CFA FSA.txt

US: FASB creates GAAP

International: IASB creates IFRS

Income statement

assets = liabilities + owner's equity

• operating: result from "normal" business of the firm
• investing: acquisition/sale of PPE, of a subsidiary or segment, of securities, and investment in other firms
• financing: issuance/retirement of firm debt/equity and dividends to stockholders

• unqualified: statements are free from material errors/omissions
• qualified: explain reasonably made exceptions to accounting principles
• adverse: statements not presented fairly or are materially nonconforming

• State the objective and context
• Gather data
• Process the data (make appropriate adjustments)
• Analyze and interpret the data
• Report the conclusions/recommendations
• Update the analysis

contributed capital + retained earnings

• Assets increase = outflow
• Assets decrease = inflow
• Liabilities increase = inflow
• Liabilities decrease = outflow

• FASB: Dividends paid are financing, dividends received are operating, and interest either paid or received is operating.
• IASB: All situations can be either financing or operating cash flows

• Purposes of the framework: IASB requires management to consider the framework if no explicit standard exists. FASB does not
• Objectives: FASB presents different objectives for business and non business reports. IASB does not.
• Assumptions: IASB places more emphasis on going concern assumption
• Qualitative characteristics: FASB only lists relevance and reliability. IASB has those and comparability and understandability
• Financial statement elements:
• 1) IASB lists income and expenses as performance crucial. FASB also includes revenue, expenses, gains, losses, and comprehensive income.
• 2) FASB says asset is a future economic benefit. IASB says its a resource from which a future economic benefit is expected
• 3) FASB does not allow the value of most assets to be adjusted upward
• 4) FASB uses the word "probable" to define assests and liabilities

• Revenue
• (COGS)
• = Gross Profit
• (GSA)
• (Depreciation expense)
• = Operating Profit
• (Interest expense)
• =Income before tax
• (Tax)
• = Income from continuing operations
• Earnings (loss) from discontinued operations net of tax
• = Net income

Percentage-of-completion: Recognize same % of final revenue as the % of final cost that has occurred. Ex. if have completed 50% of project in Q1 (based on cost), recognize 50% of the sale price

in year 2, calculate revenue recognized by: TOTAL costs incurred/total estimated costs * total expected revenue - revenue already recognized

if costs exceed projections, recognize remaining revenue only, and income may be a loss

Completed-contract: recognition of all revenue and expense occurs upon completion

• Normal recognition: if collectibility is certain or can be reasonably estimated, revenue is recognized at the time of sale
• Installment method: profit is recognized as cash is collected. Profit = cash collected * total expected profit/total sales
• Cost recovery method: revenue = expenses = cash collected until all costs are accounted for, then the rest is considered profit

• Gross: revenue and cogs are recognized separately
• Net: only the difference in sales and cogs is reported

• be the primary obligor under the contract
• bear the inventory risk and credit risk
• be able to choose supplier
• have reasonable latitude to establish the price

expenses to generate revenue are recognized in the same period as the revenue

• cannot be tied directly to revenue generation (ex. admistrative)
• expensed in the period incurred

SL depreciation expense = (cost - residual value)/useful life

• DDB depreciation = (2/useful life)*(cost - accumulated depreciation)
• Depreciation continues until residual value is reached since it's not explicitly used in the formula

Beginning inventory + Purchases - COGS = Ending Inventory

• Periodic: inventory purchased during the accounting period is recorded in a Purchases account. At the end of the period, Purchases and Sales are used to reconcile the Inventory and COGS accounts
• Perpetual: Inventory and COGS are updated continuously. A purchases account is unneccessary.

FIFO does because ending inventory (beginning + purchases - COGS) is made of the most recent purchases, which better reflects current market prices and therefore current economic value.

FIFO is most appropriate for deteriorating inventory

IFRS: inventory is recorded as lower of net realizable value (sales price - selling cost) and original cost. Allowed both write-ups and write-downs.

GAAP: inventory is recorded as lower of market and cost. Market must be less than NRV and greater than NRV - Normal profit margin. Write-ups not allowed.

