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Understanding financial statement The basic financial statements Financial statements and they're gone funny being a wealth of useful information regarding the financial position of a company, the success of its operations, the policies and strategies of management, and insight into its future performance. A Financial statements user can find answers to the following sample questions through analysis of the data presented therein together with other data generated by corporate financial reporting: - how well does the company compete in its operating environment? - Would an investment generate attractive returns? - Should existing investment holdings be continued are liquidated? - Will cash flows be sufficient to meet interest and principal payments? The four basic financial statements are 1. The balance sheet which shows the financial position – assets,, liabilities and owners equity of the firm on a particular date such at the end of a quarter or a year. 2. The income or Ernie statement with the presents the results of operations revenues, expenses, Net profit or loss, for the accounting period. 3. The statement of changes in equity which summarizes the changes in a companies equity for a period of time generally one year. 4. The cash flow statement which provides information about the cash inflows and outflows from operating, financing and investing activities during an accounting period. Conceptual Framework for the Preparation and Presentation of Financial Statements Accountants prepare financial statements by applying a set of standards or rules referred to as generally accepted accounting principles. Consistent application of standards permits comparisons between companies and between years Of a single company. Generally accepted accounting principles allow for significant latitude in how certain transactions should be accounted for, meaning that professional judgment is particularly important. Qualitative Characteristics of Accounting Information In order to justify providing accounting information , the benefits which may be derived from the use of this information must exceed costs Of providing the data. There are several costs of providing information, including: (l) costs of collecting, processing, and disseminating; (2) costs of auditing; (3) costs associated with dangers of litigation and loss of competitive advantage; (4) costs to the user for analysis and Also, there are benefits to preparers of the information as to the users. These benefits include improved access to capital markets and favourable impact on public relations. THE BALANCE SHEET STATEMENT The balance sheet shows the financial condition or position of a company a particular date. The statement is a summary of what firm owns (assets) and what the firm owes to outsiders and to internal miners (stockholders' equity). While the accounts on a balance sheet vary somewhat by firm or by those described here are common to most companies.

Current Assets Current assets include or those expected to be converted into cash, used or consumed Within one year or one operating cycle whichever is longer. The operating cycle is the time required to purchase or rnanufacture Inventory, sell die and collect the cash. The designation "current" refers essentially to those assets that are continually used up and replenished in ongoing operations Of the business. term working capital or net working capital is used to designate the amount by which current assets exceed current liabilities (current assets less current liabilities). Cash and Cash Equivalents The cash account is exactly that, cash in any form - cash awaiting deposit or in a bank account. Cash equivalents are short-term and highly liquid that are readily convertible to cash and so near their maturity that they present insignificant risk of changes in because of change in interest rates. Only highly liquid investments that are acquired three months before maturity can qualify as cash equivalents Marketable Securities Marketable securities are cash substitutes, cash that is not needed immediately in the business and is temporarily invested to a return. These investments are in instruments with short-term maturities (less than one year) to minimize risk of interest rate fluctuations. They must be relatively risk-less securities highly liquid so that withdrawn as needed. They may also be presented as Investment in Trading Securities or Investment in Securities Available for Sale. Accounts Receivable Accounts receivable are customer outstanding on credit sales and are reported on the balance sheet at net realizable value, that is the actual amount of the account less an such allowance for doubtful accounts. Management must estimate - based on such factors as past experience , knowledge of customer quality, the state of the economy, the firm's collection policies - the peso amount of accounts they expect will be uncollectible during the off accounting period. Actual losses are written off against the allowance account, Which is adjusted at the end of each accounting period. The allowance for doubtful accounts can be important in assessing earnings quality. The analyst should be alert to changes in the allowance account both relative to the level of sales and to the amount of accounts receivable outstanding - and to the justification for any variations from past practices. Inventories Inventories are items held for sale or used in the manufacture of products that will be sold. A retail company. lists only one type of inventory on the balance sheet merchandise inventories purchased for resale to the public. A manufacturing firm. in contrast, would carry three different types of Inventories: raw materials or supplies. work-in process, and finished goods Given the relative magnitude of inventory, the accounting method chosen to value inventory and the measurement of cost of goods sold have a considerable impact on a company-s financial position and operating results. Understanding the fundamentals of inventory accounting and the effect various

methods have on a company's financial statements are essential to the user of financial statement information.. Inventory Accounting Methods Because the inventory cost-flow assumption has a significant impact on financial statements - the amount of inventory reported on the balance sheet and the cost of goods sold expense in the income statement it is important to know where to find its disclosure. The method used to value inventory will be shown either on the face Of the balance sheet with the Inventory account or, more commonly. in the note to the financial statements relating to inventory.

