CorporateFinancialReporting

Session1:PGP2017
IntroductionandAccountingEquation
 IntroductiontotheCourse
Accounting,UsersandUsesoffinancialstatements,Qualitative
characteristics,basicconceptsandassumptionsandtheAccounting
equation Sessions
1to5
AccountingCycle:MechanicsofrecordingtransactionsinJournal,Ledger
andTrialbalance

PreparationandUnderstandingofIncomeStatement Sessions6,7

PreparationandUnderstandingofBalancesheet Sessions8,9
UsingsometoolsforAnalyzingtheFinancialstatements
Sessions1012a
CommonSize,Trend,Ratioanalysis
PreparationandUnderstandingofCashflowstatement Sessions12b14

Accountingfortangiblefixedassets,inventoryvaluation,Revenue Sessions
recognitionandtradereceivables 15to20

2
 TheDos,theDonts,&theGrading
TheDos
Gothroughtheproblemsspecifiedinthecourseoutlineandtrytosolve
thembeforeyoucometotheclass
Prepareforthecasebeforecomingtotheclassbasedoncasequestions
(willbeprovidedtoyou)
Formstudygroups:ForlearningtogetherandforProjectsubmission
Bythisweekend,sendmethedetailsofthegroups(Name,Section,Reg
number,emailid,groupnumber)
Contactmewhenindoubtorhaveanyquery:Office K410,
arpitag@iimcal.ac.in Sendmeanemailorcallmebeforeyouwantto
come.
TheDonts
Dontbelatefortheclass,Dontpostponeyourwork
Dontviolateacademicintegrity HeavyPenalties
Grading:2Quizzes(20%),Midterm(30%),EndTerm(35%),Project(15%)
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 LearningGoals Session1
WhyshouldyoulearnFinancialAccounting?
WhatisAccounting?
UsersandPrincipalusesofaccountinginformation
BusinessGoalsandBusinessActivities
BasicAccountingEquation,EventVsTransaction
Effectoftransactionsonaccountingequation
ElementsofFinancialStatements:Assets,Liabilities,OwnersEquity,
Dividends,RetainedEarnings,Revenues,Expenses
FinancialStatementsandInterrelationships
MariaCaseQuestions

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 WhyshouldyoulearnFinancialAccounting?
AccountingistheLanguageofBusiness
Companyusesthelanguagetospeakaboutitsfinancialperformance,
positionandcashflows
Analysts,investorsandotherusersunderstandthelanguageandrely
ontheinformationtomaketheirdecisions

Amanagerneedstounderstandthebusinesslanguagesothat
Hecanunderstandinformationcommunicated
Example:SalesTarget
Hecanusethelanguagetocommunicatewhatheintendstodo
Example:IncreaseinROIinsouthernmarkets
Hecanunderstandtheimplicationsofhisactionsandthewayhis
actionsaregoingtobeevaluated
Example:Performancebonus

WhywasMarianotabletotellherfatherhowwasherbusinessgoing?
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 Language ofBusiness
InfosysConferencecallon13th April2017:AddressedbyCEOVishalSikka
FY17 revenues crossed $10 billion... For the year ended March 2017, it reported a consolidated net
profit Rs 14,353 crore, up 6.40%, against Rs 13,489 crore. It will pay up to Rs 13,000 crore, or $2 billion,
to shareholders via dividend or share buyback in FY18. Revenues are expected to grow 6.5%8.5% in
constant currency in FY18.

Media:TCSrankstopintermsofcompanieswithhighestmarketcapitalisation inIndia.Itsmarket
capitalisation wasatRs4,51,606crore.TCSisfollowedbyRILatRs4,45,725crore (BS,3May2017)

HINDALCO INDUSTRIESSEES FREE CASH FLOW AFTERMANYYEARS:

Hindalco IndustriesLimited(HIL)sawfreecashflowinseveralyearsafteraheavycapitalexpenditure
todoubleitscapacityamidstglobalcommoditydownturn.AccordingtoSatish Pai,thenewChief
ExecutiveOfficer(CEO)ofHIL,thecompanyisfocusingonreducingitsleverageratio bysellingnon
coreassetsandimprovingitsoperatingprofit. (ET,21Sep2016)

