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Unformatted text preview: http://info.umuc.edu/acct-fin/fm-syll/ad630new/questions/week2.doc Week 2 Questions (chaps 2 & 3, Finance text) I. Chapter 2 1. The basic financial statements of an organization consist of the balance sheet, income statement, and statement of cash flows. a. Describe the nature of each and explain how their functions differ. b. Why have we not used the conventional statement of cash flows in our presentation, computing instead what we call free cash flows? 2. What are the differences among gross profits, operating profits and net income? 3. difference between interest expense and dividends? 4. Why is it that the common equity section in the balance sheet changes from year to year regardless of whether new shares are sold or not? 5. What is net working capital? How is it different from gross working capital? What is the difference between interest-bearing debt and noninterest-bearing debt? 6. Discuss the reasons why one firm could have positive cash flows and be headed for financial trouble, while another firm with negative cash flows could actually be in good financial condition. 7. Why is the examination of only the balance sheet and income statement not adequate in evaluating a firm? 8. Why do a firm's free cash flows from an operating perspective have to equal its free cash flows from a financing perspective? Chapter 2 Answers 2-1. a. The balance sheet represents an enumeration of a firms resources (assets) along with its liabilities and owners equity at a given date. The income statement summarizes the net results of the operation of a firm over a specified time interval. The primary distinction between these two statements is that the balance sheet shows the financial condition of a firm at a given date, whereas the income statement deals with the revenues and expenses of the firm incurred during a specified period of time. b. The conventional cash flow statement as prepared by accountants provides the information we need to know about what has happened to the firms cash and why. But it does not present it in a way that makes clear the cash flows the firms creditors and investors are providing to or receiving from the firm. Thus, we choose to reformat the presentation to show the firms free cash flowsthe cash available to distribute to the creditors and investors. We are more interested in considering cash flows from the perspective of the firms shareholders and its investors, rather than from an accounting view. We instead measure the cash flow that is free and available to be distributed to the firms investors, both debt and equity investors, or what we will call free cash flows . Thus, what we use is similar to a conventional cash flow statement presented as part of a companys financial statements, but not exactly. 2-2. Gross profits is sales less the cost of producing or acquiring the firms product or service. Operating profits is the gross profits less the operating expenses, which consist of distributing the product or service to the customer (namely, marketing expenses) and...
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This note was uploaded on 02/02/2012 for the course ACCTG 101 taught by Professor Jones during the Spring '11 term at Los Angeles Southwest College.
- Spring '11
- Balance Sheet