GAAP - cash, while profit is an accounting measure of...

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GAAP Revenue and expenses are recognized when earned or incurred , not when cash is collected and spent. This is called accrual accounting . The Income Statement does not reflect cash inflows and outflows. In addition, the firm has some flexibility in other items affecting earnings, such as inventory valuation methods (e.g.: LIFO, FIFO, etc.) and contra-asset accounts (e.g.: Allowance for Doubtful Accounts). 1
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Non-Cash Items In addition to the accrual impact, the Income Statement includes non-cash items . Non-cash items are expenses charged against revenue for which there is no actual cash outflow. The most common non-cash item is depreciation , where the cost of a fixed asset is expensed over the time in which it benefits the firm. The firm has choices on depreciation methods. In Finance, we add back non-cash items. 2
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Profits vs. Cash Cash flow measures the actual inflow and outflow of
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Unformatted text preview: cash, while profit is an accounting measure of periodic performance. A firm can spend operating cash flow but not profits. Thus, cash flow is broader than net income. 3 Profits vs. Cash Net income is not the same as cash flow . The firm earned $5,642 million, yet cash decreased by $65 million. More in Chapter 10. 4 Earnings Management GAAP offers firms some discretion in the preparation of financial statements. To report smooth earnings, generally to meet analyst expectations, firms manage earnings by understating or overstating income. For these reasons, using financial statement for financial analysis is limiting. 5 Non-Recurring Items Net Profit can include extraordinary or non-recurring items that will not impact future earnings. 6...
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GAAP - cash, while profit is an accounting measure of...

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