Financial statements

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EMI Music: A Financial Analysis (Part 1)

Published January 13, 2014 by Mayrbear's Lair

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To conclude my research work in organizational management with respect to the analysis of a company’s financial reports, this week we will wrap things up with a three part examination of the various components contained within the 2010 Annual Report of my former place of employment, the privately owned corporation known as EMI Music (EMI) to help us determine their financial condition and forecast their outlook. To help present a clearer picture of the company’s activities and overall functionality, the study will draw information from the report’s financial statements to evaluate such elements as assets, liabilities, and stockholders’ equity to help determine EMI’s viability as a business. The research will also include a closer look at the following components: (a) the economy, industry, and background of the firm; (b) their short term liquidity; (c) how efficiently they operated; (d) an examination of their capital structures; and (e) an assessment of their profitability levels, to reveal EMI’s financial condition as well as forecast their future potential. My research will also focus on the information retrieved from their financial data, ratios, and trends that were contained within the notes and statements to evaluate the firm’s use of their operating, financing, and equity activities to determine whether the corporation was managed efficiently and was profitable. The findings of this research will conclude that EMI’s financial statements provided sufficient evidence to reveal an authentic representation of their financial health during that time.

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Introduction

A corporation’s annual report helps provide shareholders a glimpse into a company’s overall performance and financial effectiveness. They are developed to satisfy the many needs of a variety of different people, including shareholders, creditors, economists, and strategists. Roth (2008) explains they have become the platforms that are used to launch new products, promotional strategies, and even shape the company’s cultural attitudes (Roth, 2008). They typically include an opening statement from the chief executive officer (CEO), the company’s financial statements, market segment information, new product strategies, subsidiary activities, as well as research and development (R&D) plans, all of which serve to bring a transparent view of the company’s operating, financing, and investing activities.  To fully understand and appreciate the information provided in EMI’s Annual report the examination will commence with a brief look at the company’s background.

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Background, Industry, and Economy

The true nature of a company’s image can be ascertained through a comprehensive analysis provided by the data contained within their annual reports. Fraser and Ormiston (2010) purport that in order to comprehend how to navigate through the vast amount of data in the reports, familiarity with accounting is helpful (Fraser & Ormiston, 2010). Learning more about the company’s background in the meantime, also helps provide valuable information that can help analysts forecast the firm’s future based on past performances.

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For instance, EMI is considered a prestigious primary-market record label. It is recognized worldwide and conducts business in 32 countries with a network of licenses to operate elsewhere as well. It is part of the EMI Music Group, which is a subsidiary of the Universal Music Group. EMI owns some of the most famous record labels in the world, including Capitol, Parlophone, Virgin, Blue Note, Capitol Records Nashville, EMI Christian Music Group and EMI and Virgin Classics.The firm is organized into two core divisions: EMI Music, which specializes in the signing, developing, and marketing of recording artists and their intellectual property; and EMI Music Publishing, which specializes in the signing, developing and marketing songwriters.

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The company was founded in 1942 by American lyricist, songwriter, and recording artist Johnny Mercer, who wrote the famous lyrics to Henry Mancini’s Moon River that later, went on to become the trademark song for singer Andy Williams (The Johnny Mercer Research Guide, 2012). Throughout the years, EMI consisted of an impressive artist roster including such mega stars like David Bowie, Tina Turner, Bob Seger, Coldplay, Lady Antebellum and Katy Perry. They have a wealth of artists in their catalog including such legendary icons like the Beach Boys, Iron Maiden, Depeche Mode, Miles Davis, Frank Sinatra, Duran Duran and the Pet Shop Boys. In the global marketplace, EMI distributes a wide genre of music including, pop, rock, classical, jazz, R&B, and hip-hop through various sister labels. With offices worldwide, the Capitol Records Tower in Los Angeles (where I worked) is their most famous building in America and stands out as a Hollywood landmark that is recognized throughout the world.

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Conditions in the music industry are highly competitive and unpredictable. EMI’s Annual Report, however, revealed that they continued to display the assets, strategic power, positioning, and a staff of top performers worldwide that had the ability to take the firm to the forefront of the industry. For example, one of the company’s strengths lies in their catalog inventory. The release of the complete remastered Beatles catalog during that time, demonstrated EMI’s ability to capitalize from their catalog assets. The remastered Beatles albums sold over 10 million units in one year enabling the firm to experience unprecedented levels of success during that time. In addition, EMI artist Lady Antebellum released an album that was one of their top sellers in 2010.

