Financial Reporting, Financial Statement Analysis, and Valuation A Strategic Perspective (with Thomson One Access Code)

by Stickney, Clyde P.; Brown, Paul; Wahlen, James M.

• ISBN13: 9780324302950
• ISBN10: 0324302959
• Edition: 6th
• Format: Hardcover
• Copyright: 2006-04-04
• Publisher: South-Western College Pub

Summary

Stickney/Brown/Wahlen is a balanced, flexible, and complete Financial Statement Analysis book that is written with the premise that students learn financial statement analysis most effectively by performing the analysis on actual companies. Students learn to integrate the concepts from economics, business strategy, accounting, and other business disciplines through the integration of a unique six-step process.

Table of Contents

Preface	iv
About the Authors	xiii
Overview of Financial Reporting, Financial Statement Analysis, and Valuation	1	(84)
Overview of Financial Statement Analysis	2	(2)
Step 1: Identify the Industry Economic Characteristics	4	(2)
Tools for Studying Industry Economics	6	(5)
Value Chain Analysis	6	(2)
Porter's Five Forces Classification Framework	8	(2)
Economic Attributes Framework	10	(1)
Step 2: Identify the Company Strategies	11	(3)
Framework for Strategy Analysis	12	(1)
Application of Strategy Framework to PepsiCo's Beverage Segment	12	(2)
Step 3: Assess the Quality of the Financial Statements	14	(17)
Balance Sheet---Measuring Financial Position	14	(6)
Income Statement---Measuring Operating Performance	20	(6)
Statement of Cash Flows	26	(3)
Independent Auditor's Opinion and the Sarbanes-Oxley Act of 2002	29	(1)
Summary of Financial Statements, Notes, and Accountant's Opinion	30	(1)
Step 4: Analyze Profitability and Risk	31	(5)
Tools of Profitability and Risk Analysis	32	(4)
Step 5: Prepare Forecasted Financial Statements	36	(1)
Step 6: Value the Firm	36	(1)
The Association between Earnings and Share Prices	37	(2)
Role of Financial Statement Analysis in an Efficient Capital Market	39	(1)
Sources of Financial Statement Information	40	(1)
Summary	41	(1)
Appendix 1.1 Preparing a Term Project	42	(5)
Questions and Exercises	47	(2)
Problems and Cases	49	(18)
Integrative Case 1.1 Starbucks	67	(8)
Case 1.2 Nike: Somewhere between a Swoosh and a Slam Dunk	75	(10)
Asset and Liability Valuation and Income Measurement	85	(39)
Asset and Liability Valuation	86	(6)
Historical Value: Acquisition Cost	86	(1)
Historical Value: Adjusted Acquisition Cost	87	(1)
Historical Value: Present Value of Cash Flows Using Historical Interest Rates	88	(1)
Current Values: Current Replacement Cost	89	(1)
Current Values: Net Realizable Value	90	(1)
Current Values: Present Values of Cash Flows Using Current Interest Rates	90	(1)
GAAP Valuations	91	(1)
Income Recognition	92	(5)
Treatment 1: Value Changes Recognized on the Balance Sheet and Income Statement When Realized	93	(1)
Treatment 2: Value Changes Recognized on the Balance Sheet When They Occur but Recognized in Net Income When Realized	94	(1)
Treatment 3: Value Changes Recognized on the Balance Sheet and the Income Statement When They Occur	95	(1)
Summary of Asset and Liability Valuation and Income Recognition	96	(1)
Accounting for Income Taxes	97	(8)
Overview of Income Tax Accounting	97	(4)
Measuring Income Tax Expense: A Bit More to the Story	101	(3)
Reporting Income Taxes in the Financial Statements	104	(1)
PepsiCo's Reporting of Income Taxes	104	(1)
Framework for Analyzing the Effects of Transactions on the Financial Statements	105	(5)
Overview of the Analytical Framework	107	(3)
Summary of Analytical Framework	110	(1)
Summary	110	(1)
Questions and Exercises	111	(1)
Problems and Cases	112	(9)
Integrative Case 2.1 Starbucks	121	(3)