HILrose4.09%toRs 194.75onBSEafterthecompany'soverseassubsidiary,Novelis Inc,reported

goodQ4March2017resultsyesterday,10May2017.(ET,11May2017)

FITCH DOWNGRADES RCOM; SAYS DEFAULT A 'REAL POSSIBILITY:

Fitch Ratings has announced a downgrade of telecom operator Reliance Communications (RCom) to
junk grade saying that loan default is a 'real possibility'. It has also highlighted RCom's poor liquidity
and excessive refinancing riskThe company has already been downgraded by Moody's, ICRA and
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CARE.(FE, 02 Jun 2017;Pg 9)
 WhatisAccounting
Aninformationsystemthatmeasures,processes,andcommunicatesfinancial
informationaboutaneconomicentitytohelpusersmakedecisions

Financial
Statements
Balance
Users/
Business Sheet For
Data
Accounting Decision Makers
Activities: Income
(Transactions) Measure, Process, Statement Internal Users
& communicate Cash Flow
Operating External Users
Statement
Investing
Retained
Financing Earnings
Statement

Decisions/Actions
AccountingisalinkbetweenBusinessactivities& Decisionmakers
7 7
 BusinessGoalsandBusinessActivities
ABusiness isdefinedas:
Aneconomicunitthataimstosellgoodsandservicesto
customersatpricesthatwillprovideanadequatereturntoits
owners
BusinessGoals
Profitability:Theabilitytoearnenoughincometoattractand
holdinvestors.
Liquidity:Theabilitytoearnenoughfundsavailable(cash)to
paydebtswhentheyaredue.
BusinessActivities usedtoachievethegoals:
Financing
Investing
Operating
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 BusinessActivities
FinancingActivities Includesobtainingfundstobeginoperationsandcontinue
operating
Borrowings: PartytowhomamountsareowedareCreditors/Lenders
Amountsowed/obligationsofbusinessarecalledLiabilities
Issuingshares:Amountspaidbystockholderstobuysharesgivesriseto
CommonStock PaymentstostockholdersarecalledDividends

InvestingActivities Spendingfundsinproductiveways:Purchaseofresourcesa
companyneedstooperate
BuyingLand,Buildings,Equipment,Furnitureetc. Resourcesownedbya
businessarecalledAssets

OperatingActivities Onceabusinesshastheassetsitneeds,itcanbeginits
operations.Includes
Selling goodsandservicestocustomers Amountsearnedfromsaleof
productsarecalledRevenues
Employing&payingmanagersandworkers,buying&producinggoodsand
services,payingtaxes TheseareExpenses 9
 Users:Whousesaccountinginformation?
AccountingisalinkbetweenBusinessactivities& Decisionmakers

DecisionMakers/Users

INSIDERS OUTSIDERS

Management ThosewithDirect FinancialInterest

HumanResources
Investors
Marketing
Creditors/Lenders
Operations Thosewith IndirectFinancialInterest
Production TaxAuthorities
Finance RegulatoryAgencies
LabourUnions
Customers
EconomicPlanners
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Questions Asked by Insiders
HR: Can we afford to give our
employees a pay raise?
Marketing: What price for our
product will maximize net
income?
Production: Which product line
is most profitable?
Finance: Is cash sufficient to
pay dividends?
Management Accounting:
Facilitates planning and control
Uses
Questions Asked by Outsiders
Investors: Are the earnings adequate? Is
the competitor doing better ?
Creditors/Lenders: Does it have enough
cash to pay its obligations as they come
due?
Tax Auth. : Does it comply with tax laws ?
Regulatory Agencies like SEBI: Is it
operating within prescribed rules?
Labour Unions : Is it possible to negotiate
for higher wages?
Customers: Does it have the ability to supply
quality goods in time
Financial Accounting:
Promotes Exchange of Resources 11
 Accountingiscomplex
Aninformationsystemthatmeasures,processes,andcommunicatesfinancial
informationaboutaneconomicentitytohelpusersmakedecisions
Management
GAAP: Choice
Concepts, Financial
Standards Statements
Balance Users/
Business Sheet For
Data
Accounting Decision Makers
Activities: Income
(Transactions) Measure, Process, Statement Internal Users
Operating & communicate Cash Flow External Users
Investing Statement
Financing Statement of
Auditors, Board, Retained
Companies Law, Earnings
Market Regulator Analysts, CRA , Media

