Corporate finance.

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INCOME STATEMENT: OPERATING CYCLE

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INCOME STATEMENT: INVESTMENT CYCLE

Investing activities do not appear directly on the income statement.

But accrual accountings require that an asset’s cost has to be proportionally expensed based on the period of time over which the asset is used.

The Income Statement reports the allocation of fixed assets’ cost over their useful life (depreciation and amortization).

Depreciation (tangible assets) and amortization (intangible assets) are “non-cash items”

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EBIT represents the earning generated by the investment and operating cycles.

Investing activities do not appear directly on the income statement. But accrual accountings require that an asset’s cost has to be proportionally expensed based on the period of time over which the asset is used.

The Income Statement reports the allocation of fixed assets’ cost over their useful life (depreciation and amortization).

Depreciation (tangible assets) and amortization (intangible assets) are “non-cash items”.

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EBIT represents the earning generated by the investment and operating cycles.

INCOME STATEMENT: FINANCIAL CYCLE

The Income Statement shows only the charges (e.g. interest) related to borrowings.

It doesn’t show the repayments of borrowings that are deducted from the debt recorded on the balance sheet.

Moreover, the financial cycle considers also financial incomes (e.g. capital gains).

Financial income – financial charges = Net financial income.

INCOME STATEMENT: EXTRAORDINARY ITEMS

The Income statement reports gains or losses related to unforeseen and atypical events.

They are accounted separately because they are not expected to recur frequently or regularly and they are beyond the control of a company’s management.

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THE INCOME STATEMENT (PROFIT AND LOSS)

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BALANCE SHEET

- The purpose of a balance sheet is to list all the assets of a business and all of its financial resources at a given time.

- Assets on a balance sheet comprise the following.

- Fixed assets: tangible, intangible and financial assets

- Current assets as part of the operating cycle such as inventories and trade receivables

- Cash and cash equivalents

Resources on a balance sheet comprise the following:

- Capital provided by shareholders, plus retained earnings, known as shareholders’ equity

- Borrowings of any kind that the business may have arranged, known as liabilities

Company’s assets and resources must be equal!

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BALANCE SHEET: RECLASSIFICATION

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NET FINANCIAL POSITION

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Net financial position can be either positive or negative. If it is negative, the company is said to have net cash.

Lessons 3&4

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FINANCIAL RATIOS

Financial ratios are useful indicators of a company’s performance and financial situation. Most ratios can be calculated from information provided by financial statements.

Financial ratios can be classified according to the information they provide:

1. Profitability ratios

2. Debt management

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They measure the overall performance of the company and its efficiency in managing investments.

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It is a measure of overall operating efficiency.

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The profit margin ratio is a measure of a firm's ability to control the level of expenses related to generated revenues.

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The ratio measures the average rate of return on invested capital in the firm. It represents a measure of how well a company uses all its funds to generate profits.

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ROE is the amount of Net Income returned as a percentage of shareholders equity. It represents a measure of how well a company uses shareholders' funds to generate profits.

Relationship between ROI & ROE:

ROE= ROI + (ROI – i) x [DEBT / EQUITY]

Where:

- ROE = net income / equity

- ROI = ebit / total net invested capital

- D/E = financial leverage

- i = cost of debt (passive interests)

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They measure the extent of the debt which is financing a firm, the relationship with equity and the firm’s ability to cover fixed charges.

- The use of debt involves risk because