Income Flows versus Cash Flows: Key Relationships in the Dynamics of a Business	124	(74)
Net Income, Cash Flows, and Life Cycle Relations	126	(18)
Net Income and Cash Flow from Operations	126	(9)
Relation between Cash Flows from Operating, Investing, and Financing Activities	135	(2)
Illustrations of Cash Flow Relations	137	(7)
Preparing the Statement of Cash Flows	144	(8)
Algebraic Formulation	144	(1)
Classifying Changes in Balance Sheet Accounts	145	(6)
Illustration of the Preparation Procedure	151	(1)
Summary	152	(1)
Questions and Exercises	153	(4)
Problems and Cases	157	(15)
Integrative Case 3.1 Starbucks	172	(2)
Case 3.2 Prime Contractors	174	(2)
Case 3.3 W. T. Grant Company	176	(22)
Profitability Analysis	198	(86)
Profitability Analysis	200	(1)
Rate of Return on Assets	200	(29)
Disaggregating ROA	205	(1)
Economic and Strategic Factors in the Interpretation of ROA	205	(9)
Analyzing the Profit Margin for ROA	214	(8)
Analyzing Total Assets Turnover	222	(3)
Supplementing ROA in Profitability Analysis	225	(4)
Rate of Return on Common Shareholders' Equity	229	(5)
Earnings per Common Share	234	(4)
Calculating EPS	235	(2)
Criticisms of EPS	237	(1)
Interpreting Financial Statement Ratios	238	(1)
Comparisons with Corresponding Ratios of Earlier Periods	238	(1)
Comparisons with Corresponding Ratios of Other Firms	239	(1)
Summary	239	(1)
Questions and Exercises	240	(2)
Problems and Cases	242	(24)
Integrative Case 4.1 Starbucks	266	(6)
Case 4.2 Profitability and Risk Analysis of Wal-Mart Stores	272	(12)
Risk Analysis	284	(78)
Disclosures Regarding Risk and Risk Management	285	(3)
Financial Statement Analysis of Risk	288	(1)
Analyzing Short-Term Liquidity Risk	289	(7)
Analyzing Long-Term Solvency Risk	296	(4)
Analyzing Credit Risk	300	(5)
Analyzing Bankruptcy Risk	305	(11)
The Bankruptcy Process	305	(1)
Models of Bankruptcy Prediction	306	(7)
Synthesis of Bankruptcy Prediction Research	313	(3)
Market Equity Beta Risk	316	(1)
Financial Reporting Manipulation Risk	317	(5)
Motivations for Earnings Manipulation	317	(1)
Empirical Research on Earnings Manipulation	318	(2)
Application of Beneish's Model to Sunbeam Corporation	320	(2)
Summary of Income Manipulation Risk	322	(1)
Summary	322	(1)
Questions and Exercises	323	(2)
Problems and Cases	325	(8)
Integrative Case 5.1 Starbucks	333	(1)
Case 5.2 Massachusetts Stove Company---Bank Lending Decision	333	(8)
Case 5.3 Fly-by-Night International Group: Can This Company Be Saved?	341	(10)
Case 5.4 Millennial Technologies: Apocalypse Now	351	(11)
Quality of Accounting Information and Adjustments to Reported Financial Statement Data	362	(72)
Accounting Quality	363	(5)
High Quality Reflects Economic Information Content	364	(2)
High Quality Signals Earnings Persistence over Time	366	(2)
Discontinued Operations	368	(3)
Extraordinary Gains and Losses	371	(3)
Changes in Accounting Principles	374	(3)
Other Comprehensive Income Items	377	(1)
Impairment Losses on Long-Lived Assets	378	(4)
Restructuring and Other Charges	382	(4)
Changes in Estimates	386	(2)
Gains and Losses from Peripheral Activities	388	(2)
Restated Financial Statement Data	390	(3)
Accounting Classification Differences	393	(2)
Financial Reporting Worldwide	395	(3)
Earnings Management	398	(2)
Summary	400	(1)
Questions and Exercises	400	(2)
Problems and Cases	402	(18)
Integrative Case 6.1 Starbucks	420	(2)
Case 6.2 Hewlett-Packard: A Pack Ard (of) Mess	422	(5)
Case 6.3 International Paper: A Recurring Dilemma	427	(7)
Revenue Recognition and Related Expenses	434	(88)
Income Recognition	435	(17)
Criteria for Revenue Recognition	435	(3)
Criteria for Expense Recognition	438	(2)
