SCHOOL-BASEDENTERPRISEINSTRUCTIONALUNITS

SCHOOL-BASED ENTERPRISE

FINANCIAL ANALYSIS

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Financial analysis involves the production and examination of several different financial statements. A successful start-up business will most likely follow a detailed business plan, of which the personal financial statement is an integral part. The personal financial statement documents the net worth of the individual or group of individuals responsible for financing the business. Put simply, an individual’s net worth is equal to their liabilities subtracted from their assets. Liabilities refer to debts owed, while assets refer to cash and owned items of monetary value. Potential lenders such as banks like to see this information to determine their level of risk in lending money to people starting their own businesses. For example, a bank would be very likely to lend money to an individual who owned their own home, paid off their credit card balance every month, and had cash stored in both savings and checking accounts. Lending to such an individual would be a very low-risk situation for the bank. Conversely, a bank would not be very likely to lend money to someone who rented an apartment, had several credit cards with high balances, and had little money in savings and checking accounts. Lending to this person would be a very high-risk situation for the bank. The reasoning behind any lender’s likelihood of financing an individual is the risk inherent in doing do—in other words, that individual’s potential to pay back the loaned money. Someone with equity tied up in a house or car would be able to sell those items for money to pay back a loan, whereas someone with little equity would not be able to come up with the money as easily. A personal financial statement summarizes an individual’s financial state at any given time for potential lenders to review and consider.

A balance sheet is, in a way, a business’s own personal financial statement. The balance sheet does not summarize the personal net worth of those individuals responsible for financing it, but rather summarizes the net worth of the business itself at any given time. As would be expected, the balance sheet is a bit more complex than the personal financial statement. The former divides total assets into current assets and fixed assets and liabilities into current liabilities and long-term liabilities. Current assets refer to cash or those assets that can be converted into cash in a period of one year or less. These are also known as liquid assets. Fixed assets are those items such as buildings and fixtures that are used for the operation of a business over a long period of time. These typically cannot be converted into cash within twelve months. Current liabilities are debts to be paid by the business within the fiscal year, while long-term liabilities are those with a due date beyond a twelve-month time frame. A business’s total assets (current plus fixed) minus its total liabilities (current plus long-term) equals its net worth, or equity.

While a balance sheet is useful for determining a business’s worth at a given point in time, an income statement provides information about the business’s financial performance over a certain amount of time. An income statement, also known as a profit-and-loss statement, illustrates a business’s path from total sales to net income through the following steps:

1) Determine total or gross sales. Keep in mind that this can be a historically accurate number (as in total sales for the months of September, October, and November) or a projection (as in estimated sales for the months of December, January, and February).

SCHOOL-BASED ENTERPRISEINSTRUCTIONAL UNITS TOPIC: FINANCIAL ANALYSIS

WHY FINANCIALANALYSIS?Finances are a business’s very foundation. The primary purpose of a business is to make money. It can only make money, though, if its financial affairs are in order. A business needs to know the state of its financial affairs at all times—how much money is owed to creditors, how much money is coming in from sales, and how much money is tied up in routine expenses such as the purchasing of supplies and payroll. Financial analysis refers to the activities a business conducts to monitor its finances.

OBJECTIVES• Explain the nature of

balance sheets. • Describe the nature of

income statements. • Maintain financial records. • Prepare cash flow

statements.

2) Calculate net sales by subtracting total allowances, including those made for returns, shrinkage, and discounts, from gross sales.

3) Determine cost of goods sold (COGS). This number comprises all costs associated with buying a product from its point of origin (manufacturer) and getting it to its final selling point (retailer) and can be calculated using the following equation:

Value of inventory at beginning of set time period + Value of goods purchased during time period (cost of making and shipping product) XXXXX - Value of inventory at end of set time period

Cost of goods sold

4) Subtract COGS from net sales to determine gross profit. 5) Determine the business’s total overhead, or operating expenses, by

adding total variable expenses to total fixed expenses. Variable expenses are those costs that vary from month to month depending on the sales of the business. Variable expenses of a hamburger stand would include hamburger patties and hamburger buns, which employees would order in different amounts every month depending on the stand’s sales. Fixed expenses refer to those costs that do not vary by month, such as rent.

