IB - Accounting

  1. “Please walk me through the three financial statements.”
    • The balance sheet is a snapshot at a point in time.  On the top half you have the company’s Assets and on the bottom half its Liabilities and Shareholders’ Equity (or Net Worth).  The assets and liabilities are typically listed in order of liquidity and separated between current and non-current.
    • The income statement covers a period of time, such as a quarter or year.  It illustrates the profitability of the company from an accounting (accrual and matching) perspective.  It starts with the revenue line and after deducting expenses derives net income.
    • The cash flow statement has three sections: cash from operations, cash used in investing, and cash from financing.  It can be calculated using the direct approach or the reconciliation approach.  It “undoes” all of the accounting principles and shows the cash flows of the business.
  2. “A company has learned that due to a new accounting rule, it can start capitalizing R&D costs instead of expensing them.“

    Part a) What is the impact on EBITDA?
    Part b) What is the impact on Net Income?
    Part c) What is the impact on cash flow?
    Part d) What is the impact on valuation?
    • Part a) EBITDA increases by amount capitalized;
    • Part b) Net Income increases, the amount depends on depreciation and tax treatment;
    • Part c) Cash flow is almost constant – however, cash taxes may be different due to depreciation rate
    • Part d) Valuation is constant – except for cash taxes impact/timing on NPV
  3. “What happens to Earnings Per Share (EPS) if a company decides to issue debt to buy back shares?”
    • Answer:
    • Issuance of debt increases after-tax interest expense which lowers EPS.
    • Repurchase of shares reduces the number of shares outstanding which increases EPS.
    • Whether it increases or decreases EPS depends on the net impact of the above two points.
Card Set
IB - Accounting