GAAP allows both, IFRS only allows FIFO

• Balance sheet: All balances as percentage of assets
• Income statement: All items as percentage of sales
• Cash flow statement: All items as a percentage of total inflows (outflows if overall negative) or as a percentage of net revenue

• measure cash available for discretionary purposes
• operating cash flow - net capital expenditures - change in working capital

• current: current assets/current liabilities
• higher implies more liquid (greater ability to meet short term obligations)
• quick: (cash + marketable securities + receivables)/current liabilities
• similar to current, but more conservative because it includes only the most liquid assets
• cash: (cash + marketable securities)/current liabilities
• represents liquidity in crisis situations (could be unreliable since mrkt sec lose value quickly in these situations)
• defensive interval: (cash + marketable securities + receivables)/daily cash expenditures
• measures how long the firm can continue to pay its expenses from its existing liquid assets assuming no cash flows

• receivables turnover: annual sales/average receivables
• high ratio can indicate highly efficient credit and collection. Alternatively, high could also indicate too stringent of collection policies, competitor's policies may be more attractive
• days of sales outstanding (DSO): 365/receivables turnover
• number of days between sale and collection
• inventory turnover: COGS/average inventory
• high ratio may indicate effective inventory management or company may not carry adequate inventory, damaging sales
• days of inventory on hand (DOH): 365/inventory turnover
• number of days inventory is held
• payables turnover ratio: purchases/average trade payables
• purchases = COGS + ending inventory - beginning inventory or approximated as simply COGS
• high ratio indicates either company is not taking advantage of available credit facilities or is taking advantage of early payment discounts
• number of days of payables: 365/payables turnover ratio
• number of days the company takes to pay its suppliers
• Cash Conversion Cycle: DOH + DSO - number of days of payables
• indicates the amount of time that elapses from the point when a company invests in working capital until the company collects cash
• shorter cycle indicates higher liquidity and implies that firm only needs to finance its inventory and A/R for a short period of time

• total asset turnover: revenue/average total net assets
• fixed asset turnover: revenue/average net fixed assets
• working capital: current assets - current liabilities
• working capital turnover: revenue/working capital
• indicates how efficiently the firm generates revenue with its working capital
• 4.0 indicates $4 revenue for every $1 working capital
• if near 0 or negative, this number can't be interpreted

• gross margin: gross profit/revenue
• operating margin: operating profit/revenue = EBIT/net sales
• net margin: net income/revenue

• debt-to-equity: total debt/total shareholder's equity
• high means low solvency
• ratio of 1 implies debt to capital of 50%
• book value or market value of equity
• debt-to-assets: total debt/total assets
• indicates percentage of assets financed with debt
• debt-to-capital: total debt/(total debt + total shareholder's equity)
• high indicates higher risk and weaker solvency
• leverage: average total assets/average total equity
• total assets supported with 1 unit of equity
• interest coverage: EBIT/interest payments
• number of times a firm's ebit could cover its interest payments
• "times interest earned"
• fixed charge coverage: (EBIT + lease payments)/(interest payments + lease payments)
• same as interest coverage but includes leases

• retention rate(b) * ROE
• b = 1 - dividends declared/operating income after taxes

• Net income/average total assets
• interest expense added back: (net income + interest expense[1-tax rate])/average total assets
• Pre-interest and pre-tax ROA aka operating ROA: EBIT/average total assets
• ROE: net income/average total equity
• return on common equity: (net income - preferred dividends)/average common equity

• regular: ROE = (net income/sales)*(sales/assets)*(assets/equity)
• aka - ROE = net profit margin * asset turnover * equity multiplier
• extended: ROE = (net income/EBT)*(EBT/EBIT)*(EBIT/revenue)*(revenue/average total assets)*(average total assets/average equity)
• aka - ROE = tax burden * interest burden * EBIT margin * asset turnover * leverage

basic EPS: (net income - preferred dividends)/weighted average number of common shares outstanding[WACSO]

diluted EPS: [(net income - preferred dividends) + convertible preferred dividends + convertible debt interest*(1-tax rate)]/[WACSO + shares from conversion of convertible preferred shares + shares from conversion of convertible debt + shares issuable from stock options]

convertible instruments issued during the year are also time weighted in the average

Average annual share price is used as denominator for converting options

• capitalizing: lowers income variability, increases near term profits, increases assets, increases equity
• expensing: opposite effects

• straight line: (cost - residual value)/useful life
• double declining balance: (2/useful life)*(net book value)
• units of production: (cost - salvage value)/useful life in units * output units