Decisions/Actions
AccountingisalinkbetweenBusinessactivities& Decisionmakers
12 12
 EventVsTransaction
Whatdoesaccountingmeasure?Businesstransactions

ABusinessTransaction:Aneconomiceventthataffectsthefinancialposition
ofabusiness
Itcanbeanexchangeofvalue(likePurchase,Sale,Payment,
Collection,Loan)
Itcanbeaneventthathavethesameeffectasanexchangeofvalue
(nonexchangetransactionlikeLossfromfire,flood,theft,Physical
wearandtearonequipment,Accumulationofinterest)

EverytransactionaffectstheBASICACCOUNTINGEQUATION

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 FinancialPosition:BasicAccountingEquation
Economic Resources (OWNED) = Equities (OWED)

Economic Resources = Creditors Equities + Stockholders (or Owners) Equity

Assets = Liabilities + Owners Equity

Assets = Liabilities + Common stock + Retained Earnings

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 WhetherTransaction?
Arethefollowingeventsrecordedintheaccountingrecordsastransactions?

Event Criterion Record/

dontRecord
1 GMpurchases anofficebuilding Isthe Record
financial
2 GAP announcesanewmarketingstrategy DontRecord
position
3 Wiproreceives a newcontract (assets, DontRecord
4 Customer buysaproduct liabilities,or Record
stockholders
5 Infosyspays wagestoitsworkers Record
equity)ofthe
6 Kundu travelsdiscussesa guidedtripwitha company DontRecord
potentialcustomer changed?
7 CostofSuppliesusedbyABCLtd Record

Alltransactionsareevents.
Butalleconomiceventsarenottransactions.
OnlyTransactionsarerecorded.
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 WhetherTransaction?
Arethefollowingeventsrecordedintheaccountingrecordsastransactions?

Event Criterion Record/

dontRecord
1 GMpurchases anofficebuilding Isthe Record
financial
2 GAP announcesanewmarketingstrategy DontRecord
position
3 Wiproreceives a newcontract (assets, DontRecord
4 Customer buysaproduct liabilities,or Record
stockholders
5 Infosyspays wagestoitsworkers Record
equity)ofthe
6 Kundu travelsdiscussesa guidedtripwitha company DontRecord
potentialcustomer changed?
7 CostofSuppliesusedbyABCLtd Record

Alltransactionsareevents.
Butalleconomiceventsarenottransactions.
OnlyTransactionsarerecorded.
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 FinancialPosition:BasicAccountingEquation
Economic Resources (OWNED) = Equities (OWED)

Economic Resources = Creditors Equities + Stockholders (or Owners) Equity

Assets = Liabilities + Owners Equity

Ifanassetincreases,theremustbeacorresponding
decreaseinotherasset,increaseinaliability,orincreaseinOwnersEquity
Everytransactionhasdualeffect(doublesided)onBasicAccountingEquation
i.e.itaffectsatleasttwoitemsintheaccountingequation
Theaccountingequationmustalwaysbalance:thetwosidesoftheequation
mustalwaysbeequal
Itisimportanttoidentifythespecificeffectsofeverytransactiononthe
accountingequation.TheprocessiscalledTransactionAnalysis.

