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Introduction to Financial Statements and Their Use

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  1. Introduction to Financial Statements and Their Use Alison De Marree Winter 2014

  2. Standard Financial Statements • Balance Sheet • Income Statement (also known as P&L: Profit & Loss) • Cash Flow Statement

  3. A Balance Sheet is the first measure of your financial condition • Assets (Own) = Liabilities (Owe) + Net Worth or Owner's Equity

  4. Balance Sheet or Equity Statement Shows the value of items owned (assets), all claims against the business (liabilities) and the difference (net worth) at a point in time (snapshot) Must balance Assets(Own)=Liabilities(Owe)+Net Worth(Owner's Equity)

  5. The Balance Sheet Liabilities Accounts payable $ 3,000 Tractor Loan $12,000 Farm Mortgage $30,000 Total Liabilities $45,000 Net Worth (Assets – Liabilities) $ 50,000 Assets Checking Account $ 5,000 Tractor $30,000 Barn & Land $60,000 Total Assets $95,000

  6. What other things belong on the balance sheet? • Liabilities: • Current? • ? • Intermediate? • ? • Long Term? • ? • Assets: • Current? (Less than 1 yr ) • ? • Intermediate? (>1yr < 10 yrs) • ? • Long Term? (=> 10 yrs) • ?

  7. Using the Balance Sheet in Management • To set goals • To observe trends: • Compare business to itself • Compare to other businesses • To change the business (grow, shrink, change emphasis) • Review efficiency of investment

  8. Income Statement • Used to measure profit, a measure of performance, over a period of time • Profit • Total value of goods and services produced minus the value of resources used in production (a residual concept)

  9. Profitability • is the return to labor, management and capital inputs provided by the owner(s) / operators and families • is the total value of production minus the total cost of production • must be positive for the short-term improvement in the financial condition of the business and for long-term survival

  10. Profit = Total value of production - Costs of Resources Fertilizer Money received for apples Hired labor Rented out bee hives for 2 weeks minus Customplowing Apples in storage awaiting sale Consulting fees Money owed for cabbage by restaurant Interest payments

  11. Cash vs. Accrual Accounting • Cash accounting • records income when you receive it and expenses when you pay the bill • ease of use for tax management purposes • Accrual accounting • records income when produced, expenses when allocated to production • time and effort required

  12. Profit = Total value of production - Costs of Resources CashFarmExpenses Cash Farm Receipts ChangeinInventoryand,orPrepaidExpenses Change inAccountsReceivable minus ChangeinAccountsPayable Change inInventory Depreciation ValueofNoncashExpenseItems Appreciation

  13. Cash Flow Statement • Purpose: To insure that your other financial statements are accurate!!! • Summarizes all flows of cash into the business (or family) and all flows of cash out of the business ( or family) • Covers a period of time (monthly, annually) • Has beginning and ending cash on hand (cash, checking, savings) > or = 0

  14. Cash Inflow Cash Outflow Cash Farm Receipts Cash Farm Expenses Non Farm Income Principal Payments Farm Business Money Borrowed Capital Purchases Withdrawals for Family Living Expenses Sales of Assets Beginning Cash + Cash Inflow = Cash Outflow + Ending Cash

  15. Managing Cash Flows • Cash inflows must equal cash outflows. What about imbalances? • Debt is a major means of cash flow management • change repayment rate • borrow new money • accounts payable • Adjustments to items and management

  16. Enhancing Cash Flow • generate more farm receipts • reduce farm expenses • pay debt more slowly, stretch out payments, etc. • reduce family living expenses (or draw) • sell farm inventory • sell capital assets • buy fewer new capital items/use credit

  17. Summary • Measuring financial condition, and performance are keys to achieving desired results • Three financial statements • Balance sheet (condition, position) • Income statement (performance) • Cash flow statement (performance)