Section 12.4 — Corporate Financial Statements

  • 🧾 The Balance Sheet

  • 💰 Categories of Assets

  • 💸 Categories of Liabilities

🧾 The Balance Sheet

  • The balance sheet provides a snapshot of a company’s financial position at a specific time.

  • It shows:

    • Assets: What the company owns

    • Liabilities: What the company owes

    • Equity (Net Worth): The difference between assets and liabilities

  1. 📘 Formula:

    Assets−Liabilities = Net Worth (Equity) 

    • Analogy: Like a homeowner’s equity = home value − mortgage balance.

    • A company can buy assets using:

      • Borrowed money (liabilities)

      • Money raised by selling stock (equity)

💰 Categories of Assets

  • Current Assets

    • Easily converted to cash.

    • Examples: Cash, accounts receivable, securities, inventory.

  • Fixed Assets

    • Hard to liquidate; long-term use.

    • Examples: Real estate, furniture, equipment.

  • Other Assets (Intangible / Goodwill)

    • Hard to value or validate.

    • Examples: Trademarks, copyrights, patents, reputation, intellectual property.

💸 Categories of Liabilities

  • Current Liabilities

    • Due within 12 months.

    • Examples: Accrued wages, taxes, accounts payable, short-term interest payments.

  • Long-Term Liabilities

    • Due beyond 12 months.

    • Examples: Notes, bonds.

    • Interest due this year = current liability,
      Principal = long-term liability.

📊 Net Worth (Shareholders’ Equity)

  • Components:

    • Preferred Stock: Funds from sale of preferred shares.

    • Common Stock: Par value of issued common stock.

    • Capital in Excess of Par: Sale proceeds above par value.

    • Retained Earnings: Profits kept instead of paid as dividends.

Statements

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Statements 〰️

📈 Key Balance Sheet Ratios:

1. Working Capital

Measures short-term financial cushion.

Current Assets - Current Liabilities = Working Capital

➡ Expressed in dollars.
➡ Shows how much a company can lose and still stay operational.

2. Current Ratio

Compares liquidity between companies.

Current Assets / Current Liabilities = Current Ratio

➡ Expressed as a ratio (e.g., 2:1).
➡ Higher ratio = more liquidity.

3. Acid-Test Ratio (Quick Ratio)

Tests how liquid a company is if “everything goes bad.”

(Current Assets − Inventory) / Current Liabilities = Acid-Test Ratio

➡ Expressed as a ratio.
➡ Higher = stronger liquidity.

4. Debt Ratio

Measures long-term financial stability (“leverage”).

Long-Term Debt / (Long-Term Debt+Net Worth) = Debt Ratio

➡ Expressed as a percentage.
➡ Higher debt ratio = more leverage = less long-term liquidity.

💹 The Income Statement (Profit and Loss Statement or P&L)

  • Summarizes revenue and expenses over a fiscal period (usually a quarter).

  • Shows business performance and profitability over time.

  • Used by analysts to evaluate efficiency and profitability.

💵 Key Income Statement Metrics:

1. Earnings Per Share (EPS)

Shows earnings available to common shareholders.

Earnings Available to Common Shareholders / Number of Outstanding Shares = EPS

Example:
ABC Corp earns $20M and has 10M shares.

20M/10M=$2 EPS20M / 10M = \$2 \text{ EPS}20M/10M=$2 EPS

2. Price-to-Earnings (P/E) Ratio

Shows how much investors are paying for $1 of earnings.

Current Market Value (CMV) / EPS= P/E Ratio

Example (continuing above):
Stock price = $32, EPS = $2

32/2 = 16 P/E 

➡ Higher P/E = investors expect future growth.

✺ Review questions ✺

  • A company’s financial position at a specific point in time (assets, liabilities, and equity).

  • Assets − Liabilities = Net Worth (Equity).

  • Cash, accounts receivable, inventory.

  • Real estate, equipment.

  • Trademarks, copyrights, goodwill, intellectual property.

  • Measures liquidity; Current Assets − Current Liabilities.

  • Current Assets ÷ Current Liabilities.

  • To measure liquidity without relying on inventory.

  • How much of a firm’s capital comes from long-term debt (financial leverage).

  • Earnings ÷ Outstanding Shares.

  • Current Market Value ÷ EPS.

  • EPS = $2; P/E = 16.