The Balance Sheet and Financial Disclosures

Copyright 2007 by The McGraw-Hill Companies, Inc. All rights reserved.

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Learning Objectives
Describe the purpose of the balance sheet and understand its usefulness and limitations.

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The Balance Sheet

The purpose of the balance sheet is to report a companys financial position on a particular date.
Limitations: The balance sheet does not portray the market value of the entity as a going concern nor its liquidation value. Resources such as employee skills and reputation are not recorded in the balance sheet. Usefulness: The balance sheet describes many of the resources a company has available for generating future cash flows. It provides liquidity information useful in assessing a companys ability to pay its current obligations. It provides long-term solvency information relating to the riskiness of a company with regard to the amount of liabilities in its capital structure.

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Balance Sheet

Claims against resources (Liabilities) Resources (Assets) Remaining claims accruing to owners (Owners Equity)

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Learning Objectives
Distinguish between current and noncurrent assets and liabilities.

Identify and describe the various balance sheet asset classifications.

FedEx Corporation Balance Sheet 31-May (In millions) Assets: Current assets: Cash and cash equivalents Receivables, less allowances Spare parts, supplies, and fuel Deferred income taxes Prepaid expenses and other Total current assets Property and equipment, at cost: Aircraft and related equipment Package handling & ground support equipment and vehicles Computer & electronic equipment Other Less accumulated depreciation Net property and equipment Other long-term assets: Goodwill Prepaid pension cost Intangible and other assets Total other long-term assets Total Assets 2004 2003

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Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.

$ $

1,046 $ 3,027 249 489 159 4,970 $ 7,001 $ 5,296 3,537 4,477 20,311 11,274 9,037 2,802 1,127 1,198 5,127 19,134 $

538 2,627 228 416 132 3,941 6,624 5,013 3,180 4,200 19,017 10,317 8,700 1,063 1,269 412 2,744 15,385

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Current Assets
Current Assets Cash Cash Equivalents Short-term Investments Receivables Inventories Prepayments

Will be converted to cash or consumed within one year or the operating cycle, whichever is longer.

Cash equivalents include certain negotiable items such as commercial paper, money market funds, and U.S. treasury bills.

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Current Assets
Current Assets Cash Cash Equivalents Short-term Investments Receivables Inventories Prepayments

Will be converted to cash or consumed within one year or the operating cycle, whichever is longer.

Cash that is restricted for a special purpose and not available for current operations should not be classified as a current asset.

Operating Cycle of a Typical Manufacturing Company

Use cash to acquire raw materials

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Convert raw materials to finished product

Deliver product to customer

Collect cash from customer

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Noncurrent Assets
Noncurrent Assets Investments and Funds Property, Plant, & Equipment Intangibles Other

Not expected to be converted to cash or consumed within one year or the operating cycle, whichever is longer

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Noncurrent Assets
Investments and Funds 1. Not used in the operations of the business

Used Intangible Assetsof the 1. in the operations

business but have no physical substance 2. 3. Includes patents, copyrights, and franchises Reported net of accumulated amortization Other Assets 1. Includes long-term prepaid expenses and any noncurrent assets not falling in one of the other classifications

2.

Includes both debt and equity securities of other corporations, land held for speculation, noncurrent receivables, and cash set aside for special purposes Property, Plant and Equipment

1. 2.

Are tangible, long-lived, and used in the operations of the business Includes land, buildings, equipment, machinery, and furniture as well as natural resources such as mineral mines, timber tracts, and oil wells Reported at original cost less accumulated depreciation (or depletion for natural resources)

3.

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Learning Objectives
Identify and describe the two balance sheet liability classifications.

FedEx Corporation Balance Sheet 31-May (In milions) Liabilities: Current liabilities: Current portion of long-term debt Accrued salaries & employee benefits Accounts payable Accrued expenses Total current liabilities Long-term debt, less current portion Other long-term liabilities Deferred income taxes Pension, postretirement healthcare and other benefit obligations Self-insurance accruals Deferred lease obligations Deferred gains, principally related to aircraft transactions Other liabilities Total other long-term liabilities Total liabilities 2004 2003

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750 $ 308 1,062 724 1,615 1,168 1,305 1,135 4,732 3,335 2,837 1,709 1,181 768 591 503 426 60 3,529 11,098 882 657 536 466 455 57 3,053 8,097

Liabilities are probable future sacrifices of economic benefits arising from present obligations of a particular entity to transfer assets or provide services to other entities as a result of past transactions or events.

