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Questions and Answers
What distinguishes a fixed asset from a current asset?
What distinguishes a fixed asset from a current asset?
Which of the following statements about liabilities is accurate?
Which of the following statements about liabilities is accurate?
In the balance sheet, what does equity represent?
In the balance sheet, what does equity represent?
How is market value of a firm generally evaluated?
How is market value of a firm generally evaluated?
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What do accounting income and cash flow primarily measure?
What do accounting income and cash flow primarily measure?
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What does shareholders' equity represent in a balance sheet?
What does shareholders' equity represent in a balance sheet?
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What is net working capital primarily used to assess?
What is net working capital primarily used to assess?
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Which statement about the balance sheet identity is true?
Which statement about the balance sheet identity is true?
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Which of the following factors is NOT typically considered when analyzing a balance sheet?
Which of the following factors is NOT typically considered when analyzing a balance sheet?
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What indicates a healthy firm in terms of net working capital?
What indicates a healthy firm in terms of net working capital?
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Study Notes
Chapter 2: Financial Statements, Taxes, and Cash Flow
- This chapter covers financial statements, taxes, and cash flow for a firm
- Learning objectives include describing the difference between accounting value and market value, accounting income and cash flow, average and marginal tax rates, and determining a firm's cash flow from its financial statements
- The chapter outline includes the balance sheet, income statement, taxes, and cash flow
The Balance Sheet
- A financial statement showing a firm's accounting value on a particular date
- Organizes and summarizes a firm's assets what it owns, liabilities, what it owes, and equity
- Assets are classified as current or fixed
- Fixed assets have a longer life (e.g., truck, computer or patent)
- Current assets have a life of less than one year (e.g., inventory, cash, accounts receivable)
- Liabilities are classified as current or long-term
- Current liabilities have a life of less than one year (e.g., accounts payable)
- Long-term liabilities are debts not due in the coming year (e.g., a loan)
- Shareholders' equity is the difference between the total value of assets and the total value of liabilities
- Assets = Liabilities + Shareholders' equity
- Net working capital = Current assets - Current liabilities
The Income Statement
- A financial statement summarizing a firm's performance over a period of time (usually quarterly or annually)
- Income statement equation: Revenues - Expenses = Income
- Begins with revenues from principal operations
- Then lists expenses (including financing like interest payments)
- Reports taxes separately
- Last item is net income, often called the "bottom line"
- Presented on a per-share basis (earnings per share (EPS))
Taxes
- Can be a significant cash outflow for firms
- Federal corporate tax rates are currently flat at 21% (established by the Tax Cuts and Jobs Act of 2017)
- Average tax rate = Total taxes paid / Total taxable income
- Marginal tax rate = The tax payable on the next dollar earned
- Marginal tax rates are important for financial decision making as new cash flows are taxed at this rate
Cash Flow
- The difference between cash inflows and outflows
- No single financial statement directly shows cash flow
- Cash flow from assets = Cash flow to creditors + Cash flow to stockholders
- Cash flows from various activities (operating, capital spending, change in NWC) contribute to the firm's overall cash flow
- Operating cash flow = Revenue - Expenses (excluding depreciation & interest) + Depreciation
- Net capital spending = Ending net fixed assets - Beginning net fixed assets + Depreciation
- Change in net working capital = Ending NWC - Beginning NWC
- Cash flow to creditors = Interest paid - Net new borrowing
- Cash flow to stockholders = Dividends paid - Net new equity raised
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Description
This quiz focuses on Chapter 2, exploring financial statements, taxes, and cash flow aspects of a firm. It delves into key concepts such as accounting vs. market value, accounting income, and the structure of balance sheets. Test your understanding of these critical financial principles.
