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1、School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 1Financial Valuation and StrategyFinancial Reporting and AnalysisLecture 3School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 2Homework days in .Days in I

2、nventory365 * (26,180,629+29,521,680)/2) / 150,627,898=67.5 daysDays in A/R365 * (17,030,857+27,708,460)/2) / 287,585,620=28.4 daysDays in A/P365 * (15,528,580+20,734,493)/2) / 150,627,898=43.9 daysSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 3As

3、sess the Quality of the Financial StatementsAre the statements in accordance with GAAP?Trend toward harmonisation with International Accounting Standards (IAS)Audit opinion?What are assets? future benefit but quantifiableBrand names/intangibles are a problem areaDifferent accounting treatments say f

4、or partial ownership of assetsAny hidden liabilities? Problem area is commitments to pay that correspond with future e liability not recognised now.Also: some companies take liabilities off books (Enron)What has Acorn provided that addresses Accounting Quality?They have complied with US GAAP!In the

5、past, (2008) share-based compensation AND goodwill impairment were not GAAP compliant, but now they provide all financial statements with US GAAPPRC GAAP requires 10% statutory surplus reserve (disclosed).School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Sl

6、ide 4School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 5Assess the Quality of the Financial StatementsBalance SheetSome assets will NOT appear on financial statements unless acquired from another firmIE patents, brand namesAssets acquired at historica

7、l cost but may have much higher market value todayIE real estate bought many years agoSome commitments to pay will not appearIE airline lease payments off the booksNoncurrent liabilities use historical discount %Example QuestionsA fast food (Hamburger Co) company lodged a hostile takover of another

8、fast food (donuts) when they were entering the Canadian market.Hamburger Co offered a 350% premium to the book value of the donut company. This was about 20% higher than the market value of the shares.Was Hamburger Co trying to expand their market into donuts?School of Finance and Economics SILC Pro

9、gram Financial Valuation and Strategy 20500 Lecture 3Slide 6Example AnswerIt is possible that Hamburger Co wanted to also own donuts BUT it is more likely that Hamburger Co wanted the REAL ESTATE of the donut company.In fact, the most valuable asset for many fast food chains is the real estate! And

10、it is not valued at fair market value on the financial statements!School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 7School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 8Assess the Quality of the Financia

11、l Statements e StatementHow do you find out the core operations and profitability?Unusual items that are not part of operations are separateAccrual basis of accounting used in order to match costs with revenuesReported e may not recur and portion that wont recur should not be used in forecastingEarn

12、ings may be managedCash may be a better measure than earnings!Acorn finl stmt qualityWhich balance sheet and e statement accounts would you like more information about?Which accounts have changed?If the asset has increased is it properly valued?InventoryOther prepaidAcquired intangible asset!School

13、of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 9School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 10Desirable Qualities of Accounting InformationRelevance - the capacity of information to affect a decisionR

14、eliability - For information to be reliable it must be verifiable, representationally faithful, and neutral. Verifiability means the information is confirmable. Representational faithfulness means the information reflects reality and Neutrality means it is truthful and unbiased.School of Finance and

15、 Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 11Financial AccountingHistorical Cost - fair & objective values from arms-length transactionsAccrual Accounting - recognize revenues when earned, expenses when incurredMateriality - threshold when information impacts decis

16、ion makingConservatism - reporting or disclosing the least optimistic information about uncertain events and transactionsImportant Accounting PrinciplesSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 12Financial AccountingRelevance of Accounting Num

17、bersRelation between Accounting Numbers and Stock Prices School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 13Financial AccountingTimeliness - periodic disclosure, not real-time basisFrequency - quarterly and annuallyForward Looking - limited prospecti

18、ve informationLimitations of Accounting NumbersSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 14Accruals-The CornerstoneEstablish company and invest $700 equityPurchase plain T-shirts for $5 eachFixed screen cost of $100Variable print cost of $0.75

19、 per T-shirtSold 25 T-shirts at $10 each for cashSold 25 T-shirts at $10 each on creditCase Illustration - FactsSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 15 ReceiptsAssetsT-Shirt sales $250Cash$275PaymentsT-Shirt purchases $500EquityScreen pur

20、chase 100Beginning Equity$700Printing charges 75Less net cash outflow (425)Total payments $(675)Total equity$275Net cash outflow $(425)Accruals-The CornerstoneCase Illustration Cash Accounting Statement of Cash Flows Balance SheetSchool of Finance and Economics SILC Program Financial Valuation and S

21、trategy 20500 Lecture 3Slide 16 RevenuesAssetsT-Shirt sales$500.00Cash $275.00T-Shirt inventory 337.50ExpensesReceivables 250.00T-Shirts costs$250.00Total assets$862.50Screen depreciation50.00Printing charges 37.50EquityTotal expenses(337.50)Beginning equity$700.00Add net e 162.50Net e$162.50Total e

22、quity$862.50Accruals-The CornerstoneCase Illustration Accrual AccountingBalance Sheet e StatementSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 17Accruals-The CornerstoneNet e=AccrualsOperatingCash Flow +School of Finance and Economics SILC Program