Prepaid Expenses Certain expenses, such as insurance, rent. property taxes, and utilities are sometimes paid in advance. They are included in current assets if they will expire within one year or one operating cycle, whichever is longer. Generally, prepayments are not material to the balance sheet as a whole. PROPERTY, PLANT AND EQUIPMENT This category encompasses a company's fixed assets (also called tangible, long-lived, and capital assets) those assets not consumed in annual business operations. These assets produce economic benefits for more than one year, and they are considered "tangible" because they have a substance. Fixed assets than land (which theoretically has an unlimited life span) are depreciated over the period of time they benefit the firm. Depreciation is the method of allocating the cost of long-lived assets. The original cost less any estimated residual value at the end of the asset's life, is spread over expected life of the asset. Cost is also to encompass expenditures made to ready the asset for operating use. On any balance sheet date property, plant and are shown at book value, which is between original cost any accumulated depreciation and any accumulated impairment losses to date. They may also be carried at a revalued amount being its value at the date of revaluation less any subsequent accumulated impairment losses. OTHER NON-CURRENT ASSETS Other assets on a firm's balance sheet can include a multitude of other non-current items such as property held for sale, the cash surrender value of life insurance policies, and long-term advance payments. Additional categories of non-current assets frequently encountered are longterm investments and intangible assets such as goodwill recognised in business combination, patents, trademarks, copyrights, brand names, and franchises. Of the intangible assets, goodwill is the most important for analytical purposes of its potential materiality the balance sheet of firms involved in acquisitions activity. Goodwill arises when one company acquires another company (in a business combination accounted for as a purchase) a price in excess of the fair market value of the net identifiable assets (identifiable assets less liabilities assumed) acquired. This excess price is books of the acquiring company as goodwill. The cost of goodwill is not amortized but entities are required to assess it annually for possible impairment.

Current Liabilities Liabilities represent claims against assets. and current liabilities are those that must be satisfied in one year or one operating cycle. whichever is longer. Current liabilities include accounts and notes payable, the current portion of long-term debt, accrued liabilities, and deferred taxes. Accounts Payable Accounts payable are short term obligations that arise from credit extended by suppliers for the purchase of goods and services. Notes Payable Notes payable are short-term obligations in the form of promissory notes to suppliers or financial institution’s. Current Maturities Of Long-term Debt When a firm has bonds, or other forms of long-term debt outstanding, the portion of the principal that will be repaid during the upcoming year is classified as a current liability. The note lists the amount of long-term debt outstanding less the portion due currently. Accrued Liabilities Accrued liabilities result from the recognition of an expense in the accounting records prior to actual payment of cash. Thus, they are liabilities because there will be an eventual cash outflow to satisfy the obligations.

Non-current Liabilities Obligations with maturities beyond one year are designated on the balance sheet as non-current liabilities. This category include bonded indebtedness, mortgages, obligation under leases, pension liabilities, long-warranties, and deferred income taxes. Deferred tax liabilities are the amounts of income taxes payable in future periods in respect of taxable temporary differences. Other liability accounts such as pension and lease obligation, can appear under the non-current liabilities section of the balance sheet. Equity The ownership interests in company organized as a corporation are represented in the final section of the balance sheet,, stockholders' equity or shareholders' equity Ownership equity is the residual interest in assets that after deducting liabilities. The owners bear greatest risk because their claims are subordinate to creditors in the event of liquidation; but owners also benefit from the rewards of a successful enterprise. The Relationship between the amount of debt and equity in a firm's capital structure and the Concept of financial leverage by which shareholder returns are magnified, will be explored in Chapter 4. Share Capital Ordinary shareholders do not ordinarily receive a fixed return but do have voting privileges in proportion to ownership interest. Dividends on ordinary shares are declared at the discretion of a company's board

of directors. Further, ordinary shareholders can benefit from the stock ownership through potential price appreciation (or the reverse can occur if the share price declines). The amount listed under the share capital account is based on the par or stated value of the shares issued. The par or stated value usually bears no relationship to actual market price but rather is a floor price below which the stock cannot be sold initially Additional Paid-In Capital This account reflects the amount by which the original sales price of the stock shares exceeded par value as well as from other sources such as donated capital, treasury stock transactions, etc. Retained Earnings The earnings account is the sum of every peso a company has earned its inception, less any payments made to shareholders in the form of or stock dividends. Retained earnings do not represent a pile of unused cash stashed away in corporate vaults; retained earnings are funds of a company elected to reinvest in the operations Of the business rather than pay out to stockholders in dividends. Retained earnings should not be confused with cash or other financial resources currently or prospectively available to satisfy financial obligations. Rather, the retained earnings account is the measurement of all undistributed earnings. Other Equity Accounts These include preferred stock, foreign currency translation effects, treasury stock, and the accumulation of unrealized gains or losses investments in debt and equity securities that are classified as "non-current investments." THE INCOME STATEMENT Regardless of the perspective of the financial statement user - investor, creditor, competitor, Supplier, regulator - it is essential to understand and analyze the earnings statement. But it is also important that analyst that an analyst realizes that a company's report and other information presented on the income statement are not complete nor exact barometers of financial performance. The income statement is one of many of a financial statement package. Earnings are measured on an accrual rather than a cash basis, which that income on the income statement is not the same as cash generated during the accounting period. The income statement comes in two basic formats and with considerable variation in detail presented. The earnings statement in a multiple-step format, provides several intermediate profit measures - gross profit, operating profit, and earning before income tax - prior to amount of net earnings for the period. step version of the income statement groups all items of revenue, then deducts all categories of expense to arrive at a figure for net income. Certain special items , if they occur during an accounting period, must be disclosed separately on an income statement, regardless of format. This includes discontinuing operations. Discontinuing operations occur when a firm sells a major portion of its business. results Of continuing operations are shown Separately from the operating results of the discontinued portion Of the business. Any gain or loss on the disposal is also disclosed separately.

