Chapter 13 Business Organization and Financial Data © 2000 John Wiley & Sons, Inc.

2 Chapter O utcomes n Describe the three major forms of business organization n Identify the goal and functions of financial management n Describe the agency relationships in a business organization and their implications for financial management

3 Chapter Outcomes n Provide a brief description of the income statement. n Provide a brief description of the balance sheet. n Provide a brief description of the statement of cash flows.

4 The Mission or Vision Statement n Indicates firm’s target market(s) n Identifies goods/services the firm will produce, distribute, or sell n Will guide major decisions n Supported by business and financial plans to implement strategy n Periodically reviewed and revised

5 Forms of Business Organization in the U.S. n Proprietorships n Partnerships –Limited partnership n Corporation –Subchapter S corporation –Limited liability company n Financial implications of organizational form

6 Annual Report n Information source for corporate shareholders n Contains –Discussions of operating and financial information of past year –Future opportunities –Financial statements

7 Accounting Principles n Public firm’s statements must conform to Generally Accepted Accounting Principles n Footnotes n “Accrual” accounting versus cash flows

8 Income Statement YEAR ENDED DECEMBER 31, 1999 Net revenues or sales$700,000 Cost of goods sold 450,000 Gross profit 250,000 Operating expenses: General and administrative 95,000 Selling and marketing 56,000 Depreciation 25,000 Operating income 74,000 Interest 14,000 Income before taxes 60,000 Income taxes (40%) 24,000 Net income $36,000

9 Balance Sheet--Assets DECEMBER 31, 1999 Cash and marketable securities$ 25,000 Accounts receivable 100,000 Inventories 125,000 Total current assets 250,000 Gross plant and equipment 300,000 Less: accumulated depreciation–100,000 Net plant and equipment 200,000 Land 50,000 Total fixed assets 250,000 Total assets$500,000

10 Balance Sheet--Liabilities & Equity Accounts payable $ 78,000 Notes payable 34,000 Accrued liabilities 30,000 Total current liabilities 142,000 Long-term debt 140,000 Total liabilities $282,000 Common stock ($1 par, 50,000 shares) $50,000 Paid-in capital 100,000 Retained earnings 68,000 Total stockholders’ equity 218,000 Total liabilities and equity $500,000

11 Statement of Cash Flows n 3 sections: –Cash flows from operations –Cash flows from investing activities –Cash flows from financing activities n Their sum equals the change in the firm’s cash balance over the year

12 Goal of a Firm n GOAL: MAXIMIZE SHAREHOLDER WEALTH SHAREHOLDER WEALTH = Common Stock Price X Number Of Common Shares Outstanding

13 Why Shareholder Wealth? n Market is efficient; common stock price reflects available information and investor expectations n In a competitive global economy, market directs capital to most efficient use with best risk/return features n Need to treat customers, workers properly before shareholders benefit

14 Other Shareholder Wealth Issues n Criterion for non-public firms n What about ethics?

15 Corporate Governance n Owners Managers n ShareholdersProfessional Mgt n PrincipalAgents n The Principal-Agent Problem n Agency costs n Ways to reduce the agency problem

16 Learning Extension 13A Federal Income Taxation Tax rates, married filing jointly Marginal Taxable incometax rate $0 - 42, % 42, , , , , , over 278,

17 Tax rates, single Marginal Taxable incometax rate $0 - 25, % 25,351-61, , , , , over 278,

18 Proprietor, single, $50,000 income Compute the tax bill: 0.15 x $25,350 = $3, x $24,650 = 6, $10, Marginal tax rate: 28% Average tax rate =$10,704.50/$50,000 =21.4%

19 Concepts n Ordinary taxable income n Unrealized capital gains/losses n Realized capital gains/losses

20 Corporate tax rates Taxable income Tax rate $0-50,00015% 50,001-75, , , , , , million34 10 million-15 million35 15 million-18,333,33338 over $18,333,33335

21 Depreciation Basics n Depreciation : –a non-cash expense –reduces taxable income –reduces tax bill (“depreciation tax shield”) –conserves cash as tax outflow is less

22 Example: The benefits of depreciation WITHWITHOUT Income before depreciation and income taxes$100,000$100,000 Less: Depreciation 20,000 0 Income before taxes 80, ,000 Less: Income taxes 30%) 24,000 30,000 Net income$ 56,000$ 70,000

23 MACRS Percentages PERCENTAGE DEPRECIATION ALLOWED BY CLASS OF ASSET LIFE RECOVERY YEAR3-YEAR5-YEAR %20.00%

24 Example: $10,000 asset in 5-year class DEPREC DEPREC YR PERCENTAGEAMOUNT 1$10,000x0.2000=$2, ,000x0.3200= 3, ,000x0.1920= 1, ,000x0.1152= 1, ,000x0.1152= 1, ,000x0.0576= 576 Total $10,000