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The publishing division also proved they were in a leading position in the music industry during that accounting period. For instance, they were named US Publisher of the Year for the 12th consecutive time by the leading trade publication, Billboard Magazine. Furthermore, they had been named Publisher of the Year at the ASCAP Pop Music Awards in the US for eight consecutive years. In the meantime, in the UK, where the report was filed, EMI was named Music Week’s Publisher of the Year for the 14th consecutive year.  These statistics provide sufficient evidence that support the company’s strength of earning abilities in music industry.

Wednesday’s post will reveal Part 2 of this analysis where we analyze EMI’s short term liquidity and take a closer look at their operating efficiency. See you then!

References

(2011). EMI annual review 2009/2010. Finances. Hollywood: Maltby Capital Ltd.

The Johnny Mercer Research Guide. (2012). Retrieved October 30, 2013, from The Johnny Mercer Foundation: http://www.johnnymercerfoundation.org/initiatives-charities/for-researchers/johnny-mercer-research-guide/

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Friedlob, G., & Welton, R. (2008). Keys to reading annual report. Hauppauge, NY: Barron’s Educational Series.

Loth, R. (2013). Profitability indicator ratios: Profit margin analysis. Retrieved December 5, 2013, from investopedia.com: http://www.investopedia.com/university/ratios/profitability-indicator/ratio1.asp

How to determine your capital structure. (n.d.). Retrieved December 5, 2013, from Structuringfinance.com: http://www.structuringfinance.com/capital-structure/how-to-determine-your-capital-structure

Roth, R. (2008). The writers guide to annual reports. Atlanta, GA: Booksurge.com.

Scherreik, S. (2002, December 22). How efficient is that company? Retrieved December 5, 2013, from businessweek.com: http://www.businessweek.com/stories/2002-12-22/how-efficient-is-that-company

An Analysis of Kodak’s Quality Financial Reporting

Published January 10, 2014 by Mayrbear's Lair

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Quality financial reporting (QFR) helps paint a clear picture of a company’s financial condition. Miller (2002) explains that QFR is more of an attitude than a set of practices that involves firms developing relationships with capital market participants to help communicate their needs effectively (Miller, 2002). The focus of this post is to ascertain whether the financial statements of the Kodak Corporation’s 2007 Annual Report revealed a high level of quality financial reporting. To determine this, the statements should reveal: (a) their cash flow potential, (b) how effective they were at raising capital, and (c) whether it painted the real economic picture of the firm or if the data was fabricated to make it appear in better financial health than it was. My research will also determine whether the report provided sufficient explanations about their accounting choices, estimates and judgments, and whether they were relevant, verifiable, consistent, and presented the data fairly with neutrality, all of which are critical criteria for high quality financial reporting. The following components were used as a checklist to help determine the quality of data: (a) the earnings reported for sales, (b) the cost of goods sold, (c) the non-operating revenue and expenses, (d) the operating expenses, and (e) other commitments and contingencies. The findings of this post will deduce that Kodak’s 2007 Annual Report revealed a high level of quality reporting that was effective in representing the economic truth of their financial condition.

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Evidence of Kodak’s QFR

Quality financial reporting helps capital market participants understand a company’s financial condition from the data and ratios that the statements contain which reveal cash flow and profitability outcomes. Bahnson and Miller (2002) explained it more effectively stating that QFR can divulge how companies create opportunities to receive and perpetuate cash flows (Bahnson & Miller, 2002). My research work began with an examination of Kodak’s sales and costs of goods sold figures to search for inconsistencies and trends. Next, I took a look at the inventory valuation methods and determined it was based on fair market value. In addition, there were no clues that would indicate premature revenue recognition. In the meantime, Kodak’s income statement (see Exhibit A) showed a steady decline in net sales figures from 2005 to 2007. A comparison of the accounts receivables and inventories ratios from the Common Size Balance sheet (see Exhibit B) corroborated the decline and confirmed a large ratio of debt to revenue. The common size income statement (see Exhibit C), also revealed a consistency in debt ratios that showed declining patterns in the relationships among sales, accounts receivable, and inventory. The notes offered adequate explanations for their accounting choices and disclosed the declining figures resulted from their restructuring strategy. In other words, to investors, debt implies risk, but Kodak’s report offered relevant details that were verifiable to explain the reasons for these debt ratios. Furthermore, the declining numbers did not raise red flags indicating the possibility of premature revenue recognition. This level of clarification provided a fuller picture that helped explain the low profit and high debt figures to alleviate uncertainty.

Kodak’s report also provided details about their revenue recognition policies explaining how their revenue was derived as well as how they calculated deferred income. In addition, the report included details about reductions to revenue policies and the methods used to measure revenue derived from consumer incentive programs. The statement also provided explanations with neutrality about estimates and judgments that were made based on the firm’s past experiences and historical records. This helped leave little room for unanswered questions about how Kodak’s inventory was valued as well as how it was collected and recognized.