Application of Revenue and Expense Recognition Criteria	440	(4)
Income Recognition for Long-Term Contractors	444	(4)
Revenue Recognition When Cash Collectibility Is Uncertain	448	(4)
Inventory Cost-Flow Assumption	452	(9)
FIFO	453	(1)
LIFO	453	(2)
Weighted Average	455	(1)
Conversion from LIFO to FIFO	455	(4)
Stock Price Reaction to Changes in Inventory Cost-Flow Assumption	459	(1)
Persistent Earnings and the Cost-Flow Assumption	459	(2)
Accounting for Fixed Assets	461	(7)
Fixed-Asset Valuation	461	(1)
Depreciable Life	462	(1)
Depreciation Method	463	(3)
Impairment of Fixed Assets (Long-Lived Assets)	466	(1)
Persistent Earnings and Fixed-Asset Reporting	467	(1)
Accounting for Intangible Assets	468	(9)
Accounting for Research and Development Costs	470	(2)
Accounting for Software Development Costs	472	(2)
Accounting for Goodwill	474	(2)
Persistent Earnings and Intangible-Asset Reporting	476	(1)
Summary	477	(1)
Appendix 7.1 Accounting for the Effects of Changing Prices	478	(6)
Questions and Exercises	484	(2)
Problems and Cases	486	(12)
Integrative Case 7.1 Starbucks	498	(2)
Case 7.2 Arizona Land Development Company	500	(15)
Case 7.3 Chiron Corporation---An R&D Puzzle	515	(2)
Case 7.4 Corporacion Industrial Sanluis: Coping with Changing Prices	517	(5)
Liability Recognition and Related Expenses	522	(108)
Principles of Liability Recognition	523	(1)
Principles of Liability Valuation	523	(1)
Application of Criteria for Liability Recognition	524	(4)
Controversial Issues in Liability Recognition	528	(7)
Issuance of Hybrid Securities	528	(1)
Off-Balance-Sheet Financing Arrangements	529	(6)
Leases	535	(10)
Operating Lease Method	536	(1)
Capital Lease Method	536	(2)
Choosing the Accounting Method	538	(2)
Effects on Lessor	540	(2)
Lease Accounting for Tax Purposes	542	(1)
Converting Operating Leases to Capital Leases	543	(2)
Impact of Accounting for Operating Leases as Capital Leases	545	(1)
Derivative Instruments	545	(16)
Nature and Use of Derivative Instruments	546	(2)
Accounting for Derivatives	548	(2)
Illustrations of Accounting for Derivatives	550	(9)
Summary of Derivative Examples	559	(1)
Disclosures Related to Derivative Instruments	559	(2)
Accounting Quality Issues and Derivatives	561	(1)
Retirement Benefits	561	(14)
Pensions	562	(9)
Analysts' Treatment of Pensions	571	(2)
Postretirement Benefits Other Than Pensions	573	(2)
Income Taxes	575	(12)
Review of Income Tax Accounting	575	(2)
Required Income Tax Disclosures	577	(6)
Assessing a Firm's Tax Position	583	(1)
Analyzing PepsiCo's Income Tax Disclosures	584	(3)
Summary of Income Taxes	587	(1)
Understanding Reserves in the Financial Statements	587	(4)
Nature of a Reserve Account	588	(1)
Use of Reserve Accounts	589	(1)
Summary of Reserves	590	(1)
Summary	591	(1)
Questions and Exercises	591	(2)
Problems and Cases	593	(27)
Integrative Case 8.1 Starbucks	620	(1)
Case 8.2 American Airlines and United Airlines: A Pension for Debt	621	(9)
Intercorporate Entities	630	(91)
Corporate Acquisitions	631	(6)
Purchase Method	631	(5)
Corporate Acquisitions and Income Taxes	636	(1)
Corporate Disclosures on Acquisitions	636	(1)
Investments in Securities	637	(19)
Accounting for Investments	638	(1)
Percentage of Voting Stock	638	(1)
Minority, Passive Investments	639	(4)
Minority, Active Investments	643	(1)
Majority, Active Investments	644	(9)
Primary Beneficiary of a Variable-Interest Entity	653	(2)
Income Tax Consequences of Investments in Securities	655	(1)
Foreign Currency Translation	656	(11)
Functional Currency Concept	656	(2)
Translation Methodology---Foreign Currency Is Functional Currency	658	(4)
Translation Methodology---U.S. Dollar Is Functional Currency	662	(1)