6) Once you have calculated the business’s total operating expenses, subtract this number from gross profit (the value calculated in Step 4) to determine net income from operations.

7) Determine net profit/loss before taxes by adding or subtracting any additional income or expenses to net income from operations.

8) Determine net profit/loss after taxes by subtracting total amount of federal, state, and local taxes from net profit/loss before taxes.

Both the balance sheet and income statement are useful tools for potential lenders, who use the documents’ information to quickly calculate various financial ratios. These ratios, including liquidity, activity, and profitability ratios, can distill and summarize the presented financial information in several ways for the purpose of evaluating a business’s financial performance. Liquidity ratios measure a business’s capacity to pay off its debts. Activity ratios measure the rate at which a business’s assets can be converted into cash. Profitability ratios measure a business’s profits.

Yet another important financial document is the cash flow statement, which details the flow of cash in to and out of a business. Cash differs from other assets in that it is immediately (or very quickly) available for covering expenses. A business uses cash to pay bills, make small purchases, and pay its employees. While every business wants a positive cash flow, it could occasionally see a negative cash flow depending on how much cash is tied up in outstanding payments, etc. Because of this, it is imperative that a business use a cash flow statement to know when its cash will be available.

A cash flow statement consists of the following three sections:

1) Cash Flows from Operating Activities2) Cash Flows from Investing Activities3) Cash Flows from Financing Activities

Put simply, each section is concerned with the inflow and outflow of cash as it relates to specific activities. Operating activities refer to the routine operation of the business—the buying and selling of products, the payment of bills and employees, the purchase of supplies, etc. Investing activities refer to loans issued by the business or to the business’s purchase/sale of assets. Financing activities refer to payments on debts (both customers’ debts to the business and the business’s debts to lenders). Each of these sections of the cash flow statement allows a business to see how much cash it has on-hand at a certain point in time—and where that cash is.

Personal financial statement Asset

• Current asset• Fixed asset

Liability• Current liability• Long-term liability

Balance sheetEquity/net worthIncome statement/profit-and-

loss statementTotal/gross salesNet salesCost of goods sold (COGS)Gross profitOverhead/operating expenses

• Variable expenses• Fixed expenses• Net income from operations• Net profit/loss before/after

taxesLiquidity ratiosActivity ratiosProfitability ratiosCash flow statement

KEY TERMS

Use the information in this pamphlet to prepare a balance sheet, income statement, and cash flow statement for your

school-based enterprise.

CLASSROOM ACTIVITY

REFERENCESCNBC. “Staples Inc.” CNBC.com. http://data.cnbc.com/quotes/SPLS (accessed September 12, 2012).

Farese, Lois Schneider, Grady Kimbrell, and Carl A. Woloszyk. “Entrepreneurship and Finance.” Unit 11 in Marketing Essentials. Columbus, OH: The McGraw-Hill Companies, Inc., 2012.

Ross, Kenton, Claudia Bienias Gilbertson, Robert Hanson, and Mark Lehman. Accounting. 7th ed. Cincinnati, OH: South-Western Educational Publishing, 2000.

Staples, Inc. is a hugely popular office supply chain. With stores around the world, yearly profits for Staples number in the

hundreds of millions of dollars. The success of such a large operation depends on detailed and regular financial analysis.

Executives at Staples, Inc. are removed from the day-to-day transactions that fuel the company’s existence, so they rely on

accurate financial statements to see, in numbers, how their company is performing.

Refer to the portion of Staples’ annual balance sheet included in this pamphlet. Note that the statement includes information

for past years in addition to the current year’s information. Also note that the values included in the sheet are in millions of

U.S. dollars (except for per share items). The first part of the balance sheet itemizes the business’s current assets followed by

a total value. Below this are itemized long-term (fixed) assets and total long-term assets. The balance sheet then breaks down

Staples’ current and long-term liabilities. Next is the value of overall total liabilities, which is followed by total equity and

total liability and shreholders’ equity.