Quality financial reporting can also help skilled analysts identify whether a company is manipulating the figures to show higher profits. For instance, Kodak’s common size income statement (Exhibit C) revealed that the gross profit margin showed a slight increase each year but reported zero operating profits. This means the firm was able to increase sales but not enough to control the substantial growth of operating expenses which was most likely due to their restructuring process. The data also confirmed their ability to raise funds showing a $238 million impairment charge from the sale of their Chinese facility and that selling the Health Group Company was also expected to generate future cost savings.

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What the Report Revealed about Kodak’s Future

High quality financial statements disclose the real economics of the company’s transactions and also reveal how well the company managed their assets to forecast their future. Turner (2000) asserts without QFR analysts lack reliable data to forecast future earnings (Turner, 2000). For example, Kodak’s ratios revealed that cash flow margins continued to decrease which made it difficult for them to service debt, pay dividends, and invest in further capital assets. However, the notes revealed their confidence of strength in future earnings and cash flow potential because of their ownership patents. This data revealed their potential to generate continuous revenue from licensing.

Other clues about Kodak’s future can be determined from explanations that revealed the firm’s other long-term commitments which include rental expenses of real property that showed a decreasing trend beginning with $149 million in 2005, dipping to $130 in 2007 that continued to drop in 2008 to $99 and thereafter. Furthermore, the report disclosed other contingencies stating the company and its subsidiaries were involved in a variety of litigation cases that could have an adverse effect on their future finances. Finally, the consumer price index (CPI) is also considered to help analysts forecast Kodak’s future earnings. For example, statement ratios along with CPI figures that measure the rate of inflation are significant components that are factored in to help strategists forecast future potential earnings. For instance, a 6% rate of inflation occurred during the 2006-2007 accounting period which was measured at 201.6 in 2006 and jumped to 207.3 in 2007. Strategists use these figures to help predict Kodak’s future growth potential based on past performances and factoring in a 6% CPI increase level into their formulas, which was calculated at 215.3 in 2008.

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Conclusion

Incomplete information on a company’s financial statements can create uncertainty for capital market participants. Fraser and Ormiston (2010) remind us that high quality financial statements provide sufficient data that help business owners make more effective decisions (Fraser & Ormiston, 2010). My research work determined that Kodak’s financial statements provided sufficient explanations that: (a) disclosed their cash flow potential from relevant accounting data of past performance to help forecast future behavior; (b) used reliable information that reflected the real economics of activities reported; (c) included verifiable and measurable data developed free of bias towards a predicted result; and (d) provided valuable ratio data for comparison to reveal how effective they were at raising capital. Based on these principles, the findings of this study concluded that Kodak’s 2007 Annual Report met criteria that were consistent with quality reporting that revealed the true nature of their financial condition during that period.

Exhibit A

kodak income statement Exhibit A

(Kodak, 2008)

Exhibit B

Assignment 5 Exhibit B - Common Bal

(Kodak, 2008)

Exhibit C

Assignment 5 Exhibit C - Common Income

(Kodak, 2008)

References

(2008). Kodak. Washington: Securities and Exchange Commission.

Bahnson, P., & Miller, P. (2002). Quality financial reporting. New York, NY: McGraw-Hill.

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Miller, P. (2002, April). Quality Financial Reporting. Retrieved November 25, 2013, from Journal of Accountancy: http://www.journalofaccountancy.com/Issues/2002/Apr/QualityFinancialReporting.htm

Turner, L. (2000, March 23). Speech by SEC staff: Charting a course for high quality financial reporting. Retrieved November 27, 2013, from US Securities and Exchange Commisssion: http://www.sec.gov/news/speech/spch356.htm

Preparing An Annual Report

Published January 8, 2014 by Mayrbear's Lair

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When a corporation’s staff of accountants finish preparing the financial statements for the fiscal year the next order of business is to call a meeting with the company’s CEO, as well as the Director of Investor Relations and representatives from the marketing and art departments to design that current year’s annual report.  Based on the research I conducted in my financial analysis course, this post will provide information on how I would present the main ideas I believe a company should present to shareholders in the annual report.

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To begin with, it is important that the company’s annual report provide investors and division heads with knowledge about the company’s weaknesses while offering shareholders security about the company’s strengths and future growth forecasts. These are important components that will help paint a full transparent picture of the firm. In preparation of the company’s Annual Report the following information consists of the main ideas that should be included in the documentation, in addition to the traditional financial statements that provide an overview of the firm’s financial condition.