Implications of Functional Currency Determination for Analysis	663	(3)
Foreign Currency Translation and Income Taxes	666	(1)
Interpreting the Effects of Exchange Rate Changes on Operating Results	666	(1)
Accounting for Stock-Based Compensation	667	(4)
Summary	671	(1)
Questions and Exercises	671	(2)
Problems and Cases	673	(21)
Integrative Case 9.1 Starbucks	694	(1)
Case 9.2 Fisher Corporation	695	(16)
Case 9.3 Clark Equipment Company: Analyzing a Joint Problem	711	(7)
Case 9.4 Loucks Corporation: Obtaining Security in Translation	718	(3)
Forecasting Financial Statements	721	(91)
Overview	721	(1)
Introduction to Forecasting	722	(2)
Preparing Financial Statement Forecasts	724	(6)
General Forecasting Principles	724	(1)
Six-Step Forecasting Game Plan	725	(1)
Practical Tips for Implementing the Six-Step Forecasting Game Plan	726	(3)
Using FSAP to Prepare Forecasted Financial Statements	729	(1)
Step 1: Projecting Sales and Other Revenues	730	(7)
Projecting Revenues from Sales	730	(6)
Projecting Other Revenues	736	(1)
Step 2: Projecting Operating Expenses	737	(3)
Step 3: Projecting the Assets on the Balance Sheet	740	(14)
Step 4: Projecting Liabilities and Shareholders' Equity	754	(7)
Step 5: Projecting Interest Expense, Interest Income, Nonrecurring or Unusual Items, Provision for Income Tax, and the Change in Retained Earnings	761	(6)
Closing the Loop: Solving for Co-Determined Variables	766	(1)
Step 6: Projecting the Statement of Cash Flows	767	(5)
Shortcut Approaches to Forecasting	772	(3)
Analyzing Projected Financial Statements	775	(3)
Sensitivity Analysis and Reactions to Announcements	778	(1)
Summary	779	(1)
Questions and Exercises	780	(2)
Problems and Cases	782	(12)
Income Statement	788	(3)
Balance Sheet	791	(2)
Statement of Cash Flows	793	(1)
Integrative Case 10.1 Starbucks	794	(8)
Case 10.2 Massachusetts Stove Company: Analyzing Strategic Options*	802	(10)
Risk-Adjusted Expected Rates of Return and the Dividends Valuation Approach	812	(43)
Introduction and Overview	812	(4)
Equivalence among Dividends, Cash Flows, and Earnings Valuation	814	(2)
Risk-Adjusted Expected Rates of Return	816	(12)
Cost of Common Equity Capital	816	(4)
Adjusting Market Equity Beta to Reflect a New Capital Structure	820	(2)
Evaluating the Use of the CAPM to Measure the Cost of Equity Capital	822	(1)
Cost of Debt Capital	823	(1)
Cost of Preferred Equity Capital	824	(1)
Computing the Weighted Average Cost of Capital	824	(4)
Rationale for Dividends-Based Valuation	828	(4)
Dividends-Based Valuation Concepts	829	(3)
The Dividends Valuation Model	832	(2)
Implementing the Dividends Valuation Model	834	(14)
Measuring Periodic Dividends	834	(2)
Selecting a Forecast Horizon	836	(2)
Continuing Value of Future Dividends	838	(4)
Using the Dividends Valuation Model to Value PepsiCo	842	(3)
Sensitivity Analysis and Investment Decision Making	845	(1)
Evaluation of the Dividends Valuation Method	846	(2)
Summary	848	(1)
Questions and Exercises	848	(1)
Problems and Cases	849	(4)
Integrative Case 11.1 Starbucks	853	(2)
Valuation: Cash-Flow-Based Approaches	855	(77)
Introduction and Overview	855	(2)
Rationale for Cash-Flow-Based Valuation	857	(1)
Free-Cash-Flows-Based Valuation Concepts	858	(11)
Risk, Discount Rates, and the Cost of Capital	859	(1)
Free Cash Flows Valuation Examples for a Single-Asset Firm	860	(2)
Dividends to the Investor versus Cash Flows to the Firm	862	(1)
Nominal versus Real Cash Flows	863	(1)
Pre-Tax versus After-Tax Free Cash Flows	864	(1)
Selecting a Forecast Horizon	865	(1)
Computing Continuing Value of Future Free Cash Flows	866	(3)
Measuring Periodic Free Cash Flows	869	(12)
A Framework for Free Cash Flows	869	(3)