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Current Liabilities
Current Liabilities Accounts Payable Notes Payable Accrued Liabilities Current Maturities of Long-Term Debt

Obligations expected to be satisfied through current assets or creation of other current liabilities within one year or the operating cycle, whichever is longer

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Long-term Liabilities
Long-Term Liabilities Notes Payable Mortgages Bonds Payable Pension Obligations Lease Obligations

Obligations that will not be satisfied within one year or operating cycle, whichever is longer

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FedEx Corporation Balance Sheet 31-May (In millions, except shares) Common Stockholders' Investment: Common stock, $.10 par value, 800 million shares authorized, 300 million shares issued for 2004 and 299 million shares issued for 2003 Additional paid-in capital Retained earnings Accumulated other comprehensive loss Less deferred compensation and treasury stock at cost Total common stockholders' investment 2004 2003

30 $ 1,079 7,001 (46) 8,064 28 8,036 $

30 1,088 6,250 (30) 7,338 50 7,288

Shareholders Equity is the residual interest in the assets of an entity that remains after deducting liabilities.

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Shareholders Equity
Capital Stock Deferred Compensation

Retained Earnings

Treasury Stock

Accumulated Other Comprehensive Income

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Learning Objectives
Explain the purpose of financial statement disclosures.

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Disclosure Notes
Summary of Significant Accounting Policies
Conveys valuable information about the companys choices from among various alternative accounting methods.

Subsequent Events

A significant development that takes place after the companys fiscal year-end but before the financial statements are issued.

Noteworthy Events and Transactions

Transactions or events that are potentially important to evaluating a companys financial statements, e.g., related parties, errors and irregularities, and illegal acts.

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Learning Objectives
Explain the purpose of managements discussion and analysis.

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Management Discussion and Analysis

Provides a biased but informed perspective of a companys operations, liquidity, and capital resources.

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Managements Responsibilities

Preparing the financial statements and other information in the annual report.

Maintaining and assessing the companys internal control procedures.

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Learning Objectives
Explain the purpose of an audit and describe the content of the audit report.

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Auditors Report
Expresses the auditors opinion as to the fairness of presentation of the financial statements in conformity with generally accepted accounting principles

Must comply with specifications of the AICPA and the PCAOB

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Auditors Opinions
Unqualified
Issued when the financial statements present fairly the financial position, results of operations, and cash flows in conformity with GAAP Issued when there is an exception that is not of sufficient seriousness to invalidate the financial statements as a whole

Qualified

Adverse

Issued when the exceptions are so serious that a qualified opinion is not justified

Disclaimer

Issued when insufficient information has been gathered to express an opinion

Compensation of Directors & Top Executives Proxy Statement Information Summary compensation table Table of options granted Table of options holdings
A proxy statement is sent each year to all shareholders, usually in the same mailing with the annual report.

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Learning Objectives
Describe the techniques used by financial analysts to transform financial information into forms more useful for analysis.

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Using Financial Statement Information

Comparative Financial Statements
Allow financial statement users to compare year-to-year financial position, results of operations, and cash flows Expresses each item in the financial statements as a percentage of that same item in the financial statements of another year (base amount) Involves expressing each item in the financial statements as a percentage of an appropriate corresponding total, or base amount, within the same year. Allows analysts to control for size differences over time and among firms

Horizontal Analysis

Vertical Analysis

Ratio Analysis

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Learning Objectives
Identify and calculate the common liquidity and financing ratios used to assess risk.

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Liquidity Ratios
Current assets Current ratio = Current liabilities Measures a companys ability to satisfy its short-term liabilities

Quick assets

Acid-test ratio

Current liabilities

Provides a more stringent indication of a companys ability to pay its current liabilities

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Liquidity RatiosFederal Express

$4,970 $4,732 Current ratio = 1.05

$4,073
$4,732 Acid-test ratio = .86

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Financing Ratios
Total liabilities Debt to equity = ratio Shareholders equity Indicates the extent of reliance on creditors, rather than owners, in providing resources

Times interest earned ratio

Net income + Interest expense + Taxes

Interest expense

Indicates the margin of safety provided to creditors

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Financing RatiosFederal Express

$11,098

$8,036

= 1.38

Debt to equity ratio

$1,455 $136

= 10.70

Times interest earned ratio

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Reporting Segment Information

Appendix 3

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Reporting by Operating Segment

Many companies operate in several business segments as a strategy to achieve growth and to reduce operating risk through diversification. Segment reporting facilitates the financial statement analysis of diversified companies. Reportable Operating Segment Characteristics
Engages in business activities from which it may earn revenues and incur expenses Discrete financial information is available Operating results are regularly reviewed by the enterprises chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance

What Amounts Are Reported By An Operating Segment

General information about the operating segment Segment profit or loss, segment assets, and the basis of measurement

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Reconciliations of the totals of segment revenues, reported profit or loss, assets, and other significant items

Interim period information

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Segment Reporting
Reporting by Geographic Area
SFAS 131 requires an enterprise to report certain geographic information unless it is impracticable to do so.

Information About Major Customers

Revenues from customers generating 10% or more of the revenue of an enterprise must be disclosed.

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End of Chapter 3