Module 1 Guided Notes 2

Finance 3200 Module 1 Guided Notes
Financial Statements
Balance Sheet
Balance sheet is a ____________ statement,
Accounts are generally listed by ________________.
• Assets
– Current assets:
– Fixed assets:
• Liabilities
– Current liabilities:
– Long term:
• Equity
– Common stock:
– Retained earnings:
∗ Balance
sheet:
∗ Income statement:
Balance Sheet Identity: Total Assets =Total Liabilities + Total Owner’s Equity
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Figure 1: Balance Sheet, Prufrock Corporation
Income Statement
The income statement measures the _______________ of a firm over a _______________.
Income statement is a ____________ statement,
ie: Income of a firm from ________________ to __________________.

• Income Statement
– Shows revenue when it ____________, not when _____________________.
– Contains non-cash items, such as ___________________.
– Result:
Figure 2: Income Statement, Prufrock Corporation
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• Two things can happen with net income:
– Dividends:
– Retained earnings:
Net Income = dividends + retained earnings
Net working capital = current assets - current liabilities
Standardizing Financial Statements

Useful for comparing financial information
• For a single company over time
– Example: 20% growth for 5 years
• Between companies
– Example: companies of different size
Need a benchmark for comparison
To common-size a balance sheet:
To common-size an income statement:
Example 1: Standardizing Prufrocks’s Financial Statements (Excel)
Example 2
The financial statements for Anderson, Inc can be seen below. Based on this information:
• What is the common size value for selling, general, and administrative expense?
• What is the common size value for long-term debt?
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Figure 3: Balance sheet, Andersen Incorporated
Figure 4: Income statement, Andersen Incorporated
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Book Value vs. Market Value
• Book value:
- Historic cost, or what bought asset for minus acc. depr
• Market value:
- Current value; what you could get if you sold it today
• Book value can be higher than market value

– ie: lawn mowing business
• Book value can be lower than market value
– ie: railroad company
Example 3: Book and market value

The Klingon Corporation has net fixed assets with a book value of 700 dollars and an appraised market
value of about 1,000 dollars. Net working capital is 400 dollars on the books, but approximately 600
dollars would be realized if all the current accounts were liquidated. Klingon has 500 dollars in long-term
debt, both book and market value.
Construct two simplified balance sheets, one in accounting terms (book value) and one in economic
terms (market value).
Figure 5: Balance sheets, Klingon Corporation
For the purposes of this class we care about market value

Projections and decisions should be based on current values.
Taxes
Typically one of the firms largest cash outflows.
Tax code often driven by political not economic forces.
Average vs. Marginal Tax rate

• Average tax rate:
- Percentage of income that goes to taxes
• Marginal tax rate:
- Tax rate you’d have to pay on the next dollar of income you e
For the purposes of this class, we care about marginal tax rate.
Corporate tax rate is currently at a flat rate of 21%, meaning that marginal tax rate = average tax rate.
Example 4: Taxes
Algernon, Inc. has a taxable income of $85,000. Using the following table, calculate:
• Algernon’s tax bill
• Algernon’s average tax rate
• Algernon’s marginal tax rate
Figure 6: Corporate tax rates, 2015
Cash Flows
Free cash flow: cash generated by a firm that it has available to:
• Pay Creditors
• Pay stockholders
Cash flow identity:
Free cash flow= Cash flow to creditors + Cash flow to
stockholders Where:
• Cash flow to creditors=Interest paid-net new borrowing
• Cash flow to stockholders=Dividends paid - net new equity raised
_______________________ and ______________________ are needed to calculate

free cash flow.
Note: Free cash flow is what the book calls cash flow from assets, and calculates using operating cash
flow, net capital spending, and changes in net working capital. For now, we’ll take free cash flow as given.
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Example 5: Calculating cash flows
Suppose that in 2022 Dole Cola had a free cash flow of -$181, and that it didn’t raise any new equity.
Given this information, as well as the following income statement, calculate cash flow to stockholders and
cash flow to creditors.
Figure 7: Dole Cola Income Statement
Cash flow to stockholders

• Dividends paid
• minus net new equity
Cash flow to creditors

• Interest paid
• minus net new borrowing
Example 6: US Corporation
Given the following information for the US Corporation:
• Prepare an income statement for 2021 and 2022.
• Prepare a balance sheet for 2021 and 2022.
• Calculate cash flow to creditors for 2022.
• Calculate cash flow to stockholders for 2022.
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Assume a tax rate of 30%, and that the US Corporation currently pays out 40% of net income as dividends.
Figure 8: US Corporation
Example 7
Given the following information for Poppin’ Corn, INC.:
• Prepare an income statement for 2020 and 2021.
• Prepare a balance sheet for 2020 and 2021.
• Calculate cash flow to creditors for 2021.
• Calculate cash flow to stockholders for 2021.
• Calculate free cash flow for 2021.
Assume a tax rate of 21%, and that Poppin’ Corn currently pays out 75% of net income as dividends.
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Figure 9: Poppin’ Corn, INC

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Finance 3200 Module 1 Guided Notes

Accounts are generally listed by ________________.

Income statement is a ____________ statement,

ie: Income of a firm from ________________ to __________________.

Figure 2: Income Statement, Prufrock Corporation

Net Income = dividends + retained earnings

Net working capital = current assets - current liabilities

Standardizing Financial Statements

Need a benchmark for comparison

To common-size a balance sheet:

To common-size an income statement:

Example 1: Standardizing Prufrocks’s Financial Statements (Excel)

• What is the common size value for long-term debt?

Figure 4: Income statement, Andersen Incorporated

• Book value can be higher than market value

Example 3: Book and market value

Figure 5: Balance sheets, Klingon Corporation

For the purposes of this class we care about market value

Average vs. Marginal Tax rate

• Marginal tax rate:

Figure 6: Corporate tax rates, 2015

_______________________ and ______________________ are needed to calculate

Figure 7: Dole Cola Income Statement

Cash flow to stockholders

Cash flow to creditors

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ie: Income of a firm from to __.

_ and are needed to calculate