The portion of Staples’ annual income statement included in this pamphlet is also in millions of U.S. dollars (except for per

share items) and features information for past years and the current year. The income statement is laid out a bit differently

than the format described above, but it still presents the necessary information. Here Staples has already calculated its

net sales, which is the starting value. “Cost of revenue” is another term for COGS and is subtracted from total revenue to

determine gross profit. The cost of revenue is also added to various other operating expenses to determine total operating

expenses. Total operating expenses subtracted from total revenue is equal to total operating income. To determine net

income, various values including interest, other expenses, and taxes are added to or subtracted from total operating income.

Staples’ annual cash flow statement itemizes cash on-hand from the three types of activities described in this pamphlet—

operating, investing, and financing. Notice that as of March 2, 2012, only operating activities demonstrated a positive cash

flow; cash flows from both investing and financing activities were negative.

CASE STUDY

STAPLES, INC. *AS OF 8/15/12

ANNUAL BALANCE SHEET

1/28/12 1/29/11 1/30/10 1/31/09 2/2/08

In millions of USD (except for per share items)

Cash & Equivalents 1,264.15 1,461.26 1,415.82 633.77 1,245.45

Short Term Investments -- -- -- -- 27.02

Cash and Short Term Investments 1,264.15 1,461.26 1,415.82 633.77 1,272.46

Accounts Receivable - Trade, Net 2,033.68 1,970.48 1,811.37 1,841.23 822.25

Total Receivables, Net 2,033.68 1,970.48 1,811.37 1,841.23 822.25

Total Inventory 2,431.85 2,359.17 2,261.15 2,404.17 2,053.16

Prepaid Expenses 255.54 382.02 333.11 636.98 233.96

Deferred Income Tax - Current Asset 305.61 295.23 353.33 281.1 173.55

Other Current Assets, Total 305.61 295.23 353.33 281.1 173.55

Total Current Assets 6,290.82 6,468.17 6,174.77 5,797.26 4,555.38

Buildings - Gross 1,330.37 1,328.40 1,268.85 1,183.88 1,135.13

Land / Improvements - Gross 1,034.98 1,064.98 1,051.39 1,040.75 859.75

Machinery / Equipment - Gross 3,546.71 3,320.01 3,002.44 2,876.35 2,690.74

Property / Plant / Equipment, Total - Gross 5,912.07 5,713.39 5,322.68 5,100.98 4,685.63

Accumulated Depreciation, Total -3,831.70 -3,565.61 -3,158.15 -2,810.36 -2,524.49

Property / Plant / Equipment, Total - Net 2,080.36 2,147.77 2,164.53 2,290.63 2,161.14

Goodwill, Net 3,982.13 4,073.16 4,084.12 3,780.17 1,764.93

Intangibles - Gross 927.32 941.63 933.36 -- --

Accumulated Intangible Amortization -477.54 -418.9 -353.43 -- --

Intangibles, Net 449.78 522.72 579.92 701.92 231.31

Other Long Term Assets 627.53 699.85 713.99 503.08 323.59

Other Long Term Assets, Total 627.53 699.85 713.99 503.08 323.59

Total Assets 13,430.62 13,911.67 13,717.33 13,073.06 9,036.34

Accounts Payable 2,220.41 2,208.39 2,111.70 1,967.60 1,560.73

Accrued Expenses 1,093.86 1,239.33 1,603.35 1,404.71 791.82

Notes Payable / Short Term Debt 0 0 0 1,195.56 0

Current Portion of Long Term Debt / Capital Leases 439.14 587.36 67.27 277.69 23.81