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First and foremost, the Chairman’s statement should include their pride in the company’s achievements. For example, a company that holds the title as the third largest retailer of recreational products in the US should state that clearly as well as their many other strengths, such as a favorable economic and industrial outlook. In addition, the report should also include others strengths, for instance their geographical position may produce more favorable results.  A company that sells ski equipment, for example, located in Colorado is in a better position geographically than one located in the Florida region. These kinds of factors can be included to illustrate how the geographic location helps reduce competition and is a beneficial component for economic and industral growth.

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The financial report should also reveal the company’s policies and a view of the operational, financing, and equity activities. In addition, it should include details about the firm’s marketing tactics and objectives, expansion strategies, and illustrate their efficiency in the management of their accounts receivables and inventory divisions or any other components that have been proven quite effective. Another important component that should be considered is the company’s control of the operating costs, and how successful their use of financial leverage and solid coverage of debt service requirements were. Furthermore, the report should reflect the firm’s continual growth or plans for implementing substantial sales growth with profitability levels as well as results and new strategies that focus on the company’s expansion process. These are significant components that can help confirm a firm’s strengths and weaknesses that supports how well a company performed during that fiscal year.

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The report’s commitments and contingencies section should also disclose the risks, noting the significant one(s) the company faces, for example like an economic vulnerability from unfavorable weather conditions which may increase a firm’s debt financing. In conclusion, on the whole, the report will reflect that the outlook for company stating how well or poorly they did with strategies and plans for the future that will put the firm in a better position that will ensure investors and staff alike, that the firm is a secure company to invest in and includes corporate governance policies to support the artistic and marketing divisions guided by the effective leadership skills of the company’s CEO.

References:

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Conflicts of interest in Financial Reporting

Published December 20, 2013 by Mayrbear's Lair

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Conflicts of interest exist between management and capital market participants because shareholders are interested in the economic reality of a firm’s transactions and managers are under pressure to report information that will satisfy them. Berman and Knight (2008) inform us that handling the company’s finances is both an art and a science (Berman & Knight, 2008). While firms are encouraged to follow the Generally Accepted Accounting Principles (GAAP) parameters in their bookkeeping procedures, conflicts of interest can affect the quality and reality of their reports. Miller (2002) asserts that some firms believe Quality Financial Reporting (QFR) offers stockholders more certainty; others argue it reveals too much information to competitors (Miller, 2002).

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The following scenarios can help illustrate how conflicts of interest between management and shareholders can alter a firm’s economic reality by the quality of their reports. Fraser and Ormiston (2010) suggest that red flags are raised immediately when a cash statement reveals significant changes that show a decrease in accounts receivable (A/R) and an increase in cash from operating activities (Fraser & Ormiston, 2010). This could result from a strategy some managers used under duress to inflate CFO figures by selling A/R for cash to appease shareholders. Conflicts of interest can also affect accounting procedures that may occur at a natural gas company, for instance, that utilizes fracking practices. Because of the demand to find alternative gas resources, this industry is banking on the lower rates they offer consumers and managers are under pressure to provide data that supports the enterprise is profitable while environmentally safe. If for example, management has knowledge the industry is not environmentally safe, in an effort to maintain operations, they may use incomplete reporting tactics to shield this data as long as they can along with any other questionable investing activities that could reveal unethical practices such as funds diverted to falsify results. One method shareholders can use to verify the firm’s claims is to scrutinize the outflows of the investment activities and review the notes for clues. Managers want to achieve desired outcomes and shareholders want to hear a company is financially healthy. Because of this component, it presents opportunities for conflicts of interest to develop that can affect the quality of reports that will alter a firm’s economic reality.

Due to the winter holidays, there will be no new posts for the next few weeks. Look for a new blog post Monday, January 6 where I take a closer look at what Annual Report financial ratios reveal.

Thank you for tuning in everyone! Wishing you all a very beautiful winter holiday season.

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References:

Berman, K., & Knight, J. (2008). Financial intelligence for entrepreneurs. Boston, MA: Harvard Business School Press.

