Introduction

on Finance
What is
Finance?
• Finance is the study of
how people and
businesses evaluate
investments and raise
capital to fund them.
What is Finance?
• Finance is the study of HOW
people and businesses
evaluate investments and
raise capital to fund them.
Evaluating
investments and
generating
funds
Evaluate
investmen
ts
Evaluate investments
“How to
raise
capital?
”
“How to
raise
capital?
”
“How to raise capital?”
Questions answered by Finance
• What long-term investments should the firm undertake?
• This area of finance is generally referred to as capital
budgeting.
• How should the firm raise money to fund these
investments?
• The firm’s funding choices are generally referred to as capital
structure decisions.
• How can the firm best manage its cash flows as they
arise in its day-to-day operations?
• This area of finance is generally referred to as working
capital management.
“Why
Study
Finance?
”
To make
informed
decision
s!
Introductio
n to
Finance
Principles of
Finance
Principles
of Finance
Principle 1: Money Has
A Time Value
Principles
of Finance
Principle 2: There Is a
Risk-Return Tradeoff
Principles
of Finance
Principle 3: Cash Flows
are the Source of
Value
Principles
of Finance
Principle 4: Market
Prices Reflect
Information
Introductio
n to
Finance
Types of Business Organizations
Financial
Statemen
t Analysis
Principles
of Finance
• Principle 1: Money
Has A Time Value
• Principle 2: There Is
a Risk-Return Tradeoff
• Principle 3: Cash
Flows are the Source
of Value
• Principle 4: Market
Prices Reflect
Information
Accounting Principles Used in
Financial Statements
• Revenue Recognition
• Matching Definition
• Historical Cost Principle
 Revenue
Recognition
Matching Principle
Historical Cost Principle
Financial Statements
• Income Statement / Profit and Loss Statement
• Balance Sheet
• Cash Flow Statement
Income • The Income Statement is one of
a company’s core financial

Statemen statements that shows their profit

and loss over a period of time.

t • The profit or loss is determined

by taking all revenues and
subtracting all expenses from
both operating and non-operating
activities.
Income Statement
• The Income Statement is one of
a company’s core financial
statements that shows their profit
and loss over a period of time.
• The profit or loss is determined by
taking all revenues and subtracting
all expenses from both operating
and non-operating activities.
Income Statement
• Revenue (Sales)
• Cost of goods sold
• Gross profits
• Operating expense
• Selling expenses
• General and administrative expense
• Depreciation and amortization expense
• Net operating profit (Earnings before interest and
taxes)
• Interest expense
• Earnings before taxes
• Income taxes
• Net income
Income Statement : a tool to
evaluate a firm’s profitability
• Profitability is
evaluated by:
• Gross Profit
• Operating income
• Net income
Gross profit
( Revenue - Cost of goods sold )
Operating income
( Gross profit – Operating expenses )
Net income
( Operating income – Interests and taxes )
 Income Statement

ABC Company
Income Statement
(expressed in millions, except per share data)
for the year ended December 31, 2013

Sales $ 2,700.00
Cost of goods sold (2,025.00)
Gross profit $ 675.00
Operating expenses:
Selling expenses $ (90.00)
General and administrative expense (67.50)
Depreciation and amortization expense (135.00)
Total operating expense (292.50)
Net operating income (EBIT or earning before interest and taxes) $ 382.50
Interest expense (67.50)
Earnings before taxes $ 315.00
Income taxes (110.25)
Net income $ 204.75

Additional information:
Dividends paid to stockholders during 2013 $ 45.00
Number of common shares outstanding 90.00

Earnings per share $ 2.28

Dividends per share $ 0.50
 Evaluating profitability

• Dividends per share

• Earnings per share
• Gross profit margin
• Net profit margin
Dividends per share
• The per share cash distribution a
firm pays for each share of stocks.
Earnings per Share
• Earnings per share
(EPS) is a company's
net income subtracted
by preferred dividends
and then divided by the
number of common
shares it has
outstanding.
 Income Statement

ABC Company
Income Statement
(expressed in millions, except per share data)
for the year ended December 31, 2013

Sales $ 2,700.00
Cost of goods sold (2,025.00)
Gross profit $ 675.00
Operating expenses:
Selling expenses $ (90.00)
General and administrative expense (67.50)
Depreciation and amortization expense (135.00)
Total operating expense (292.50)
Net operating income (EBIT or earning before interest and taxes) $ 382.50
Interest expense (67.50)
Earnings before taxes $ 315.00
Income taxes (110.25)
Net income $ 204.75

Additional information:
Dividends paid to stockholders during 2013 $ 45.00
Number of common shares outstanding 90.00

Earnings per share $ 2.28

Dividends per share $ 0.50
 Income Statement

ABC Company
Income Statement
(expressed in millions, except per share data)
for the year ended December 31, 2013