23、 Financial Valuation and Strategy 20500 Lecture 3Slide 18Revenue Recognition recognize revenues when(1) Earned(2) Realized or RealizableExpense Matching match with corresponding revenues -Product costs -Period costs Accruals-The CornerstoneFoundations of Accrual AccountingSchool of Finance and Econo

24、mics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 19Operating cash flow (OCF) -/+Cash investment & divestment in operating assets =Free cash flow (FCF) +/-Financing cash flows (including investment & divestment in financing assets) =Net cash flow (NCF)Accruals-The CornerstoneRe

25、lation between Cash Flows and AccrualsSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 20Short-Term Accruals: Yield current assets and currentliabilities (also called working capital accruals)Long-Term Accruals: Yield non-current assets and non-curre

26、nt liabilities (arise mainly from capitalization) Accruals-The CornerstoneShort-Term and Long-Term AccrualsNote: Analysis research suggests short-term accruals are more useful in company valuationSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 21Acc

27、ruals-The CornerstoneRelevance of Cash Flows and e over a Companys Life Cycle+ eInvesting cash flowFree cash flowFinancing cash flowOperating cash flowDeclineGrowthMaturityInceptionExample QuestionWhen does a typical company start paying down debt (having a negative cash flow for financing)?In the m

28、aturity stageWhen does a company start reducing their investments so that cash flow from investing is positive?In the maturity stageSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 22School of Finance and Economics SILC Program Financial Valuation an

29、d Strategy 20500 Lecture 3Slide 23Look back at the individual products.Very difficult to tell this year since big loss last yearAnd a big disposal this yearLets look at the products in 2008 and 2009.Each PRODUCT has a life cycleWhere is Acorn?In the Company Life CycleAcorn best-selling products2009E

30、lectronic learning $M 87Cell phone $M 61Cosmetics$M 45Posture (Babaka)$M 23Elect dictionary$M 18GPS$M 0Other$M 522008$M 47$M 56$M 24$M 29$M 0$M 17$M 62School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 24Acorn Product life cycle is fastProducts change

31、and go through stages quicklyTied to economySome products seem to be matureSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 25School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 26Accruals-The Cornerston

32、eAccruals and Cash Flows - Myths. Myth: Since company value depends on future cash flows, only current cash flows are relevant for valuation.Myth: All cash flows are value relevant. Myth: All accruals accounting adjustments are value irrelevant.Myth: Cash flows cannot be manipulated. Myth: All e is

33、manipulated. Myth: It is impossible to consistently manage e upwards in long run. It is easy to be a skeptic!School of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 27Accruals-The CornerstoneAccruals and Cash Flows - Truths. Truth: Accrual accounting ( e) i

34、s more relevant than cash flow.Truth: Cash flows are more reliable than accruals.Truth: Accrual accounting numbers are subject to accounting distortions.Truth: Company value can be determined by using accrual accounting numbers. School of Finance and Economics SILC Program Financial Valuation and St

35、rategy 20500 Lecture 3Slide 28Accounting AnalysisDemand for Accounting AnalysisAdjust for accounting distortions so financial reports better reflect economic realityAdjust general-purpose financial statements to meet specific analysis objectives of a particular userSchool of Finance and Economics SI

36、LC Program Financial Valuation and Strategy 20500 Lecture 3Slide 29Accounting AnalysisSources of Accounting DistortionsAccounting Standards attributed to (1) political process of standard-setting, (2) accounting principles and assumptions, and (3) conservatismEstimation Errors attributed to estimati

37、on errors inherent in accrual accountingReliability vs Relevance attributed to over-emphasis on reliability at the loss of relevanceEarnings Management attributed to window-dressing of financial statements by managers to achieve personal benefitsSchool of Finance and Economics SILC Program Financial

38、 Valuation and Strategy 20500 Lecture 3Slide 30Accounting AnalysisSources of Analysis ObjectivesComparatives Analysis demand for financial comparisons across companies and/or across time e Measurement - demand for (1) equity wealth changes and (2) measure of earning power. These correspond to two al

39、ternative e concepts(1) Economic e (or empirically, economic profit)(2) Permanent e (or empirically, sustainable profit)Chapter 6 discusses these measures in detailSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 31Earnings Announcements Key summary

40、measures (pre-audit) Often one to six week lag Informative to market Lacks supporting financial detailsSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 32Accounting AnalysisEarnings Management Frequent Source of DistortionThree common strategies:Incr

41、easing e managers adjust accruals to increase reported eBig Bath managers record huge write-offs in one period to relieve other periods of expenses e Smoothing managers decrease or increase reported e to reduce its volatilityWhat is the risk with Acorn last year?BIG BATH!Large loss they may be tempt

42、ed to adjust accounts to recognize more lossesWhat accounts would this occur in?Impairment of GOODWILL and INTANGIBLESSchool of Finance and Economics SILC Program Financial Valuation and Strategy 20500 Lecture 3Slide 33School of Finance and Economics SILC Program Financial Valuation and Strategy 205

43、00 Lecture 3Slide 34Earnings ManagementMotivationsContracting Incentives - managers adjust numbers used in contracts that affect their wealth (e.g., compensation contracts)Stock Prices managers adjust numbers to influence stock prices for personal benefits (e.g., mergers, option or stock offering)Other Reasons - managers adjust numbers to impact (1) labor demands, (2) managem