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Miller, P. (2002, April). Quality Financial Reporting. Retrieved November 25, 2013, from Journal of Accountancy: http://www.journalofaccountancy.com/Issues/2002/Apr/QualityFinancialReporting.htm

The Quality of Financial Information

Published December 19, 2013 by Mayrbear's Lair

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The holidays are creeping up on us and I just realized, I neglected to post Wednesday’s blog. This post is significant to my research work in financial analysis because it helps us understand that in order to keep apprised of how well a company is doing, the quality of financial reporting is the key component that determines whether the statements paint an accurate portrait of the firm or not. For example, because of scandals that occurred from companies like ENRON, AEI, and WorldCom, a revolution occurred with respect to financial reporting. According to Bahnson and Miller (2002) old practices and habitual thought processes with respect to accounting principles were put aside and replaced with new strategies and systems. As a result, accountants and finance executives are expected to embark on a different path that embraces a new shift in the bookkeeping paradigm called quality financial reporting (QFR). For financial managers to consider investing in a company they are looking for accurate information about two significant components: (1) opportunities to receive future cash flows, and (2) information about those opportunities (Bahnson & Miller, 2002). QFR provides complete information to investors and creditors to give them confidence in a company’s performance abilities. Much of the information provided on financial statements can be intimidating to many managers and entrepreneurs. This is a typical response from those who lack the financial intelligence required that can help them make more effective decisions in running their firms. Berman and Knight (2008) explain that the figures on financial statements help strategists determine a variety of estimates and assumptions. Learning how to assess that information helps planners to identify the bias of the data provided, in one direction or another (Berman & Knight, 2008). In this context, where financial results are considered, bias merely suggests that the numbers may be skewed in a certain direction. In other words, bookkeepers and finance professionals are trained to use certain assumptions and estimates rather than others who view the reports for other purposes. QFR is essential because it provides sufficient information to identify not only the source of those gains, but whether there are any other events or circumstances that could have an effect out the outcome, like pending litigation.

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Much of the information provided on financial statements can be intimidating to many managers and entrepreneurs. This is a typical response from those who lack the financial intelligence required that can help them make more effective decisions in running their firms. QFR is effective at painting an accurate view of the company’s financial condition. For example, revenue should not be recognized until there is evidence that a sale has transpired. In other words, the recipient has received delivery of the product or completion of the services rendered and revenue is collected. Many companies, however, violate this policy and report revenue prematurely without all criteria being met. Analysts can look for clues of false revenue reporting in the financial reports. For instance, the notes can reveal the company’s position with respect to collecting revenue policies to ascertain whether any changes occurred and determine the reason for the changes as well as the impact they can have.  Another clue is an analysis of the financial statements to determine the pattern of movement from sales, inventory, and accounts payable. For example, spikes in revenue during the final quarter may be a sign of revenue reported prematurely unless there is a specified reason for the spike to generate sales (like an end of the year close-out sale to liquidate inventory). Companies do not commonly experience spikes from sales in the fourth-quarter so this immediately raises flags. Other methods companies use to raise revenue levels include keeping the account records open longer at the end of the allotted accounting period. Some corporations on the other hand, use deceptive tactics like reporting gross sales rather than net to show higher revenue. For example, a company that is acting as an agent for another organization may collect their revenue in the form of a commission. According to regulations set forth by the GAAP (generally accepted accounting practices), agents are not considered the owner of merchandise being moved. Fraser and Ormiston (2010) explain that the GAAP requires the reporting of Gross Revenue for Principal Owners and Net Revenue for those who act as a representative in the in the sale of a product or service.  In other words, because agents are not considered the owners or originators of the product who assume the risk of the merchandise, the company acting as the agency can use the net method for recording revenue. Therefore knowing that a company collects revenue as an agency analysts can scrutinize the data closely to determine whether they reported gross or net revenue.

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QFR is also important because it can help strategists understand the various inventory valuation methods. For instance, there are times when companies produce lower or higher earnings due to the fluctuation of inflation. Analysts again must look to the financial notes to determine the details of the company’s accounting policies to disclose whether the changes in revenue occurred due to LIFO (last in first out) or FIFO (first in first out) inventory cost flow accounting assumptions. If the value of the products sold, for example, falls under its original cost, the product is written down to reflect the market value and is determined by the cost to replace or produce an equivalent. This means that write downs can also play a part in the company’s profit margins which affects the comparability and quality of financial reporting. Accounting practices that do not provide details and incorporate misleading information is considered an unacceptable practice and any CEO that signs off on documentation that provides a misrepresentation of the truth is putting their career at risk and may face dire consequences as a result. That should be incentive enough to engage in QFR. To surmise, QFR provides investors the ratios that reveal whether companies are able to buy inventory and pay their bills. Furthermore, they provide profitability ratios that help creditors understand how much capital the company is generating while efficiency ratios reveal how well the company is managing their assets. The more complete these reports are the more likely they are to reduce shareholder uncertainty. In the eyes of investors and creditors, certainty reduces risk and reduced risk, provides shareholders with the satisfaction of a lower rate of return. In the long run, a lower rate of return means a lower cost for capital, which ultimately produces a higher stock price for the company. In conclusion, providing quality financial information is an essential component to management that contributes to a company’s long term success.  Tomorrow’s blog will post on schedule and will take a look at how different conflicts of interest can effect quality reporting.

