FINANCE FIN2004 Lecture 2: Financial Statement Analysis
1 Example: Accounting Fraud Satyam Scandal Needs Fast Probe as Stocks Slide by Subramaniam Sharma • Jan. 9, 2009 (Bloomberg) -- India should act quickly to shore up investor confidence after an alleged accounting fraud at Satyam Computer Services Ltd triggered a plunge in stocks, a former regulator and executive said. • More than two days after chairman Ramalinga Raju claimed he’d padded Satyam’s books by $1 billion, the company’s auditors and interim management have yet to confirm any irregularities.
Example: Accounting Fraud Madoff Scandal - Investors Left With $21.2 Billion In Cash Losses • “We all know that Bernie will spend the rest of his life in prison for orchestrating perhaps the biggest investment scam of all time, but his accountants and aides helped him do the dirty work. David Friehling, Madoff's accountant, plead guilty last year to a number of charges that he issued "rubber stamp" audits.” March 13, 2010: Huffingtonpost 2
3 Example: Accounting Fraud • WorldCom, the second-largest long-distance phone company in the US, was found guilty of accounting fraud. The basis of this fraud was very similar to that of Enron in that it used window- dressing to inflate profit. However WorldCom's major sham was that they disguised $3.8 billion in expenses over 15 months. … operating costs like basic network maintenance and line-costs were booked as capital investments . Q. How does capitalizing operating costs affect financial ratios?
4 Educational Objectives • Explain and list the type of information found in an annual report , including the four basic financial statements • Know how to compute and interpret important financial ratios • Be able to compute and interpret the Du Pont Identity
5 Financial Statements and the Annual Report • An annual report is a report issued annually by a corporation to its stockholders. It contains basic financial statements as well as management’s analysis of the firm’s past operations and future prospects. • Example : Berkshire Hathaway’s website: visit for its annual reports for the past decade. • In general, see also
6 The Annual Report 1. Balance sheet – provides a snapshot of a firm’s financial position at one point in time. 2. Income statement – summarizes a firm’s revenues and expenses over a given period of time . 3. Statement of retained earnings – shows how much of the firm’s earnings were retained , rather than paid out as dividends . 4. Statement of cash flows – reports the impact of a firm’s activities on cash flows over a given period of time.