Financial reporting and tools

ASBPE National ConferenceAug. 4, 2011, Chicago, IL

Ceci Rodgersc-rodgers@northwestern.edu

Lecturer, Business and Economics Northwestern University

Medill School of Journalism

Goals

Understand how money flows through a company.

Understand how financial statements measure financial success or failure.

Identify the right questions to ask about each financial statement.

How money flows through a company

To be successful, every company must:

Sell something to produce revenues. Collect on those sales and keep

expenses below the cost of sales (in other words, make a profit).

Grow cash for expanding or acquiring other companies.

Success attracts investors

A company that is consistently profitable has the ability to attract and hold investment capital.

A profitable company that manages its finances well has liquidity -- the ability to pay claims and debts when they come due and to meet unexpected needs for cash.

Financial reporting

How successful a company is at selling its product, making a profit and building cash can be seen every quarter when it files a 10Q “statement of financial condition” with the SEC.

Analysts and business reporters will often refer to this set of documents simply as “earnings.”

10Q statement of financial condition

Three important pieces of the 10Q: Income statement (how profitable is

the company?) Balance sheet (what is the financial

health of the company?) Statement of cash flows (how much

liquidity does the company have?)

Income statement

Revenues (or “top line”). Ask the right questions to find out what’s behind rising or falling revenues: Quantity or volume? Price? Product mix?

Example: Caterpillar Inc. Q1

http://yahoo.brand.edgar-online.com/displayfilinginfo.aspx?filingid=7917623&tabindex=2&type=html

(see hand-out)

Measures of profit

Operating income, operating earnings Analysts pay attention to operating

income, which doesn’t include interest and taxes.

Analysts like it because it allows them to focus just on how the company’s doing in its everyday business.

Net income (GAAP) Journalists focus, rightly, on net income,

otherwise known as the “bottom line.” Sarbanes Oxley* mandated that all

companies must report earnings, or net income, according to Generally Accepted Accounting Principles.*The law passed in 2002 to prevent the kinds

of accounting tricks that allowed Enron and WorldCom to hide losses. Requires more disclosure, transparency.

Groupon IPO

Groupon’s CEO said in the company’s prospectus that it doesn’t use net income, but “Adjusted Consolidated Segment Operating Income,” which excludes the cost of marketing its coupons to subscribers.

It’s never a good sign when a company makes up its own profit metrics and tells you that net income doesn’t matter. The SEC agreed and is investigating.

Impact of costs on profit Gross margin (gross profit/revenues) %

Strips out cost of sales (commodities that go into the manufacture of the product)

Is the company’s overall profitability being hurt by rising input costs? Being helped by falling input costs?

Selling, general and administrative expenses (S G & A) If this line is rising and eating into profits,

cost-cutting and layoffs may not be far behind.

Balance sheet: key items for journalists

Under Assets: Cash and equivalents: how much cash did

the company have at the end of the quarter? Companies in trouble have less and less cash.

Goodwill: The difference between the price paid for a company during an acquisition and the net assets of the acquired company. As an intangible, it should be no more than 20 percent of total assets.

Balance sheet: key items for journalists

Under Liabilities: Long-term debt: how much debt

does the company have as a percentage of its equity or capital? Lower is better.

Statement of Cash Flows

Key line for business journalists: Net cash provided by operating

activities (commonly referred to as “operating cash”)

Thumb rule: You want to see a ratio of 1:1 to 3:1 of operating cash to net income for a healthy company.

Red flag: if the company is reporting profits but its operating cash is dwindling.

Other important SEC filings

8K: Disclosure of information material to the company (anything that could cause an investor to buy or sell the stock), per regulation FD, full disclosure.

Schedule 14A: Proxy statement to shareholders before the annual meeting: watch for executive compensation!

Other important SEC filings:

10K or annual report Management Discussion and Analysis

(MD&A) Notes, footnotes: Companies tend to

bury bad news, if they can, in the footnotes.

Tools and resources

SEC www.sec.gov Financial Accountng Standards Bd:

www.fasb.org Financial Industry Regulatory Authority

www.finra.org Yahoo Finance www.finance.yahoo.com Morningstar www.morningstar.com Investopedia (great articles, definitions)

www.investopedia.com Free online workshops for journalists:

www.businessjournalism.org