References:

Bahnson, P., & Miller, P. (2002). Quality financial reporting. New York, NY: McGraw-Hill.

Berman, K., & Knight, J. (2008). Financial intelligence for entrepreneurs. Boston, MA: Harvard Business School Press.

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Eastman Kodak Cash Flow Statement

Published December 16, 2013 by Mayrbear's Lair

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Early last week, I revealed the significance and meaning of cash flow statements. As we discovered, a corporation’s cash flow statements reveal a company’s ability to generate and allocate working capital. In fact Tracy and Tracy (2012) describe the movement of a company’s cash flow as the bloodline of a business due to its continual need to keep in circulation to avoid fatality (Tracy & Tracy, 2012). The focus of this post is a continuation of the analysis work of the Kodak Corporation’s financial condition provided from the data contained within their 2007 Annual Report. The analysis will reveal how well they managed their working capital. The study will also examine the following components that are contained within the cash flow statement: (a) the changes in balances that occurred with respect to Kodak’s assets and liability accounts such as inventory, accounts receivable, supplies, insurance, accounts payable and other unearned revenues; (b) adjustments that occurred as a result of their investing activities which include the purchase and sale of long term investments, equipment, and property; (c) changes that transpired from Kodak’s financing activities that also had an effect on the balances of long term liability and stockholders’ equity accounts due to such items as deferred income taxes and stock activity; and (d) the supplemental information provided from the notes that report the exchange of important items that did not involve cash such as income taxes and interest paid all of which may have had an effect on the flow of their working capital. The findings of this research will conclude that Kodak’s cash management strategies were effective in keeping enough operating capital available needed to operate during that time.

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The Significance of Cash Flow Statements

Companies risk running out of money and can go bankrupt without effective cash management strategies in place; plain and simple. Cash flow statements act as a tool to help analysts assess a company’s ability to generate and disperse their working capital. Friedlob and Plewa (1995) assert that in order for a company to run efficiently, they must budget their cash flow operations. Managing cash flow is a complex issue that requires today’s cash managers to have general knowledge in accounting practices and the ability to develop effective networking skills because of their extensive involvement in the company’s banking relationships, investment decisions, and forecasting decisions. For example, managing cash inflow from sales require that cash managers know how to extend credit and collect revenue so that it can be used effectively for functions like: (a) accelerating cash receipts to move cash faster using methods like fast bill pay, offering cash discounts and electronic transfers; (b) the planning and delaying of disbursements to gain the maximum use of cash; (c) forecasting cash inflows and outflows to avoid such events like overdrafts, deficiencies, and late payments; (d) investing idle cash to convert excess cash into short-term investments and back into cash again when they are needed; (e) reporting cash balances to make it convenient for managers to monitor and determine a company’s cash position; and (f) monitoring the cash flow system to assess whether the system is operating as designed and that goals are being achieved (Friedlob & Plewa, 1995). To ensure the cash is being used efficiently, managers require skills to help them maximize the earning potential of their organization and cash flow statements serve as tools that help them monitor and manage working capital.

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Kodak Annual Report Cash Flow Statement Analysis

An analysis of Kodak Company’s cash flow statement will reveal their ability to generate and disperse working capital they acquired from their operating, investing, and financing activities during a specified accounting period. Fraser and Ormiston (2010) explain that cash flow statements reveal the absolute dollar amounts of a company’s various accounts and are prepared by calculating all of the changes that are reflected in the balance sheet accounts, including cash; then itemizing those adjustments into cash flow categories to reflect the changes in their operating, financing, and investing activities (Fraser & Ormiston, 2010). For example, a quick overview of Kodak’s Cash Flow Statement (see Exhibit A) shows that in 2005, Kodak generated $1,208 (in the millions) from operating activities that decreased about 21% in 2006 to $956 and then took a dramatic 67% drop in 2007 when they only showed that $314 was generated in cash from their operating activities. In addition, the cash statement reveals that the income generated during each of those years was reflected as a loss. In fact a closer look reveals that changes in cash occurred with positive balance results not from income that was generated, but were due to the adjustments that were made with respect to depreciation and amortization, restructuring and impairment charges, as well as increases in receivables and inventories that were reported. Regardless of the losses from income reported each year, the statement revealed that Kodak’s operating activities during that accounting period showed they generated enough cash to cover their outflow leaving them a positive ending balance each year.