Variable Sales $ 2,700.00

Cost of goods sold (2,025.00)
costs Gross profit $ 675.00
Operating expenses:
Selling expenses $ (90.00)
General and administrative expense (67.50)
Depreciation and amortization expense (135.00)
Total operating expense (292.50)
Net operating income (EBIT or earning before interest and taxes) $ 382.50
Interest expense (67.50)
Earnings before taxes $ 315.00
Income taxes (110.25)

Fixed Net income $ 204.75

costs Additional information:

Dividends paid to stockholders during 2013 $ 45.00
Number of common shares outstanding 90.00

Earnings per share $ 2.28

Dividends per share $ 0.50
Gross profit margin
• The gross profit margin
shows the profit made before
deducting selling, general,
and administrative costs,
which are considered when
calculating the firm’s net
profit margin.
Net profit margin
Balance
Sheet
• The term balance sheet
refers to a financial
statement that reports a
company's assets,
liabilities, and
shareholder equity at a
specific point in time.
Assets
• Current assets – assets the firm expects to
be converted to cash in 12 months or less
• Cash
• Accounts receivables
• Inventory
• Other current assets
• Non-current assets – assets the firm expects
to be converted to cash in more than a year
• Gross plant and equipment
• Accumulated depreciation
• Net plant and equipment
Liabilities and
Stockholders’ Equity
• Current liabilities – liabilities that are due and payable in 12
months or less
• Accounts payable
• Accrued expenses
• Short-term notes
• Other current assets
• Long-term debt – All firms debts that are due and payable more
than 12 months in the future
• Debt to shareholders
• Debt to partners
• Debt to third parties
• Loans to banks
Balance Sheet
Liabilities and
Stockholders’
Equity
• Common stockholders’ equity -
Stockholders Equity (also known as
Shareholders Equity) is an account on a
company’s balance sheet that consists
of share capital plus retained earnings.
It also represents the residual value of
assets minus liabilities.
Balance sheet : a tool to
evaluate liquidity
• Liquidity is evaluated by:
• The ability to pay short-term
obligations
• The ability to turn your stocks
into cash and ultimately pay
short-term obligations
Balance sheet : a tool to
evaluate liquidity
What is the most liquid?
What is the most liquid?
Scale of
liquidity
Evaluating liquidity
• Ratios to evaluate liquidity:
• Current ratio
• Quick ratio
• Cash ratio
Current ratio
Current ratio
Current ratio
• The ability of a company to meet
its obligations within one year
• Ideally, it should be 1 or greater.
• It means that for every $1 debt the
company has $1’s worth of asset to
pay it off.
• A higher current ratio is better.
Quick ratio
Quick ratio
Evaluating liquidity
• A more severe test of immediate
liquidity to meet currently maturing
obligations
• It includes quick assets
• Cash, marketable securities / short-term
investments, and receivables
• Also known as acid test ratio.
• Industry averages are taken into
consideration
• Higher: might indicate inefficiency
• In–line with: availability of sufficient
good quality liquidity
• Lower: possible difficulty in meeting
honoring obligations
Evaluati
ng
liquidity
Cash ratio
Cash ratio
Evaluating liquidity
• Cash equivalents assets are
assets which can be converted to
cash quickly.
• Current liabilities are those to be
settled within 12 months or the
business cycle.
• Let’s interpret:
• Cash ratio > 1: The company is
financially doing well and is able to pay
its liabilities
• Cash ratio = 1: The company’s assets
are just enough to pay its liabilities
• Cash ration < 1: The company does not
have enough cash to pay its liabilities
Evaluating liquidity
• Ratios to evaluate liquidity:
• Current ratio
• Quick ratio
• Cash ratio
 • A cash flow statement tracks the inflow and
outflow of cash, providing insights into a
company's financial health and operational
efficiency.
Cash Flow • The CFS measures how well a company
manages its cash position, meaning how well
Statement the company generates cash to pay its debt
obligations and fund its operating expenses.
• As one of the three main financial statements,
the CFS complements the balance sheet and
the income statement.
Cash Flow • Cash flow from operating activities
• Cash flow from investing activities
Statement • Cash flow from financing activities
Change in Cash
Change in Cash
Cash Flow Statement
Cash Flow Statement
Cash Flow Statement
Change in Cash
Balance Sheet
Quality of
Earnings
Quality of
Earnings
Why Study Financial Statements?
• Financial Statement Analysis
• Financial Control
• Financial Forecast and Planning
Financial Statement Analysis
• Financial Statement Analysis
• Financial Control
• Financial Forecast and Planning
Financial Control
• Financial Statement Analysis
• Financial Control
• Financial Forecast and Planning
Financial Forecast and Planning
• Financial Statement Analysis
• Financial Control
• Financial Forecast and Planning