WACC = w_dK_d(1-t) + w_psK_ps + w_csK_ce

• K_d = Current YTM on firm's debt
• K_ps = preferred dividends/market price of ps
• K_ce = (CAPM) rf + B(E[R_m] - rf), (Dividend Discount) Price = , (Bond) k_ce = bond yield + risk premium,

• BETA asset (use other firm's info that does only the specific project's business) = BETA equity *
• BETA project (use subject firms information) = BETA asset * 1+((1-t)*Debt/Equity)

• revised Kce = Rf + Beta[Rmkt - Rf + CRP]
• CRP = sovereign yield spread * annualized standard deviation of developing country / annualized standard deviation of sovereign bond market in terms of developed market currency

treated as an initial outflow, not part of ROE

• Q = Units sold
• P = Price per unit
• V = Variable cost per unit
• F = Fixed Costs

DOL*DFL

FS should have: timeliness, comparability, verifiability, and understandability

To enhance: relevance, faithful representation

the effort of creating one global accounting standard

8-K: Filed to disclose material events to shareholders (M&A, management changes, etc.)

DEF-14A: statement that must be filed with the SEC when the company holds a shareholder proxy vote

144: an announcement to the SEC that the company is going to issue unregistered securities

Common shares + additional paid-in capital

additional paid-in capital: happens when shares are purchased for more (or less) than their par value

• balance sheet
• statement of comprehensive income
• cash flow statement
• statement in changes of owner's equity
• explanatory notes that include accounting policies

journal entries, general ledger, trial balance, financial statements

number promised - number of shares cash flow from conversion will buy at current market prices

GAAP: contract completion method - recognize everything at the end

IFRS: if can assume costs will be recovered, revenue = costs (cost recovery method)

accounting principles changes must be applied retroactively, accouning estimates changes must only be applied going forward

no securities exist that can dilute eps

par + additional paid in capital

warranty expense: held as a liability, decreases NI, increases liabilities

bad debt expense: expensed on the spot, decreases NI, decreases Assets via uncollectable account for A/R

treasury stock method - it is assumed the firm uses money paid to first purchase shares in the open market, then creates any shares still needed from the conversion

(beginning inventory - ending inventory)/2

under GAAP, this is required if there is doubt that a deferred tax asset will be recovered

under IFRS, the DTA is written down directly

bad debt expense cannot be deducted from taxable income until the A/R is deemed worthless

book value of the bond at the beginning of the period * market rate at issuance

undiscounted future cash flows < asset carrying value

• principal, which is CFF
• interest, which is CFO

PV of future pension benefits earned to date

net taxable loss that can be used to reduce taxable income in the future

NI was negative, so that can be applied to a positive NI later to curve taxes

tax rate * taxable income + DTL

tax credits, non-deductible income, and differences between capital gains and operating taxes

under IFRS, assets can be adjusted for their fair value on the BS. any adjustment below original cost hits, IS, and others only go on BS under Assets and Equity (Revaluation Surplus)

firms must state finite or infinite life and disclose the carrying value under the historical cost model

• GAAP: developed for in house, all expensed.
• developed for sale, expensed until feasible, then capitalized
• purchased, capitalized

• IFRS: all expensed until feasible, then capitalized
• purchased, capitalized

within one year or one operating cycle, whichever is greater

NI = Rev - COGS - Operating expenses +- sale of equipment - taxes paid

Comprehensive income = unrealized gains/losses from available for sale securities, unrealized gains/losses from cash flow hedging derivatives, unrealized gains/losses from currency translation

Dividends are not included in either

purchase price - fair market value (assets - liabilities

Debt/Equity vs Assets/Equity

no and no

Financing

Treasury shares are a reduction in shareholder's equity, not an asset

CFO/cash paid for long-term investments

• FR: Pretax income, tax expense
• tax expense = tax payable + DTL - DTA (DT must be based on future tax rates, which creates a difference between tax expense and (pretax income * tax rate)

TR: Taxable income, tax payable, tax basis of asset (cost - depreciation)

depreciating different components of an asset separately

IFRS requires component depreciation, GAAP does not

treated as part of the cost of the constructed capital asset

CFI

weighted average taxes. tax exempt items do weigh in at 0

in the U.S., under GAAP, if a firm uses LIFO for tax purposes, it must also use LIFO for financial reporting