Free Cash Flows Measurement	872	(9)
Cash-Flow-Based Valuation Models	881	(2)
Valuation Models for Free Cash Flows for Common Equity Shareholders	881	(1)
Valuation Models for Free Cash Flows for All Debt and Equity Capital Stakeholders	882	(1)
Free Cash Flows Valuation of PepsiCo	883	(12)
PepsiCo Discount Rates	884	(1)
Computing Free Cash Flows for PepsiCo	885	(1)
PepsiCo's Free Cash Flows to All Debt and Equity Capital Stakeholders	885	(3)
PepsiCo's Free Cash Flows to Common Equity	888	(1)
Valuation of PepsiCo Using Free Cash Flows to Common Equity Shareholders	889	(1)
Valuation of PepsiCo Using Free Cash Flows to All Debt and Equity Capital Stakeholders	890	(3)
Sensitivity Analysis and Investment Decision Making	893	(2)
Evaluation of the Free Cash Flows Valuation Method	895	(1)
Summary	895	(2)
Questions and Exercises	897	(1)
Problems and Cases	898	(17)
Integrative Case 12.1 Starbucks	915	(2)
Case 12.2 Holmes Corporation: LBO Valuation	917	(15)
Valuation: Earnings-Based Approaches	932	(35)
Introduction and Overview	932	(2)
Rationale for Earnings-Based Valuation	934	(3)
Earnings-Based Valuation: Practical Advantages and Concerns	937	(2)
Theoretical and Conceptual Foundations for Residual Income Valuation	939	(6)
Illustrations of Residual Income Measurement and Valuation	941	(4)
Residual Income Valuation Model with Finite Horizon Earnings Forecasts and Continuing Value Computation	945	(1)
Valuation of PepsiCo Using the Residual Income Model	946	(6)
Discount Rates for Residual Income	947	(1)
PepsiCo's Book Value of Equity and Residual Income	947	(2)
Discounting PepsiCo's Residual Income to Present Value	949	(1)
Necessary Adjustments to Compute Common Equity Share Value	949	(1)
Sensitivity Analysis and Investment Decision Making	950	(2)
Residual Income Model Implementation Issues	952	(4)
Consistency in Residual Income, Dividends, and Free Cash Flow Value Estimates	956	(1)
Summary	957	(1)
Questions and Exercises	957	(2)
Problems and Cases	959	(6)
Integrative Case 13.1 Starbucks	965	(2)
Valuation: Market-Based Approaches	967	(54)
Introduction and Overview	968	(1)
Market Multiples of Accounting Numbers	969	(2)
Market-to-Book and Value-to-Book Ratios	971	(4)
A Theoretical Model of the Value-to-Book Ratio	971	(4)
Application of the Value-to-Book Model to PepsiCo	975	(8)
Reasons Why VB Ratios and MB Ratios May Differ from One	978	(2)
Empirical Data on MB Ratios	980	(2)
Empirical Research Results on the Predictive Power of MB Ratios	982	(1)
Price-Earnings and Value-Earnings Ratios	983	(14)
A Model for the Value-Earnings Ratio	983	(2)
Price-Earnings Ratios	985	(11)
Summary of VE and PE Ratios	996	(1)
Using Market Multiples of Comparable Firms	997	(1)
Price Differentials	997	(3)
Computing PDIFF for PepsiCo	998	(2)
Reverse Engineering	1000	(2)
Reverse Engineering PepsiCo's Stock Price	1001	(1)
The Relevance of Academic Research for the Work of the Security Analyst	1002	(5)
Level-of-Aggregation Issue	1003	(1)
Theory Development and Practice Feed Each Other	1004	(1)
Has the Theory of Capital Market Efficiency Gotten in the Way?	1004	(1)
Striking Evidence on the Degree of Market Efficiency and Inefficiency with Respect to Earnings	1005	(2)
Summary	1007	(1)
Questions and Exercises	1008	(1)
Problems and Cases	1009	(9)
Integrative Case 14.1 Starbucks	1018	(3)
Appendix A Financial Statements and Notes for PepsiCo, Inc. and Subsidiaries	1021	(26)
Appendix B Management's Discussion and Analysis for PepsiCo, Inc. and Subsidiaries	1047	(24)
Appendix C Financial Statement Analysis Package (FSAP)	1071	(39)
Appendix D User Manual for Financial Statement Analysis Package (FSAP)	1110	(7)
Index	1117