EE686S: Technical Entrepreneurship

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EE686S Technical Entrepreneurship

• Accounting

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Goals

• Review main accounting documents and financial
  analysis
• Balance Sheet
• Income Statement (Statement of Operations)
• Statement of Cash Flows
• Practical Example

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How Does It All Add Up
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Some Accounting Principles

• Accounting items are classified into accounts
  according to their nature, translated into
  monetary units, and organized in statements
• Basic Accounting formula
• Assets Liabilities Equity

What the company owns
How the ownership of assets was financed (By
third parties or by the owners)
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Accounting vs. Market Value

• Equity Ownership of a company is divided in
  certificates called common shares
• Accounting Value (or Book Value) Equity
  Assets Liabilities
• Accounting Value is different from Market Value
  !!!
• Market Value Share Price Number of Common
  Shares Outstanding

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Income Statement

• Reports the economic results of a company over a
  time period. It shows the derivation of earnings
  or losses.

Income Statement of XXX Corp. year 2000
Rev.

• Revenues
• - Cost of Revenue (product cost or COGS)
• Gross Margin
• Sales and Marketing
• General and Administrative
• Research Development
• Depreciation and Amortization
• Operating Income (EBIT)
• Interest Income(expense) net
• Net Income before Taxes
• - Income Tax Provision
• - Extraordinary Items
• Net Income

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Income Statement - Analysis

• When does a transaction affect income? - When it
  changes the economic value of the company for the
  owners
• Some Profitability Measures
• Gross Margin () Gross Profit / Sales
• Operating Margin Operating Income / Sales
• Return on Sales Net Income / Sales
• Return on Equity Net Income / Shareholders
  Equity
• Other Important Measures
• Earnings Per Common Share (EPS) Net Income /
  Common Shares
• Price Earnings Ratio (P/E) Market Price /
  Earnings Per Share

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Income Statement - Example
From Kimmel et. al. Financial Information For
Decision Making

• The following information was taken from the 2001
  financial statements of Kellogg Company. Dollar
  amounts are in millions.
• Cost of goods sold 4,128.5
• Selling admin. expenses 3,523.6
• Interest expense 351.5
• Other expense 54.0
• Net sales 8,853.3
• Income tax expense 322.1

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Income Statement - Example

• KELLOG COMPANY
• Income Statement
• For the Year Ended December 31, 2001
• Net sales 8,853.3
• Cost of goods sold 4,128.5
• Gross Profit 4,724.8
• Selling admin. expense 3,523.6
• Income from Operations 1,201.2
• Interest expense 351.5
• Other expense 54.0
• Net Income Before Taxes 795.7
• Income tax expense 322.1
• Net Income 473.6

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Balance Sheet

• It is a financial snapshot of a company at a
  given point in time

Balance Sheet of XXX Corp. - 31 December of 2000
(in thousand )
Cash and Equivalents Accounts Receivable Inventori
es
Accounts Payable Accrued Expenses Short Term debt
Current Liabilities (payable in less than a
year) Long-Term Liabilities (bonds issued, bank
loans) Shareholders Equity
Current Assets (liquid in less than a
year) Fixed Assets Other Assets
Property, plant and equipment (minus Depreciation)
Common Stock Additional Paid-in Capital Retained
Earnings
Intangibles (minus depreciation) Investment
Securities
Total Assets
Total Liabilities Shareholders Equity
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Balance Sheet - Analysis

• Working Capital measure of the amout of cash
  available in the short-term Also, indication of
  the funds needed operate within a given business
  size
• Current Assets Current Liabilities
• Liquidity ratios measures of the ability to meet
  short term financial obligations
• Current Ratio Current Assets / Current
  Liabilities
• Acid-test (Cash Accounts receivable) / Current
  Liabilities
• Operational Efficiency Measures
• Inventory Turnover Cost of Sales per year /
  Current Inventory
• Accounts Receivable Collection Period accounts
  receivable / sales
• Accounts Payable Collection Period accounts
  payable / cost of sales

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Balance Sheet - Example
From Kimmel et. al. Financial Information For
Decision Making

• These financial statement items are for Tweeter
  Entertainment Group at year-end on September 30,
  2001. (in millions)
• Accounts payable 38.6
• Property, plant equipment 109.1
• Receivables 31.3
• Other current liabilities 23.3
• Stockholders equity 332.4
• Cash 3.3
• Long-term debt 36.7
• Inventories 129.2
• Accrued expenses 38.9
• Other current assets 7.5
• Other liabilities 10.5
• Other assets 200.0

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Balance Sheet - Example
TWEETER HOME ENTERTAINMENT GROUP Balance Sheet
(in millions) September 30, 2001
Assets Current assets Cash 3.3
Receivables 31.3 Inventories 129.2
Other current assets 7.5 Total current
assets 171.3 Property, plant equipment
109.1 Other assets
200.0 Total assets 480.4
Liabilities and Stockholders Equity Current
liabilities Accounts payable 38.6
Accrued expenses 38.9 Other current
liabilities 23.3 Total current
liabilites 100.8 Long-term debt
36.7 Other liabilities 10.5 Total
liabilities 148.0 Stockholders equity
332.4 Total liab. stock. equity 480.4
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Statement of Cash Flows

• The Statement of Cash Flows reports cash receipts
  and payments over a period, separating
  operational, investing and financing activities.

Statement of Cash Flows of XXX Corp. 2000

Cash Flow from operating activities
(reconciled from income statement) income -
net changes in working capital (except cash and
equivalents) depreciation and amortization
Cash Flow from investing activities Cash Flow
from financing activities Net Change in Cash
or Equivalents Cash or Equivalents at
beginning of period Cash or Equivalents at end
of period
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Statement of Cash Flows - Analysis

• CASH FLOW IS KING!!!!!
• Especially for an entrepreneurial firm...
• How is cash flow different from income?
• Income accrual is not necessarily linked to cash
  transactions (e.g., depreciation, sales by
  credit)
• Some activities affect cash flows but not income
  (e.g., investments in fixed assets, additional
  capital from shareholders)
• Growth often absorbs cash flow because of a
  higher need for working capital and fixed
  investments (Entrepreneurial firms with negative
  income and high growth can have a very fast cash
  burn rate)

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Statement of Cash Flows - Example
From Kimmel et. al. Financial Information For
Decision Making

• SIERRA CORPORATION
• Statement of Cash Flows
• For the Month Ended October 31, 2004
• Cash flows from operating activities
• Cash receipts from operating activities
  11,200
• Cash payments for operating activities
  (5,500)
• Net cash provided by operating activities
  5,700
• Cash flows from investing activities
• Purchased office equipment (5,000)
• Net cash used by investing activities
  (5,000)
• Cash flows from financing activities
• Issuance of common stock 10,000
• Issued note payable 5,000
• Payment of dividend (500)
• Net cash provided by financing activities
  14,500
• Net increase in cash 15,200
• Cash at beginning of period 0
• Cash at end of period 15,200

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Spreadsheet Example

• SW Company
• ProForma inputs
• SW Lic Rev and Inputs
• Consulting Rev
• Staffing
• Expenses
• CapX
• Rev Rollup and Pro-Forma