FINANCIAL REPORTING AND

ANALYSIS
Session 10
Financial Reporting and Analysis
Financial
Statements
Income
Statement
(Session
3 & 4)
Balance
Sheet
(Sessio
n 2)
Financial
Statements-
integrated
exercise
( session 9)
Cash flow
Statement
(Session 7
& 8)
Accounting
The
Mechanics
of financial
Accounting
(Session 5
& 6)
1. Revenue
Recognition
(Session 10)
2. Accounting for
- Inventory (Session
(Session 11)
- Long Lived Assets
(Session 12)
- Liability and Equity
Financing (Session 13)
- Off Balance sheet
items (Session 14)
- Income Tax (Session
15)
- Consolidated
Financial Statements
(Session 16)
Financial
Analysis
- Annual
Report
(Session 17)
- Financial
Statement
Analysis
(Session 18 &
19)
Scope Of Financial Reporting
3
Financial reporting concepts and standards
Company
Transactions
Recording system
Report
preparation
Users of entitys
Financial
Statement
- Operating
- Investing
- Financing
Tracking and
recording
transaction
Financial
Statements
- Managers
- Investors
- Analysts
- Lenders
- Customers
- Suppliers
- Unions/
employee
- regulators
- Journal
- Ledger
- Closing and
Adjusting entries
- Balance sheet
- Income
statement
- Statement of
cash flows
Auditors
Users business decision
1-4
Operating Cycle
Cash-to-cash.
Receive cash from customer
Purchase materials/services & pay cash
Convert materials/services to salable product
Store product
Sell product
Receive cash from customer
1-5
Revenue recognition: When? (Timing) & How
much? (Amount)
At one point in revenue cycle (objectivity).
Criteria:
When? Earned (Conservatism)
Normally, goods shipped.
Service performed.
How much? Realized or realizable (Realization).
Already collected or collectible.
Amount can be measured reliably.
Next step: matching costs.
1-6
SEC SAB 101: Criteria for
Revenue Realized & Earned
Persuasive evidence of an order.
Delivery occurred or services performed.
Fixed or determinable selling price.
Reasonably assured collectibility.
1-7
Delivery Method
Recognize revenue when goods or services are
delivered.
For goods: when title transfers.
FOB shipping point (when goods are given to carrier).
Examples:
Order is received for $900. Sales entry?
Goods are produced. Sales entry?
Goods are shipped. Sales entry?
Excel
1-8
Consignment Method
Consignor ships goods to consignee.
Inventory on consignment 1,000
Merchandise inventory 1,000
Consignor retains title until goods are sold to
customer. At sale:
Accounts receivable 1,400
Sales revenue 1,400

COGS 1,000
Inventory on consignment 1,000



1-9
Franchise Revenue
Recognize:
When earned.
Not necessarily when agreement signed or fee
received.
1-10
Franchise Revenue First Example
Ben & Jerrys charges a franchise fee primarily
for identifying the site, designing the store,
training management and staff, and otherwise
helping to get the franchise started in
business. Assume the initial fee is $100,000.
When should this $100,000 be recorded as
revenue?
1-11
Percentage-of-Completion Method
Design/development and construction/production
projects that extends over several years.
Customer pays either fixed price or cost
reimbursement contract.
Reasonable assurance of profit margin and ultimate
realization.
Revenue recognized based on total percentage of
project work performed during period.
(Excel)
1-12
Completed Contract Method
Percentage of completion method required
unless:
Amount of income to be earned on contract
cannot reasonably be determined.
Alternative is completed contract method.
Costs incurred are an asset/inventory (Contract
Work in Progress) until revenue is recognized.
1-13
Production Method
Applies to agricultural and mining.
Criteria:
Clear market determined price.
Performance substantially complete.
Minimal remaining costs.
Permitted but not required by GAAP.
1-14
Installment Method
Customer pays a certain amount per period.
Installment payment is recognized as revenue
and a proportional part of cost of sales is
recorded.
Under cost recovery method, cost is recorded
equal to installment payment until total cost
of sales is covered.
1-15
Real Estate Sales
Developer often finances over many years.
Uncertainty of income due to uncertainty of receipt
of future payments.
Conditions required for revenue recognition:
Period allowing cancellation and refund to buyer has
expired.
Cum payments equal to 10% of purchase price.
Seller has completed or is clearly capable of completing
required improvement.
1-16
Amount of Revenue Recognized
Net realizable value (amount reasonably
estimated to be collected).
2 approaches:
Direct write-off method.
Allowance method.
% of sales.
% of (analysis of) AR.
1-17
Allowance Method
Estimate amount of current period credit sales
that will not be collected.
Historical % of sales tempered by judgment.
Historical % of aged receivables (+ judgment).
Adjusting entry at end of period.
When an uncollectible account is identified, it
is written off.
1-18
First Bad Debt Exercise
Amount of revenue recognized:
Sales for the year were $2,000 for cash and $6,000 on
credit.
Historically we dont collect about 5% of our credit
sales due to customer bankruptcies or unable to
locate customer.
A customer, The XYZ Company went bankrupt. They
owed us $175.
Entry for revenue?
Entry for bad debts - direct write-off (not-GAAP)?
Entries for bad debts (allowance method)?
1-19
Allowance Method (continued)
Allowance is a contra-asset account.
Collection of a bad debt that was written-off:
Cash
Allowance for Doubtful Accounts

