UNIT 5 FINANCIAL ANALYSIS OF A BUSINESS 1

HOW DO YOU JUDGE THE SUCCESS OF A BUSINESS? By the customer base established? B. By the salary C. By the profits earned by the business. 2

WHY DO MOST BUSINESSES FAIL? You start your business for the wrong reasons. Would the sole reason you start a business be that you want to make a lot of money? Do you think you would have more time for yourself or your family? Insufficient capital and unrealistic expectations of incoming revenues from sales. You underestimate the amount of money needed to not only start the business but also to stay in business and are forced to close before you have had a chance to succeed. 3

WHY BUSINESSES FAIL (con’t) Location, Location, Location. A good location can help a struggling businesses survive and a bad location can spell disaster to the best enterprise. 4. Lack of Planning. It is critical to have a business plan. Many businesses who close their doors may have had success if there had been better planning. 4

WHY BUSINESSES FAIL (con’t) 5. Overexpansion. Essential to focus on slow and steady growth. Rapid expansion creates an environment for bankruptcy. 6. No website. In the U.S. alone, the number of internet users (about 70 percent of the population) and e-commerce sales (about 80 billion in 2007, according to the Census Bureau) continue to rise and are expected to increase with each passing year.. 5

THE NUMBER ONE REASON FOR BUSINESS FAILURES IS: 7. Poor financial management. You, as the owner must understand and apply some basic principals of accounting or your business could fail. 6

SUCCESSFUL FINANCIAL MANAGEMENT DEPENDS ON: KEEPING THOROUGH AND ACCURATE RECORDS. PREPARING IMPORTANT FINANCIAL REPORTS REGULARLY. INTERPRETING FINANCIAL INFORMATION IN THE REPORT. MAKING DECISIONS THAT AFFECT FUTURE FINANCIAL REPORTS. 7

FINANCIAL STATEMENTS Report that summarizes financial data over a period of time (month, months, year, or life of the business.) 8

A bank would decide whether to lend a business money. Financial data is used differently by different groups depending upon their needs: A supplier will look at whether to extend credit to a company & how much. A bank would decide whether to lend a business money. A manager would look at past results to plan for the future and in making day-to-day decisions. An owner may decide whether to continue business operations based on financial reports. 9

But they are all looking to answer the same question: Are we running an efficient and profitable business? 10

FOUR BASIC FINANCIAL STATEMENTS 1. Balance Sheet – (aka statement of financial condition) reports on a company's assets, liabilities and capital as of a given point in time. 2. Income Statement – (aka profit or loss statement) reports on a company's results of operations over a period of time. 3. Cash Flow Statement - reports on a company's cash flow activities (operating, investing and financing activities.) 4. Statement of Retained Earnings - Earnings not paid out as dividends but instead reinvested in the core business or used to pay off debt. 11

FINANCIAL REPORTS WE WILL BE LOOKING AT AND “MOST USED” BY BUSINESS: INCOME STATEMENT BALANCE SHEET 12

(aka Statement of Financial Position) ASSETS = LIABILITIES + CAPITAL BALANCE SHEET (aka Statement of Financial Position) Financial report that lists assets, liabilities, and capital of a business on a specific date. FORMULA: ASSETS = LIABILITIES + CAPITAL 13

anything of value owned (cash, equipment, building, inventory) ASSETS anything of value owned (cash, equipment, building, inventory) LIABILITIES claims against assets – debt – what is owed (mortgage, money owed for purchases on credit) CAPITAL (aka Owner’s Equity, Stockholder’s Equity, Net Worth) amount organization/individual is worth after subtracting liabilities from assets 14

_______________ ____________ _______________ 15

Anything OWNED by the business Anything OWED by the business CROWN CORPORATION Balance Sheet February 29, 2009 ASSETS Cash $24,000 Equipment 8,000 Land & Bldg. 64,000 LIABILITIES Accounts Payable $10,000 Mortgage Payable 33,000 Total Liabilities $43,000 CAPITAL James Jones, Net Worth $26,500 Tom Erwin, Net Worth 26,500 Total Capital $53,000 Total Liabilities & Capital $96,000 Total Assets $96,000 TOTAL ASSETS MUST EQUAL TOTAL LIABIITIES + CAPITAL Anything OWNED by the business Anything OWED by the business 16

ANALYSIS OF THIS BALANCE SHEET FOR CROWN CORPORATION Positive or negative net worth? 2) Is it possible to have a negative net worth? 3) What are options if a negative net worth? 17

