Analysis of financial Information
One important step in understanding Business Finance is the analysis of financial information. The prerequisite to this analysis is knowing and understanding available information and drawing logical conclusions. There are steps to consider, interpreting and analyzing financial information.
The steps are:
1. The information must be understood by the user
2. The information must be organized using some financial data and statements
3. The information must be measured
4. And finally the data can then be interpreted
Managerial and Financial Accounting
Accounting is the process of collecting, reporting, and analyzing the costs associated with operating a business.
Users of accounting information:
External users –
Bureau of Internal Revenue – for tax liabilities purposes
Securities and Exchange Commission – for annual reporting for shareholders record
Private Financial Institution –Banks, Lender, Investors
Internal user- may require a different type of data and reports generated by the accounting staff or the firm’s accountant. These data my guides the organization to decide on some project to undertake, financial planning and funding, as well as expenditures.
The Basic Financial Statement
Balance Sheet is a financial statement that presents all the assets of, and claims against, or the liabilities and equity, of the firms at a particular period.
Basic Balance Sheet formula:
ASSET = LIABILITIES + OWNER’S EQUITY
The balance sheet as summary of all the amounts and kinds of assets that the firm’s possesses, as well as the claims made against those assets by investors and creditors, include the following accounts concepts.
1. The total of the firm’s assets must equal the total value of claims against the firm.
2. Current Assets are assets that can be convertible to cash in the normal operation of the firm within one year.
3. Fixed Assets are permanent assets that will not normally be converted to cash. The fixed assets are shown at historical cost, which is the amount actually paid
4. Market value of the asset is the price the asset could command in the market, and the replacement cost is the price that would be required to replace the asset if it had to be acquired today.
5. The value of the assets shown on the financial reports and the books of the company, the book value of the assets. Assets that have been obsolete typically have market values below the book values, while the opposite condition holds for assets, such as land, that have appreciating value.
6. Current Liabilities are those that the firm reasonably expects to pay within the next year off within the year.
7. Accounts Payable are obligations that the firm has goods it has received from others.
8. Notes Payable are short-term debt that the firm must pay.
9. Accruals are debts the firm owes because payment has not yet been made, such as salaries owed to employees.
10. Taxes Payable are taxes owned, but that have not yet been paid.
11. Long term liabilities are continuing obligations that will not be completely repaid during the next year, such as long term debt and long term leases.
12. Common Stock accounts reflect capital that were been contributed by the equity holders of the firm.
13. Retained Earnings account shows the amount of earning the firm has accumulated since its inception. Retained earnings are net income that the firm has not paid out in dividends to its shareholders.
Income Statement measures the profit or loss that an organization has made over a period of time, quarterly or a year.
Basic Income Statement formula:
INCOME = REVENUE – EXPENSES
Cash flow Statement is the overview of the company’s Financial Health, this gives data on the cash provided or used in operating activities. It starts with a figure from net income, taken from the income statement. It describes the sources and uses of cash which can be very revealing data for the firm’s wise financial management.
Statement of changes in financial condition is also known as the statement of owner’s equity or statement of stockholders’ equity. This describes the effect of operations on the cash portion of the company, the effect of the operations and financing decision to change in owners’ equity. This acts as link between the income statement and the equity portion of the balance sheet, where the net income for the period is either added or subtracted if dividends are paid or equity withdrawn by stockholders, leaving and ending equity balance.
Commonly Calculated Ratios
Liquidity Ratios
Liquidity is the ability of assets to be converted quickly into cash. Ideally, a company wants to be liquid to meet current debts. It is assumed that the firm’s inventory will be converted into cash during the course the a year so that the receipts from the inventory can be used to service the current debt.
Current ratio is the ratio of the current assets to current liabilities.
Current ratio = Current assets/Current Liabilities
Quick Ratio is the ratio of current assets, excluding inventories, divided by current liabilities.
Quick Ratio = Current Asset – Inventories/Current Liabilities
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