NET SALES Total sales revenue for each year is shown net of returns and allowances. A sales return is a cancellation of a sale, and a sales allowance is a deduction from the original sales invoice price. Since sales are the major revenue source for most companies, the trend of this figure is a key element in performance measurement remainder of the income statement reveals management's ability to translate sales peso into profits. COST OF GOODS SOLD The first expense deduction from sales is the cost to the seller of products sold to costumers. This expense is called cost of goods sold or cost of sales. Venetian Inc. uses the LIFO method, which that last purchases during the year have been charged to expense. The relationship between cost of goods sold sales - called the cost of goods sold percentage - is an important one for profit determination because cost of goods sold is the largest expense item for many firms. Gross Profit The difference between net sales and cost of goods sold is called gross profit or gross margin. Gross profit is first step of profit measurement on the multiple-step income statement and is a key analytical tool in assessing a firm's operating performance. The gross profit figures how much profit the firm is generating after deducting the cost of goods sold. Operating Expenses Operating expenses include selling and administrative, advertising, lease payments, depreciation and repairs and maintenance among others. These are all areas over which management exercises discretion and which have considerable impact on firm's current and future profitability. Thus, it is important to track these accounts carefully in terms of absolute mounts, relationship to sales, and relationship to industry Selling and administrative expenses are expenses that relate to the sale Of products or services and to the management of the business. They include salaries, rent, insurance, utilities, supplies, advertising Advertising costs are (or should be) a major for expense in the budgets of companies for which marketing is an important element of success. Lease payments include the costs of rentals of leased facilities for retail outlets. Depreciation and Amortization - The cost of assets other than land that will benefit a business enterprise for more than a year is allocated over the assets service life rather than expensed in the year of purchase. Land is an exception to the rule because land is considered to an unlimited useful life. The cost allocation procedure is determined by the nature of the long lived-assets. Depreciation is used to allocate the cost of tangible fixed asses such as buildings, machinery, equipment, furniture and fixture, and motor vehicles. Amortization is the term applied to the cost expiration of Intangible assets such as patents, copyrights, trademarks, licenses, franchises, the cost of acquiring and developing natural resources oil and gas, other minerals, and standing timber - is allocated through depletion. Depreciation expense is calculated principally by ust straight line method based upon estimated useful lives for buildings.

Repairs and Maintenance are the annual cost of repairing and maintaining the property, plant and equipment. Expenditures in this area should correspond to the level of investment in capital equipment and to the age and condition of the company’s fixed assets. Operating Profit (also call EBIT or earnings before interest and taxes) is the second profit determination and measures the overall performance of the company’s operations: sales revenue less the expenses associated with generating sales. The figure for operating profit provides a basis for assessing the success of a company apart from its financing and investing activities and separate from tax considerations. Other Income (Expense) This category includes revenues and costs other than from operations, such as dividend and interest income, interest expense, gains (losses) from investments and gains (losses) from the sale of fixed assets. Earnings before Income Taxes is the profit recognized before the deduction of income tax expense. Net Earnings or “the bottom line” represents the firm’s profit after consideration of all revenue and expense reported during the accounting period. Earnings per ordinary share is the net earnings for the period divided by the average number of ordinary shares outstanding. The Statement of changes in equity As prescribed in PAS 1, an enterprise should present as a separate component of financial statements, along with the traditional financial statement. The Cash Flow Statement, required y the PAS 7, provides information about cash inflows and outflows during an accounting period segregated according to operating activities, investing activities, and financing activities. An enterprise should report cash flows from operating activities using either: 1) The direct method, whereby major classes of gross cash receipts and gross cash payments are disclosed; or 2) The indirect method, whereby net income or loss is adjusted for the effects of transactions of a non-cash nature, any deferrals or accruals of past or future operating cash receipts or payments, and items of income or expense associated with investing or financing cash flows. Cash Flows from Operating Activities These include cash effects of transactions and other events that enter into the determination of income such as delivery or production of goods for sale, providing services, operating expense and other income and expenses. Operating Activities are principal revenue—producing activities of an enterprise and include delivering...