Income Taxes Payable 320.86 258.52 -- -- 233.54

Other Current liabilities, Total 320.86 258.52 -- -- 233.54

Total Current Liabilities 4,074.28 4,293.59 3,782.32 4,845.55 2,609.90

Long Term Debt 1,599.04 2,014.41 2,500.33 1,968.93 342.17

Total Long Term Debt 1,599.04 2,014.41 2,500.33 1,968.93 342.17

Total Debt 2,038.18 2,601.76 2,567.60 3,442.18 365.98

Minority Interest 7.06 7.47 83.05 58.22 10.23

Other Long Term Liabilities 735.09 652.49 579.75 636.14 356.04

Other Liabilities, Total 735.09 652.49 579.75 636.14 356.04

Total Liabilities 6,415.47 6,967.96 6,945.45 7,508.85 3,318.34

Common Stock 0.55 0.55 0.54 0.53 0.52

Common Stock, Total 0.55 0.55 0.54 0.53 0.52

Additional Paid-In Capital 4,551.30 4,334.74 4,379.94 4,048.40 3,720.32

Retained Earnings (Accumulated Deficit) 7,199.06 6,492.34 5,869.14 5,367.34 4,793.54

Treasury Stock - Common -4,416.02 -3,786.98 -3,388.40 -3,357.73 -3,272.77

Translation Adjustment -156.63 37.16 -- -- 476.4

Minimum Pension Liability Adjustment -157.4 -129.88 -- -- --

Other Comprehensive Income -5.71 -4.21 -89.34 -494.33 --

Other Equity, Total -319.74 -96.93 -89.34 -494.33 476.4

Total Equity 7,015.15 6,943.71 6,771.89 5,564.21 5,718.01

Total Liabilities & Shareholders' Equity 13,430.62 13,911.67 13,717.33 13,073.06 9,036.34

STAPLES, INC.

ANNUAL INCOME STATEMENT

Period Ended 1/28/12 1/29/11 1/30/10 1/31/09 2/2/08

Update Update Update Update Update

5/16/12 3/4/12 3/4/12 3/4/12 3/4/12

In millions of USD (except for per share items)

Net Sales 25,022.19 24,545.11 24,275.45 23,083.78 19,372.68

Revenue 25,022.19 24,545.11 24,275.45 23,083.78 19,372.68

Total Revenue 25,022.19 24,545.11 24,275.45 23,083.78 19,372.68

Cost of Revenue 18,280.36 17,938.96 17,801.55 16,836.84 13,822.01

Cost of Revenue, Total 18,280.36 17,938.96 17,801.55 16,836.84 13,822.01

Gross Profit 6,741.83 6,606.16 6,473.90 6,246.94 5,550.67

Selling / General / Administrative Expense 5,048.49 4,913.19 4,907.24 4,631.22 3,986.76

Selling / General / Administrative Expenses, Total 5,048.49 4,913.19 4,907.24 4,631.22 3,986.76

Amortization of Intangibles 64.9 61.69 100.08 70.27 15.66

Depreciation / Amortization 64.9 61.69 100.08 70.27 15.66

Other Unusual Expense (Income) 0 57.77 84.24 173.52 0

Unusual Expense (Income) 0 57.77 84.24 173.52 0

Total Operating Expense 23,393.76 22,971.60 22,893.11 21,711.85 17,824.43

Operating Income 1,628.43 1,573.51 1,382.35 1,371.93 1,548.25

Interest Expense - Non-Operating -173.75 -214.82 -237.03 -149.77 -38.34

Interest Expense, Net Non-Operating -173.75 -214.82 -237.03 -149.77 -38.34

Interest Income - Non-Operating 7.58 7.72 6.12 28.49 46.73

Interest / Investment Income, Non-Operating 7.58 7.72 6.12 28.49 46.73

Interest Income (Expense), Net-Non-Operating, Total -166.17 -207.1 -230.91 -121.29 8.39

Other Non-Operating Income (Expense) -3.12 -9.82 4.46 -7.56 -2.16

Other, Net -3.12 -9.82 4.46 -7.56 -2.16

Net Income Before Taxes 1,459.14 1,356.60 1,155.89 1,243.08 1,554.48

Provision for Income Taxes 475.31 468.03 398.78 428.86 559.61

Net Income After Taxes 983.83 888.57 757.11 814.22 994.87

Minority Interest 0.82 -6.62 -18.44 -8.96 0.8

Net Income Before Extraordinary Items 984.66 881.95 738.67 805.26 995.67

Net Income 984.66 881.95 738.67 805.26 995.67

STAPLES, INC.