1-20
Sales Discounts
Sales terms are 2/10 net 30
Customer gets 2% cash discount if paid within 10
days.
Otherwise, total amount is due within 30 days.
What does 1/15 net 45 mean?
1-21
Alternative methods of accounting for
sales discounts
Record initial sale at gross.
At collection of net amount record discount as a
reduction from gross sales.
Record initial sale at gross.
At collection of net amount record discount as an
expense of the period.
Record initial sale at net.
Record amounts not taken as discounts as
additional revenue.

1-22
Sales Discount Exercise
We sold $10,000 of mdse. Sales terms are
2/10, n/30. Customers paid us for $8,000 of
the merchandise billed within 10 days. The
remaining $2,000 was paid within 30 days.
Record at gross.
Record at net.

1-23
Credit Card Sales
If cash received by merchant immediately
(Bank plan, MC, Visa):
Cash 970
Sales discount 30
Sales revenue 1000
1-24
Credit Card Sales (continued)
If cash received by merchant in 30 days
(American Express, Discover):
Accounts receivable 970
Sales discount 30
Sales revenue 1000


1-25
Sales Returns & Allowances
Similar to bad debt expense,
Estimate percentage of revenues that will
eventually result in returns or allowances.
Adjusting entry at end of period.
Actual return or allowance.
1-26
Sales Return Exercise

On average 2% of our $10,000 of sales is returned.
Adjusting entry at end of period?
Entry for return of $80 of goods?
Same for direct write-off method?

1-27
Sales Returns & Allowances
(Continued)
Provision for Returns and Allowances is a
liability account.
Alternative:
Not accrue for returns and allowances but write
them off as they occur?

1-28
Adjustment vs. expense
Realization concept suggests adjustment to
revenue.
In practice both methods are found.
Consistency:
Same handling from year to year.
Allows same company results to be compared from
year to year.
Comparisons between companies may be distorted.

1-29
Warranty Costs
Amounts are estimated (usually as a
percentage of sales).
Part of Cost of goods sold.
Record accrual (adjusting entry)
Record the actual expenditures.
Allowance is a liability account. Estimated
warranty expense is part of costs of sales.
1-30
Warranty Expenses Exercise
We estimate that warranty expenses will be
4% of our $10,000 of sales. Entry?
We spent $120 on parts and $250 on labor for
repairs under warranty. Entry?
1-31
Interest Revenue
Amount earned by lender during the period.
2 approaches
Interest paid at maturity.
Interest is explicit.
Discounted loan.
Interest is implicit.
Accounted for separately from sale.
1-32
Monetary& Non-monetary
Assets
Monetary assets are money or claims to receive
fixed sums of money.
Non-monetary assets are items used in future
production and sales of goods and services.
Balance sheet distinction
Current and non-current assets.
Not monetary and non-monetary.
Non-monetary assets (except inventory) on BS at
unexpired cost. (Cost less depreciation)
Monetary assets: Cash reported at face. AR at
NRV. Other at fair value.


1-33
Cash
Funds available for disbursement.
May include liquid short term investments.
Highly liquid debt instruments with original
maturities of 90 days or less.
1-34
Receivables
Trade receivables
Accounts receivables from usual sales of products
or services for non-financial institutions.
Other receivables are shown separately.
E.g. due from employees, advances or loans.

1-35
Marketable Securities
Must be marketable.
E.g. commercial paper, treasury bills, publicly
traded stocks and bonds issued by companies.
Also called Temporary Investments.

1-36
Accounting for Marketable Securities
Three categories
Held-to-maturity: debt securities,
Valued at cost.
Trading securities: debt or equity held for current
resale, valued at market.
Realized (i.e. if sold during period) and unrealized (not
yet sold but market price has changed) gain or loss
included in current years income.

1-37
Accounting for Marketable Securities
(Continued)
Available-for-sale securities:
Debt or equity securities that do not fit either of
the other 2 categories.
Reported at market value.
Realized gains and losses go through income.
Unrealized gains and losses directly credited (or
debited) to a stockholders equity account.

1-38
Analysis of Monetary Assets
Current ratio = CA/CL
Acid-test ratio = quick ratio = monetary CA/CL=
(CA - inventories - prepaid items) /CL.
Days cash = cash/(annual cash expenses 365)
Cash expenses total expenses - depreciation.
Days receivable = average collection period =
Receivables/(Sales 365)
Ratios differ by industry.