Kodak’s cash flow statement also disclosed that in 2005, the net cash they collected from investing activities was reported as a loss of $1,304, (in the millions) but in 2006, they only showed a loss of $225. This means the cash they received from investing activities jumped up about 83%. In 2007 they reported a considerable profit gain of $2408. A closer look at the statement to identify the source of that gain points to their other investing activities provided from the financial notes of the report, that explained the gain was due to proceeds Kodak received from the sale of the Health Group and HPA businesses. In the meantime, the statement also shows that in 2005 the cash generated from Kodak’s financing activities revealed a profit of $533 while in 2006 those figures plummeted about 170% when they reported a loss of $947. The numbers dived even further in 2007, however, when they showed a 235% loss of $1,280.  The report revealed those losses were due to the payment of long term borrowing debt and shareholder dividends.

A general overview of the figures reported on Kodak’s cash flow statement revealed that the totals for operating, investing, and financing activities all showed positive balances at the end of each of those years. For example, in 2005 they showed a balance of $1665 that dropped down about 12% in 2006 to $1469. In 2007 however, the cash balance at the end of that year was reported at $2,947 which reflected an impressive increase of about 101% in only one year. This result occurred due to the profits Kodak generated from their investing activities and not because of their operating or financing activities with both reported considerable cash losses.

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Conclusion

Without the use of cash flow statements, businesses risk running out of money and going bankrupt. The Kodak Company’s cash flow statement disclosed that the increases and decreases which occurred had an effect on how the company utilized their working capital that were produced from their operating activities and highly liquid short-term marketable securities, that were also considered cash equivalents. In analyzing the figures on the statement strategists could assess Kodak’s financial condition to make more effective decisions about: (a) their ability to generate future cash flow, (b) their capability to meet their cash obligations, (c) what their future external financial needs might be, (d) their success and productivity in managing their investment activities, and (e) Kodak’s effectiveness in implementing financing and investment strategies. The findings of this research disclosed that Kodak was effective during that time with their investing strategies that but that they were struggling to show considerable profit gains from their operating and financing activities. The assessment of the cash flow statement that was conducted, deduced that the Kodak Company was effective at generating and allocating working capital during that accounting period because of their investing activities, however, more productive results were required from their operating and financing activities in order to help them maneuver the organization into a better position to achieve more profitable results.

Appendix A

Assignment 4 Exhibit A

(Kodak, 2008)

References

(2008). Kodak. Washington: Securities and Exchange Commission.

Averkamp, H. (2013). Cash flow statement. Retrieved November 21, 2013, from Accounting Coach: http://www.accountingcoach.com/cash-flow-statement/explanation/1

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Friedlob, G., & Plewa, F. (1995). Understanding cash flow. New York, NY: John Wiley & Sons, Inc.

Tracy, J., & Tracy, T. (2012). Cash flow for dummies. Hoboken, NJ: John Wiley & Sons, Inc.

Eastman Kodak Income Statement Analysis

Published December 13, 2013 by Mayrbear's Lair

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This blog is a continuation of my examination of Kodak’s 2007 Annual Report with focus on understanding the information contained in their income statement. A company’s income statement summarizes their revenue and expenditures to reveal whether the organization is operating at a profit or loss. The income statement is a significant financial document in Kodak’s Annual Report because it discloses the top and bottom line earnings which give shareholders more information about the company’s profitability (Understanding the income statement, 2011). By analyzing this statement closely, investors can determine whether the company is operating efficiently or whether they are struggling to keep their doors open. This research will take a closer look at the annual report’s income statement to understand Kodak’s financial condition during that time to determine whether they were operating effectively and to assess their future. The study will include an analysis of the net sales figures and cost of goods to help determine their gross profit ratios. In addition the research will examine the company’s operating profit figures to identify their source of revenues and assess their profit margin levels. The findings of this research will conclude that although Kodak continued to operate at a loss in 2005 and 2006, by 2007, they revealed they still had some life left in them when their records reflected that they finally had a profitable year.

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Understanding the Income Statement

As I mentioned, income statements are important to investors because they summarize a company’s revenue and expenditures. Fraser and Ormiston (2010) suggest that the information reported on income statements can help investors determine the financial performance of an organization, but points out it is only one of many components that comprise the financial statement package to help paint a true picture of how well a company is being managed (Fraser & Ormiston, 2010). Income statements are reported in two common formats: (a) a multi-step configuration that includes a variety of profit measures including gross revenue, operating profits, and before tax earnings; and (b) a single step format that combines all revenue items and expense deductions to reveal net income figures. In addition, special categories like discontinued operations and extraordinary transactions are also included on these documents so that analysts have more information to understand the broad landscape of an organization’s performance levels so that they can ascertain how efficiently the company is being managed.

