative over a long period of time

An income statement prepared using GAAP will show revenue when

it accrues, not necessarily when the cash comes in

The ____________ principle of GAAP states that costs associated with a good or service should be recorded at the same time as the revenue from selling that good or service

matching

income statement

measures performance over some period of time, usually a quarter or a year

Non-cash items are expenses that directly affect

net income

A primary reason that accounting income differs from cash flow is that an income statement contains

noncash items

Net income

often expressed on a per-share basis and called earnings per share (EPS)

balance sheet

snapshot of the firm. It is a convenient means of organizing and summarizing what a firm owns (its assets), what a firm owes (its liabilities), and the difference between the two (the firm's equity) at a given point in time.

Change in capital spending can be negative if

the firm sold more fixed assets than it purchased

book values

the values shown on the balance sheet for the firm's assets are generally are not what the assets are actually worth.

Cash flows can be derived from financial statements

true

Operating cash outflow does not include depreciation or interest

true

net working capital is usually positive in a healthy firm bc

Net working capital is positive when current assets exceed current liabilities. cash that will become available over the next 12 months exceeds the cash that must be paid over that same period.

A balance sheet reflects a firms

accounting value on a specific date

a customer has yet to pay the bill for products purchased from Firm A on credit. This customer's trade credit is recorded un which of Firm A's balance sheet accounts?

accounts receivable

net earnings refers to income earned

after interest and taxes

In the long-run, costs may be considered as

all variable

The cash flow identity states that cash flows rom ________ should equal cash flows to creditors and equity investors

assets

Net capital spending is equal to the change in net fixed assets plus:

depreciation

In finance, the value of a firm depends on its ability to generate

cash flows

what should you keep in mind when examining an income statement

cash versus non-cash items time and costs GAAP

The cash flow identity from assets equals cash flows to

creditors and stockholders

if net fixed assets are $100, beginning net fixed assets are $60, and depreciation is $10, then the capital spending on fixed assets during the period is

$50

Non-cash items are _____________, that _____________ cash flows

expenses; do not directly affect

current asset

has a life of less than one year. This means that the asset will normally convert to cash within 12 months. For example, inventory would normally be purchased and sold within a year and is thus classified as a current asset. Obviously, cash itself is a current asset. Accounts receivable (money owed to the firm by its customers) is also a current asset.

Current liabilities

have a life of less than one year (meaning they must be paid within the year), and they are listed before long-term liabilities. Accounts payable (money the firm owes to its suppliers) is one example of a current liability.

The marginal tax rate

tax rate paid on the next dollar of income

equation

the difference between the total value of the assets (current and fixed) and the total value of the liabilities (current and long-term) is the shareholders' equity, also called common equity or owners' equity.