Financial Statements Exercise & Solution

A. Peerawich Thoviriyavej peerawicht@hotmail.com

Income Statement
Constructing an Income Statement
Use the following information to construct an income statement for Gap, Inc. (GPS). The Gap is a specialty retailing company that sells clothing, accessories, and personal care products under the Gap, Old Navy, Banana Republic, Piperlime, and Athleta brand names. Use the scrambled information below to calculate the firms gross profits, operating income, and net income for the year ended January 31, 2009. Calculate the firms earnings per share and dividends per share.

Income Statement

Income Statement

Evaluating a Firms EPS

EPS = Net income Number of shares outstanding
Example 1: A firm reports a net income $90 million and has 35 million shares outstanding, what will be the earnings per share (EPS)? EPS = Net income Number of shares = $90 million $35 million = $2.57

Income Statement: Check Yourself

Reconstruct the Gaps income statement assuming the firm is able to cut its cost of goods sold by 10% and where the firm pays taxes at 40% tax rate. What is the firms net income and earnings per share?

Picture the IS
Revenues
Less: Cost of goods sold
Equals Gross profit
Equals: net Operating income

Less: Operating expenses

Less: Interest expense

Equals: earnings Before taxes

Less: Income taxes

Equals: NET INCOME

Finishing the Math

Revenues = $14,526,000,000

Less: Cost of goods sold = $8,171,100,000

Less: Operating expenses =$3,899,000,000

Equals: profit =$6,354,900,000

Equals: net Operating income =$2,455,900,000

Less: Interest expense =$1,000,000

Less: Income taxes (40%) =$9,819,600,000

Equals: earnings Before taxes =$2,454,900,000

Equals: NET INCOME =$1,472,940,000

Conclusion
The firm is profitable since it earned net income of $1,472,940,000. The shareholders were able to earn $2.06 per share.
New EPS:= net income #of shares = $1,472,940,000 716,296,296 = $2.06

The Balance Sheet

Balance Sheet
Constructing a Balance Sheet
Construct a balance sheet for Gap, Inc. (GPS) using the following list of jumbled accounts for January 31, 2009. Identify the firms total assets and net working capital:

Balance Sheet

The Balance Sheet

Speaking in Finance.

Balance Sheet: Check Yourself

Reconstruct the Gaps balance sheet to reflect the repayment of $1 billion in short-term debt using a like amount of the firms cash. What is the balance for total assets and current liabilities?

Our New Balance Sheet

Cash Inventories Other current assets Total current assets 756,000,000 1,506,000,000 743,000,000 3,005,000,000 Current liabilities 1,158,000,000

Total current liabilities

1,158,000,000

Net Property, Plant and equipment

Other long-term assets

2,993,000,000

Long-term liabilities
Common Equity

1,019,000,000

626,000,000

4,387,000,000

Total Assets

$6,564,000,000

Total Liabilities and Equity

$6,564,000,000

Conclusion
We can make the following observations from Gaps Balance sheet:

The total assets of $6,564,000,000 is financed by a combination of current liabilities, long-term liabilities and owners equity. Owners equity accounts for $4,387,000,000 of the total. The firm has a healthy net working capital of $1,847,000,000 (3,005,000,000 minus 1,158,000,000).

Cash Flow Statement

Recall: Source of cash is any activity that brings cash into the firm. For example, sale of equipment. Use of cash is any activity that causes cash to leave the firm. For example, payment of taxes.

Require Financial Statement: Balance Sheet

Cash Flow Analysis

Why did the cash balance decline by $4.5 million from 2009 to 2010? 1.Accounts receivable increased by $22.5 million representing an increase in uncollected cash from credit sales. Thus it represents $22.5m of use of cash to invest in accounts receivable.

Cash Flow Analysis (cont.)

2. Inventory increased by $148.50 million indicating use of cash to procure inventory. 3. Equipment increased by $175.50 million indicating use of cash to invest in equipment. In general,
an increase in an asset account = use of cash

Cash Flow Analysis (cont.)

4. Accounts Payable, credit extended to the firm, increased by $4.5million. Thus source of cash increased by $4.5million due to accounts payable. 5. Long-term debt increased by $51.75 million indicating a source of cash. 6. Short-term debt decreased by $9 million indicating use of cash to pay off the debt.

Cash Flow Analysis (cont.)

7. Retained earnings increased by $159.75 million representing a source of cash to the firm from the firms operations. In general,
An increase in a liability account = source of cash

Cash Flow Analysis (cont.)

Change in cash balance = Sources of cash Use of Cash = $216 - $220.50 = -$4.50
Sources of Cash
Increase in Accounts Payable = $4.50 Increase in long-term debt =$51.75 Increase in retained earnings = $159.75

Uses of Cash
Increase in Accounts Receivable $22.50 Increase in inventory = $148.50 Increase in net plant and equipment = $40.50 Decrease in short-term notes = $9

Total Sources of cash = $216.00

Total Uses of cash = $220.50

Cash Flow Analysis (cont.)

An analysis of H.J. Boswells operations reveals the following for 2010:

The firm used more cash than it generated, resulting in a deficit of $4.5 million The primary source of cash flow was retained earnings ($159.75 million) followed by long-term debt ($51.75 million) The largest use of cash was for acquiring inventory at $148.5 million.

Cash Flow Analysis Summary

Sources of Cash Uses of Cash

Decrease in an asset account Increase in a liability account Increase in an owners equity account

Increase in an asset account Decrease in a liability account Decrease in an owners equity account

H.J. Boswell, Inc. Statement of Cash Flows

Interpreting the SCF

You are in your second rotation in the management training program at a firm that finance new start up and your supervisor calls you into her office on Monday morning to discuss your next training rotation. When you enter her office you are surprised to learn that you will be responsible for compiling a financial analysis of new venture. Thus, your boss askes you to practice with this Chesapeake Energy Inc. (CHK). Your boss suggests that you begin your analysis by reviewing the firms cash flow statements for 2004 through 2007 (found below):

Analysis

Your Verdict

Source:

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