46 terms

Financial Statement analysis Test 3

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Deferred Tax Assets occur when?
tax payment is greater than the tax expense for financial reporting purposes
Deferred tax assets represent future?
Tax deductions that reduce taxes payable
Parsimonious method inputs
1. sales growth
2. NOPM
3. NOAT (we use year end NOA instead of the average because we want to forecast year end values)
NOPM
NOPAT / Sales
NOAT
Sales / (NOA Beg + NOA End)
Pre-2019 standards for reporting of leases
Capital lease method or operating lease method

Capital lease method - lease asset depreciates like a long term asset and lease liability is amortized like debt

Operating lease method - lease payments are reported as a rent expense and impact to assets and liabilities are not reported
Financial reporting consequences for reporting a lease as "operating"?
- lease asset is not reported on the balance sheet
- lease liability is not reported on the balance sheet
- Return on operating assets appears higher than it is
- In early years rent expense is less than the depreciation and interest expense from capitalizing the asset (makes net income look higher than it is)
Impact of new accounting standards on leases?
Nearly all leases must be recognized on the balance sheet as an amount equal to the present value of lease payments
(capitalized)
Under the new accounting standard capitalized leases must be categorized as either?
financial lease or operating lease
financial lease
lease control is transferred to the lessee
operating lease
only lease use is transferred to lessee not control
in the new standard a lease expense for an operating lease is?
simply straight-line amortization of the lease payments
in the new standard a lease expense for a finance lease is?
- amortization of the lease asset

- interest expense on the lease asset
Failure tyo capitalize operating lease assets and lease liabilities distorts an analysis of the company, specifically?
- Operating profit margin is understated
- Asset turnover is overstated
- Financial leverage is understated
two types of post-retirement benefit plans
- defined contribution plan

- defined benefit plan
defined contribution plan
company makes periodic contributions to an employee's account. Example is a 401k match. Plan is based on the company's contribution
Defined benefit plan
plan is based on years of service. It is the company's responsibility to make sure they are properly funding the plan. These are commonly known as pension funds and have led to the bankruptcy of firms
Traits of a defined contribution plan
- when a company becomes liable to make its contribution it accrues the liability and related expense
- When it makes a payment these liability and expenses are reduced
- The amount of liability is certain and satisfied once paid
defined contribution plans are similar to?
a simple accrual of wages payable
How is accounting handled for defined benefit plans?
The accounting is not simple. The amount that will need to be paid is subjective and typically based on an employee's final salary and years of service which could be 30-40 years down the road.
Projected benefit obligation (PBO)
the present value of the estimated benefit payments to retirees
The estimate of the PBO involves?
- number of employees who will reach retirement age while employed with the company
- Salary levels at retirement
- Years of service at retirement
- Years over which annual payments will be made (this requires estimate of life span)
Pension Plan Assets

Actual Returns
the value of assets from gain in dividends, equity, and interest
Three factors that impact the pension plan assets
actual returns, company contributions, benefit payments
Pension Plan Assets

Company contributions
Assets increase when a company contributes additional cash to the investment portfolio
Pension Plan Assets

Benefit Payments
The pension plan assets decrease by the amount of benefits paid to retirees during the period
Pension Plan Liabilities increase and decrease to what four factors?
Service cost, interest cost, actuarial losses and gains, benefits paid to retirees
Pension Plan Liabilities

Service Cost
the increase in the PBO resulting from the additional (future) pension benefits earned by employees during the current year. The PBO increases when more employees are hired, wage rates increase, and years of service to the company increase. These items increase the future pension benefits to which employees are entitled.
Pension Plan Liabilities

Interest Cost
the accrual of interest on the outstanding pension liability. The PBO is the present value of the estimated future benefit payments and, each year, the liability increases as more interest is accrued.
Pension Plan Liabilities

Actuarial losses and gains
increases or decreases in the PBO as a result of changes in the estimates used to compute the PBO—these are called actuarial assumptions. Examples of actuarial assumptions include changes in estimates of wage inflation (used to estimate final salary levels), termination and mortality rates (used to estimate the anticipated pool of retirees and the pay-out period), and the discount rate (used to compute the present value of future obligations).
Pension Plan Liabilities

Benefits paid to retirees
pension assets and liabilities are reduced by the amount of benefits paid to retirees
Pension Plan

Funded Status
The difference between the fair value of the pension assets and the computed PBO at the end of the year
Pension Plan

Funded Status is reported as an asset or liability when?
Asset = Total Assets > PBO

Liability = PBO > Total Assets
When preparing income tax returns companies prepare financial statements using?
The internal revenue code
for financial reporting companies use what type of depreciation?
straightline
for tax returns companies usually use what type of depreciation?
accelerated
deferred tax assets arise when?
Tax payments are greater than tax expense for financial reporting
deferred ta assets represent future tax deductions that?
reduce taxes payable which provides a future benefit
current tax expense
amount payable (in cash) to tax authorities. They are determined from the company's tax returns
effective tax rate
tax expense divided by pretax income
the federal statutory tax rate for corporations is the rate prescribed in
current tax regulations
companies must provide a schedule that reconciles the effective tax rate with?
the federal statutory rate
Financial forecasts are generally used to?
- value stocks
- estimate a firm's ability to repay
- evaluate alternative strategic investment decisions
NOAT
Sales/Average NOA
NOA
Operating Assets - Operating Liabilities
NNO
net non operating liabilities