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 ExerciseonTHEACCOUNTINGEQUATION
A = L + SE
$125,000 = $75,000 + SE
SE = $50,000
TheliabilitiesofACLtdequalonethirdoftotalassets,andstockholders
equityis$90,000.Whatistheamountofliabilities?
Assets = 1/3 Assets + $90,000
2/3 Assets = $90,000
Assets = $135,000
Liabilities = 1/3 $135,000 = $45,000
Atthebeginningoftheyear,LCsassetswere$6,20,000,anditsstock
holdersequitywas$300,000.Duringtheyear,assetsincreased$90,000and
liabilitiesdecreased$45,000.Whatisstockholdersequityattheendofthe
year?
Beginning: $620,000 = Liabilities + $300,000
Liabilities = $320,000
$620,000 = $320,000 + $300,000
Change: +90,000 45,000
End: $710,000 = $275,000 + Stockholders'Equity
End: Stockholders'Equity = $435,000 18
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 Accountingiscomplex
Aninformationsystemthatmeasures,processes,andcommunicatesfinancial
informationaboutaneconomicentitytohelpusersmakedecisions
Management
GAAP: Choice
Concepts, Financial
Standards Statements
Balance Users/
Business Sheet For
Data
Accounting Decision Makers
Activities: Income
(Transactions) Measure, Process, Statement Internal Users
Operating & communicate Cash Flow External Users
Investing Statement
Financing Statement of
Auditors, Board, Retained
Companies Law, Earnings
Market Regulator Analysts, CRA , Media

Decisions/Actions
AccountingisalinkbetweenBusinessactivities& Decisionmakers
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CommunicatingwithUsers Summarizesrevenues
earned&expenses
IncomeStatement incurredoveran
Weiss Consultancy, Inc. accountingperiod
Income Statement
For the Month Ended December 31, 2014 Showsiftheentityhas
earnedprofits
Revenues Datereflectsrevenues
Commissions andexpensesincurred $14,000 Netincomeif
earned overaperiodoftime Revenues>Expenses,
Expenses o.w.NetLoss
Equipment rental $2,800
FlowReport
expense
Wages expense 1,600 Use:Pastnetincome
Utilities expense 1,200 providesinformation
Total expenses 5,600 forpredictingfuture
Income before income $8,400 netincome
taxes
investors,lenders
Income taxes expense 1,200
Net income $7,200
Netincomefigureusedtoprepare
statementofretainedearnings 20
CommunicatingwithUsers

StatementofRetainedEarnings
Weiss Consultancy, Inc.
Shows
Statement of Retained Earnings changesin
For the Month Ended December 31, 2014 retained
earningsover
Retained earnings, December 1, 2014 $0 anaccounting
Net income for the month 7,200 period
Subtotal $7,200
Less dividends 2,400
Retained earnings, December 31, 2014 $4,800

Netincomefigurecomes
Endingbalanceofretained
fromincomestatement
earningsisneededin
preparingthebalancesheet

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CommunicatingwithUsers
Datereflects
BalanceSheet accountbalancesas
Weiss Consultancy, Inc. ofacertaindate
Balance Sheet
Reports assets and 31-Dec-2014
claims to assets at a
specific point in time. Assets Liabilities
Cash $61,200 Accounts payable $2,400
Status or stock
Accounts receivable 4,000
report Supplies 2,000 Stockholders Equity
Use: Evaluate
Land 40,000
Building 100,000 Common stock $200,000
reliance on debt vs.
Retained earnings 4,800
equity in funding its
Total stockholders equity 204,800
assets, Cash

Total assets $207,200 Total liabilities and $207,200

stockholders equity

EndingbalanceofRetainedEarningscomes
fromstatementofretainedearnings

Assets = Liabilities + Stockholders Equity. 22

 CommunicatingwithUsers

StatementofCashFlows
Weiss Consultancy, Inc. Beginswithanet
Where did cash Statement of Cash Flows incomefigure
come from For the Month Ended December 31, 2012
fromincome
during the statement
Cash flows from operating activities
period?
Net income $ 7,200
Adjustments to reconcile net income to net
How was cash cash flows from operating activities
used during the Increase in accounts receivable ($4,000)
period? Increase in supplies (2.000)
Increase in accounts payable 2,400 (3,600)
What was the Net cash flows from operating activities $ 3,600
Cash flows from investing activities
change in the Purchase of land ($40,000)
cash balance Purchase of building (100,000)
during the Net cash flows from investing activities (140,000)
Cash Flows from financing activities
period?
Investments by stockholders $200,000
Dividends (2,400)
Cash effect of
Net cash flows from financing activities 197,600
Operating, Net increase (decrease) in cash $61,200
Financing and Cash at beginning of month 0
Cash at end of month Cashatendofmonthshouldbe $61,200
Investing
thesameasCashaccount
balanceonbalancesheet 23
 Interrelationships

3.