ANNUAL CASH FLOW STATEMENT

Period Ended 1/28/12 1/29/11 1/30/10 1/31/09 2/2/08

Update Update Update Reclassified Reclassified

3/2/12 3/2/12 2/29/12 8/24/11 8/24/11

In millions of USD (except for per share items)

Net Income / Starting Line 983.83 888.57 757.11 814.22 994.87

Depreciation 482.06 498.86 552.44 548.91 388.9

Depreciation / Depletion 482.06 498.86 552.44 548.91 388.9

Deferred Taxes 6.71 172.63 -89.75 33.37 -8.79

Unusual Items -- 0 0 150.08 0

Other Non-Cash Items 154.47 152.3 148.75 200.04 160.42

Non-Cash Items 154.47 152.3 148.75 350.12 160.42

Accounts Receivable -73.67 -95.66 129.14 51.72 -64.29

Inventories -82.34 -46.45 244.6 177.2 -30.18

Prepaid Expenses 123.66 -70.6 254.81 -2.68 -89.56

Accounts Payable 23.68 63.31 40.37 -127.05 0.3

Accrued Expenses -117.39 -191.92 71.21 -195.3 -90.05

Other Liabilities 75.48 75.45 -24.46 35.32 99.41

Changes in Working Capital -50.59 -265.87 715.66 -60.8 -174.38

Cash from Operating Activities 1,576.48 1,446.49 2,084.21 1,685.83 1,361.02

Purchase of Fixed Assets -383.65 -408.89 -313.23 -378.33 -470.38

Capital Expenditures -383.65 -408.89 -313.23 -378.33 -470.38

Acquisition of Business 0 -63.07 0 -4,381.81 -178.08

Sale / Maturity of Investment -- 0 0 27.02 4,579.46

Purchase of Investments -- 0 0 0 -4,148.72

Other Investing Cash Flow Items, Total 0 -63.07 0 -4,354.80 252.67

Cash from Investing Activities -383.65 -471.96 -313.23 -4,733.12 -217.71

Other Financing Cash Flow -8.2 -360.6 8.76 5.85 18.56

Financing Cash Flow Items -8.2 -360.6 8.76 5.85 18.56

Cash Dividends Paid - Common -277.94 -258.75 -236.87 -231.47 -207.55

Total Cash Dividends Paid -277.94 -258.75 -236.87 -231.47 -207.55

Repurchase / Retirement of Common -629.04 -398.58 -30.66 -84.96 -760.98

Common Stock, Net -629.04 -398.58 -30.66 -84.96 -760.98

Options Exercised 73.87 85.43 150.96 148.33 178.5

Issuance (Retirement) of Stock, Net -555.18 -313.15 120.3 63.37 -582.47

Short Term Debt Issued -- -- -- 1,195.56 0

Short Term Debt Reduction 0 0 -1,195.56 -- --

Short Term Debt, Net 0 0 -1,195.56 1,195.56 0

Long Term Debt Issued 301.84 201.57 1,211.42 3,679.05 11.8

Long Term Debt Reduction -820.63 -207.48 -945.33 -2,206.31 -206.52

Long Term Debt, Net -518.79 -5.91 266.09 1,472.73 -194.72

Issuance (Retirement) of Debt, Net -518.79 -5.91 -929.47 2,668.29 -194.72

Cash from Financing Activities -1,360.09 -938.41 -1,037.28 2,506.04 -966.19

Foreign Exchange Effects -29.84 9.31 48.35 -70.42 50.66

Net Change in Cash -197.11 45.44 782.05 -611.67 227.78

Net Cash - Beginning Balance 1,461.26 1,415.82 633.77 1,245.45 1,017.67

Net Cash - Ending Balance 1,264.15 1,461.26 1,415.82 633.77 1,245.45

Cash Interest Paid 184.5 210.9 217.5 113.5 42

Cash Taxes Paid 308.9 404.9 236.1 470.4 479.5