Overview of Accounting Analysis. Evaluate the degree to which a company’s accounting captures its underlying business reality Evaluate the appropriateness of accounting policies and estimates Assess the distortion, if any, in the numbers see where distortions are and whether they can undone
Does accounting affect business strategy? (“positive accounting”)
= Operating income
+/– Other income and loss
= Pretax earnings from continuing operations
– Income tax expense
= After-tax income from continuing operations
Non-Recurring (net of tax):
Cumulative effect of accounting changes (mandatory, voluntary)Income Statement Items and Format
and a whole lot more!
How are they disclosed?
usually a separate line item
Tendency to selectively highlight items
How are they described?
read MD&A, press releases
Tendency to report favorable items lumped in operations and unfavorable items listed separately?
I/S classification and quality of disclosureUnusual or Infrequent Items
(1) Future economic benefits (2) Owned (3) Past transactions
1999 Sales = $221,932
Bad debt expense = $1,403
Write off of A/R = $1,459
Estimated cash collection:
Most accurate: $25,282 + 221,932 – 1,459 – 28,074
Approximation: $24,049 + 221,932 – 26,897 = $219,084
Difference = $1,403, the amount of bad debt expense
The cost of approximately 47%and 50%of inventories in 1999 and 1998,respectively,was determined using the LIFO method. The stated LIFO values of inventories were approximately $0.8 billion and $1.1 billion lower than the current cost of inventories at December 31,1999 and 1998,respectively.
(1) Future economic sacrifice (2) Owed (3) Past transactions
B/S: No asset, no liability
I/S: Rent expense
B/S: Leased asset and Lease obligation
Interest expenseComparison of Operating Lease and Capital Lease
Lower income in earlier years of lease term
Note 10 (p. 43)—Lease Commitments
“master lease facilities”?
Other noncancellable lease
Minimum Lease Payments
compare average payment and “thereafter” figure
Average = 139.4
Thereafter = 26; can be ignored
About 5 years
payment stream: 46. 34, 29, 183, 405
Note 3 (p.37)
461.07 +341.072 + 291.073 + 1831.074 + 405 1.075 = 524.7
Cr. L-T debt524.7
future periods should depreciate assets and record interestLease Adjustment – Dell 1999
Business Strategy Analysis
Business Analysis and
Taxes Profitability Leverage