1.

2.

20062017 IIMC2015 Prof.ArpitaGhosh 24

Interrelationships

25
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 BasicAccountingEquation Extension

Assets = Liabilities + Common Stock + Retained Earnings (RE)

Change in Retained earnings during the year ( RE )

= (Revenues t Expenses t Dividends t )
Retained Earnings at the end of the year (REt)
= RE t-1 + RE
= RE t-1 + (Revenues t Expenses t Dividends t )

= (Revenues Expenses Dividends) accumulated over the life of the entity

Thus,

Assets = Liabilities + Common stock + (Revenues - Expenses Dividends)

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 ImpactoftransactionsonAccountingEquation
Transactions Assets = Liabilities+ ShareholdersEquity

Commonstockissuedfor Cash+500,000 CommonStock

cash +500,000
Loanobtainedfrombank Cash+100,000 Loan+100,000

BoughtBuildingoncash Cash200,000
Building+200,000

BoughtEquipmenton Equipment+300,000 Lender+300,000

credit
Purchasedsuppliespartly Supplies+120,000 AccountsPayable
incashandpartlyoncredit +100,000
Cash20,000

Madepaymentforprior Cash 80,000 AccountsPayable

purchaseoncredit 80,000
Soldgoodsoncredit AccountsReceivable Sales+50,000
+50,000
ReceivedCashfromprior Cash
Sales +40,000
AccountsReceivable
40,000
PaidOfficeRent Cash 1,000 RentExpense
1,000
PaidDividend Cash2,000 Dividend2,000
 ImpactoftransactionsonAccountingEquation
Transactions Assets = Liabilities+ ShareholdersEquity

Commonstockissuedfor Cash+500,000 CommonStock

cash +500,000
Loanobtainedfrombank Cash+100,000 Loan+100,000

BoughtBuildingoncash Cash200,000
Building+200,000

BoughtEquipmenton Equipment+300,000 Lender+300,000

credit
Purchasedsuppliespartly Supplies+120,000 AccountsPayable
incashandpartlyoncredit +100,000
Cash20,000

Madepaymentforprior Cash 80,000 AccountsPayable

purchaseoncredit 80,000
Soldgoodsoncredit AccountsReceivable Sales+50,000
+50,000
ReceivedCashfromprior Cash
Sales +40,000
AccountsReceivable
40,000
PaidOfficeRent Cash 1,000 RentExpense
1,000
PaidDividend Cash2,000 Dividend2,000
 Summarize

ASSETS = LIABILITIES SHAREHOLDERS EQUITY

Cash 337,000 Accounts Payable 20,000 Common Stock 500,000

Accounts Receivable 10,000 Loan 100,000 Retained Earnings 47,000

Supplies 120,000

Building 200,000 Lender 300,000

Equipment 300,000

967,000 = 420,000 547,000

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 CaseQuestions:Week1 OnMaria
Statethetransactionswhichtookplaceduringthetwomonthsof
operationsofMariasBusiness
Foreachtransaction,analyzeinthefollowinglines:
NametheaccountswhichmightbeinvolvedandclassifythemasA,L
orSE
Showhoweachofthetransactionsaffecttheaccountingequation
Checkiftheaccountingequationstillholdsafteritisaffectedbyallthe
transactions.
Comparetheaccountingequationatthebeginningandattheendofthe
twomonthsperiod.

SegregatethetransactionsinvolvingCash
ClassifythemintoOperating,FinancingandInvestingActivities
SegregatethetransactionsinvolvingRevenues andExpenses.
Calculate:totalrevenues totalexpenses.

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ThankYou