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Financial Analysis Notes

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FINANCIAL ANALYSIS Lecture


Cash Stock Debtors Creditors Sales Purchases


o o o o

o o

o o


o

Working capital = current assets - current liabilities Cash flow example Last year Current year 100 80 20 30 10 50 40 60 100 100 Assuming ALL sales on credit. Debtors owed 10 at the start of the year, sales of 100, owed 110 by the end BUT only right to receive 50 at the end of the year. SO, 60 cash came in. Creditors
 Owe 40 at the start of the year, purchases of 100
 So now owe 140
 But only 60 written down
 So 80 cash has gone out i.e. 80 cash has gone out, 60 cash has come in so overall 20 cash out Opening stock 20 ADD purchases 100 120 LESS (30) Cost of sales 90 Sales 100 Less cost of sales (90) Profit 10 PBIT 10 (-) Increase in stock (10) (-) Debtors (-40) (+) Creditors 20
-20 Goodwill Accounting Standards Codification 350 states that companies are required to test for possible goodwill impairment at the reporting unit level at least annually, following a 2step process
 Step 1 is used to identify potential impairment


Comparing the fair value of the net assets of a reporting unit to the carrying value of its net assets o Accounting standards don't give a clear definition of net assets o In estimating fair value, also need to consider the transaction structure
 Would a sale of the reporting unit be structured as a taxable sale transaction (or asset deal) or a non-taxable transaction (or stock deal)? 3 criteria for deciding:


What would market participants classify it as


The feasibility of a taxable or non-taxable transaction

The type of structure that yields the highest economic value to the seller after adjusting for tax implications
 Also can think about the form of the transaction in which the stock was initially acquired - reasonable presumption that it would be the same
 In certain industries where buyers are reluctant to take over the liabilities of the seller, almost all transactions are structured as taxable o In most cases, the fair value of the assets acquitted is in excess of their current carrying value
 E.g. brand name - typical carrying value of zero but value then stepped up to its estimated fair value when it is acquired o The value of the unit under an asset sale is generally higher than under a stock sale due to the ability to realise a larger amortization tax shield.
 So, question whether, to avoid impairment, shouldn't we always want to support the presumption of an asset sale?


Increasing fair value increases the chance of exceeding the entity's carrying value


No we shouldn't: o Consistent with ASC 350-20-35 - not a matter of preference o While an asset sale typically results in higher value of the net assets of the reporting unit, it may not result in the highest after tax proceeds. o If fair value exceeds the carrying value, there is no impairment and the testing is complete.


If not, step 2 required: o Goodwill cannot be measured directly, as it is a residual amount estimated by deducting the fair values of the acquired assets from the fair value of the reporting unit, after business combination accounting adjustments.
 Step 2 measures the amount, if any, of the impairment charge.
 'An impairment loss is measured as the excess of the carrying amount of goodwill over its implied fair value' o Impairment testing is performed either as part of the annual requirement under ASC 350, or upon the occurrence of a 'triggering event' (e.g. adverse regulatory decisions or a sudden drop in revenue) The term goodwill value 'is also used more loosely to refer to that part of a company valuation created by the positive perception of the company from clients, customers, and the general public.' o E.g. AOL and Google
 People in a room were asked to rate the results given by each of these search engines
 Always rated Google better, BUT the results were exactly the same
 Most likely because they trusted Google more - this trust has a real monetary value o Microsoft tried to acquire Yahoo in 2008

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