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Kodak Income Statement Findings

Without income statements it is difficult for business owners to monitor and control expenditures. Ittelson (2009) postulates income statements are important because they reveal such information like how costs are spent for material and labor to create a product and whether the expenses that are allocated to develop, sell, and account for their products brings in enough revenue to cover the cost of their investments (Ittelson, 2009). For example, Kodak’s income statement (see Exhibit A) indicates that during the accounting period from 2005 to 2007 net sales continued to plummet. In 2005, they reported net sales figures of $11,395 (in the millions) which decreased by 7% in 2006 ($10,568) and dipped even lower in 2007 ($10,301) when figures dropped down another 3%. This means that during that three year accounting period, Kodak’s sale figures dropped a total of almost 10%. In the meantime, the net profit figure during that three year period showed significant changes. For instance, in 2005, net profit numbers indicate that Kodak experienced a loss of $1,261 (in the millions). In 2006, net profit outcomes still showed that the firm was operating at a loss ($601) however, the loss revealed a 52% increase from the loss they reported the previous year. That means that although the company was still losing money, it was not as significant as the prior year. Finally, in 2007, Kodak reported a profit for first time during that accounting period of $676. This indicates the Kodak Company experienced a 153% increase in net profits during that three year period. Those are impressive figures and at first glance can give shareholders hope. Upon closer examination, however, the income statement reveals that the increase in net profit was due to discontinued operations. This means that Kodak did not achieve their profit gains from net sales. In truth, their earnings were the result of selling off portions of the business, and in doing so by 2007 their bookkeeping records allowed them to report a net profit of $676.

Taking a closer look at Kodak’s gross profit figures in 2006, after the cost of goods were calculated, the numbers revealed a loss of 5% from that of 2005. In 2007, the gross profit amounts indicate an increase of about 4%, however the figures revealed Kodak earned a profit that year due to revenue they received from discontinued operations. In the meantime, the income statement disclosed their profit margins as well, which also help investors identify the real sources that contributed to the company’s revenue. For example, in 2005, Kodak’s profit margins for net sales were only 22%, rose slightly to 23% in 2006 and ended at 24% in 2007. This tells investors that the majority of net sales were allocated to honor Kodak’s debts and that the company was unable to achieve a large enough profit margin to make gains from net sales. The income statement also revealed that the reason Kodak reported a profit by 2007 was because of the revenue they received from discontinued operations. This scenario does not paint a stable operating picture of the company to help investors feel confident that Kodak could again become the highly profitable photo imaging giant it once was.

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Conclusion

Income statements reveal a company’s profits and overall financial condition. They help strategists determine whether a firm is operating in the red or in the black. Alvarez and Fridson (2011) explain that shareholders are looking to profit from their investments and maximize their wealth. Income statement analyses provide valuable information that determines whether a company is operating effectively by comparing the data from earlier periods. By examining the data on income statements investors can ascertain if a firm is stable enough to invest in. In addition, these statements provide information that lets analysts know whether a company’s profitability is highly sensitive to changes in material costs and labor that make up the cost of goods they sell (Alvarez & Fridson, 2011). Kodak’s income statements summarized the company’s revenue and expenditures during a three year period, providing ratio information that revealed it took the firm a few years to change their operating status from showing losses and that by the end of 2007, they finally experienced considerable gains in revenue to report a profit. However, a closer analysis of the income statement figures exposed that the revenue Kodak received was because of discontinued operations. In other words, the company showed a profit that year because they sold portions of the business and that during that accounting period, they did not report any operating profits. In conclusion, the findings of this research deduced that although the Kodak Company showed a profit in 2007, it was because the firm continued to sell off portions of the company not because of sales revenue. This suggests that the iconic organization wasn’t out of the woods financially during that time and still had a way to go before shareholders could consider it a profitable venture once again.

Exhibit A

 Assignment 3 Exhibit A

(Kodak, 2008)

References

(2008). Kodak. Washington: Securities and Exchange Commission.

Understanding the income statement. (2011, October 10). Retrieved November 15, 2013, from Investopedia.com: http://www.investopedia.com/articles/04/022504.asp

Alvarez, F., & Fridson, M. (2011). Financial statement analysis: A practioner’s guide. Hoboken, NJ: John Wiley & Sons, Inc.

Fraser, L., & Ormiston, A. (2010). Understanding financial statements. Pearson Education.

Ittelson, T. (2009). Financial statements: A step-by-step guide. Amazon Digital Services, Inc.