IN REVIEW: BALANCE SHEET SHOWS THE FINANCIAL CONDITION OF A BUSINESS AT A PARTICULAR POINT IN TIME. BALANCE SHEETS ARE PREPARED AT LEAST ONCE A YEAR. WHAT DO THEY PROVIDE? A PICTURE OF YOUR FINANCIAL POSITION. 18

THIS IS INDIVIDUAL EFFORT. A WORKSHEET WILL BE HANDED OUT TO YOU. CREATE A BALANCE SHEET FOR THE STARBOARD CORPORATION. USE THE BALANCE SHEET FROM YOUR NOTES, CROWN CORPORATION, AS YOUR GUIDE. THIS IS DUE BY THE END OF THE PERIOD. NO GROUP WORK. THIS IS INDIVIDUAL EFFORT. 19

Starboard Corporation BALANCE SHEET February 28, 2009 ASSETS Cash $ 5,000 Accounts Receivable 8,000 Merchandise Inventory 15,000 Land and Buildings 120,000 Total Assets $148,000 LIABILITIES Accounts Payable $ 12,000 Mortgage Payable 90,000 Total Liabilities 102,000 CAPITAL James Jones, Net Worth 46,000 Total Liabilities & Capital $148,000 20

INCOME STATEMENTS 1

INCOME STATEMENTS (aka Profit and Loss Statement) Financial statement that reports total revenue and expenses for a specific period such as a month or year. 2

THREE MAJOR PARTS TO INCOME STATEMENT 1. REVENUE Income earned for the period. (ex: sale of goods and services) 2. EXPENSES All costs incurred in operating the business. (ex: cost of materials to manufacture company’s product) 3. PROFIT OR LOSS Difference between total revenues and total expense. 3

IF REVENUES GREATER THAN EXPENSES – COMPANY EARNED A________ IF EXPENSES GREATER THAN REVENUE – COMPANY INCURRED A _______ 4

5

WHAT IS THE DIFFERENCE BETWEEN AN INCOME STATEMENT AND A BALANCE SHEET Shows Profit or Loss for specific period of time: year or less. BALANCE SHEET Financial condition of business as of a specific date. 6

FOR THE YEAR ENDING DECEMBER 31, 2009 $100,000 40,000 $__________ or Net Loss 7

7. IF MY EXPENSES ARE GREATER THAN MY GROSS PROFIT, I HAVE REFERRING TO THE XYZ CORPORATION INCOME STATEMENT: 1. WAS THIS INCOME STATEMENT DONE FOR A QUARTER, 6 MONTHS, OR FOR A YEAR?_____________ 2. WHAT REPESENTS THE TOTAL INCOME FROM GOODS THE XYZ CORPORATION SOLD?_____________ 3. WHAT REPRESENTS WHAT XYZ CORPORATION PAID FOR THE MERCHANDISE IT SOLD?___________ 4. WHAT REPRESENTS PROFIT FROM THE SALE BEFORE EXPENSES?_________________________ WHAT REPRESENTS THE COST OF OPERATING THE BUSINESS DURING THE YEAR?_______________ IF MY GROSS PROFIT IS GREATER THAN MY EXPENSES, I HAVE _______________________________. 7. IF MY EXPENSES ARE GREATER THAN MY GROSS PROFIT, I HAVE ______________________________. 8

CASH FLOW Movement of cash into and out of a business (ex: checkbook – deposit money, pay bills by writing checks) You work at McDonalds, making $320 a month. You owe $400/mo. for car insurance. Positive or negative cash flow?________ How much?______________ 9

WORKING CAPITAL DIFFERENCE BETWEEN CURRENT ASSETS AND CURRENT LIABILITIES 10

It can be converted to cash within a year. CURRENT It can be converted to cash within a year. When a company purchases goods on credit, it expects to pay its bill within a year – Current Liability – Accounts Payable. 2. When a company sells goods on credit, it expects to be paid within a year – Current Asset – Accounts Receivable. 11

WOULD YOU LEND MONEY TO THIS BUSINESS? CURRENT ASSETS = $80,000 CURRENT LIABILITIES = 30,000 WORKING CAPITAL = $______ DO CORPORATIONS WITH A LARGER WORKING CAPITAL FIND IT EASIER OR HARDER TO BORROW MONEY?_______________________ 12

FOR THE MONTH ENDING FEBRUARY 29, 2009 PORTSIDE CORPORATION INCOME STATEMENT FOR THE MONTH ENDING FEBRUARY 29, 2009 Revenue from Sales $250,000 Cost of Good Sold 80,000 Gross Profit $_________ Operation Expenses Wages $ 40,000 Advertising 13,000 Depreciation 10,000 Insurance 6,000 Supplies Used 3,000 Other 2,500 Total Operating Expenses $__________ Net Profit/Net Loss $