Hello. I'm Professor Brian Bushee. Welcome back. In this video we're gonna do a quick review of the three financial statements. This video is optional. If you've just taken a financial accounting course or you do financial accounting for a living, you don't need to watch this video. And if you've never seen financial accounting before, you don't need to watch this video either. You need to go probably go take a financial accounting course first before you take this course. But, if you know financial accounting but it's been awhile, you wanna review the terminology, brush up on your knowledge, then this is the video for you. Let's get started. Let's start with a quick overview of the required financial statements. We'll talk about each one in a little more detail in a second. First, we have the balance sheet, which is the statement of financial position. Which means it lists all of the company's resources and obligations on a specific date. Here's where we can see assets equals liabilities plus stockholder's equity. This is the equation that governs everything in accounting, and it must always be in balance. Then, we get an income statement which shows the results of operations over a period of time. By over a period of time I mean between two balance sheets. So, maybe over a quarter, or over a year, using something called accrual accounting which is where recognition is tied to business activities, not to cash flows. And this is where we can see net income, also known as earnings, or net profit, which equals revenues minus expenses. And the third major statement we're gonna use is the statement of cash flows. This shows all these sources and uses of cash over a period of time split up into operating, investing and financing activities. >> Mr. Professor, I learned a ton of accounting in Montessori school. But shouldn't you explain this stuff more for those who didn't? >> Just to reiterate what I said in the intro, the goal of this course is not to teach you financial accounting. There are other courses out there that do that. Rather, the goal of this course is to teach you to do interesting analytics with your knowledge of financial accounting. So, if you are really lost at this point, you probably want to go take an intro to financial accounting first, then come back and take this course. I'll still be here. Now, let's review the balance sheet in more detail. So, we have assets, which are resources owned by the business that are expected to provide future economic benefits. By that we mean they'll either provide cash coming in in the future, or they'll save the company from having to spend cash in the future. Liabilities are claims on assets by creditors who are non-owners that represents some obligation to make future payment of cash, goods, or services. And stockholders equity is the claim on the assets by the owners of the business. So, we have the balance sheet equation that assets equal liabilities plus stockholders equity, which means that your resources, assets, equal claims on those resources by outsiders, creditors. And then, claims by the owners, stockholders equity. Stockholders equity is made up of a couple components. First of all, there's contributed capital. This is the common stock, or additional paying capital, that arises when the company sells shares of stock. And retained earnings, which arise when the company operates the business. Retained earnings are increased by revenues, which is what you get when the company delivers goods or services to its customers. They're decreased by expenses, which are the costs of generating those revenues. Also, decreased by dividends, which are decisions to pay out either cash or stock to shareholders. >> [FOREIGN] Are you going to talk about Par Value again in this course? >> If you've taken my Intro to Financial Accounting course, you know there's this guy who always likes to ask me about Par Value. Looks like he's back again. But have no fear, I will not be talking about Par Value at all in this course. Let's take a quick look at the balance sheet for a real company. This is the 3M company, and this is the asset side of their balance sheet. Starts with cash plus short-term marketable securities, which should pay off within the next year. Then, there's accounts receivable. This is the amount owed by customers. So, we've recorded sales in the past, and this is how much cash we're gonna collect from them in the future. Inventories are the cost of all the goods that are available for sale split up into the cost of goods that are finished, finished goods, the cost of goods that are in the process of being produced, work in process, and the cost of all our raw materials and supplies. Other current assets, these are operating costs paid in advance. So, maybe you paid rent or insurance in advance of using up the rent, or using up the insurance. So, we have this other current asset to represent that. Then, we have non current assets. These are assets beyond one year. So, marketable securities and investments. Property plant and equipment. We show the original cost. Then, the accumulated depreciation, which is how much of that original cost has been recognized in income as an expense. And we'll talk about that in a little bit. Then, we have goodwill and intangible assets. So, goodwill is the premium that 3M is paid in acquisitions. And in tangible assets are contractual rights like patents or trademarks. Here's the liability and stockholders equity side of the 3M company balance sheet. Starts with current liabilities. These are obligations due within the next year starting with short term debt. Then, accounts payable. This is amount owed to suppliers on purchases that we've made. So, we've received stuff from suppliers in the past, now we owe this cash in the future. Then, there's a bunch of other payables, or what are called accruals. These are operating costs like salaries or income taxes that we've recognized an expense. And we owe those people the money in the future. Below current liabilities, we have long term debt. So, debt that's due beyond a year. And then, longer term pension benefits and other long term liabilities. Stockholders equity. We have common stock and paid in capital. That's what shows up when we issue stock to our investors. Retained earnings is the sum of all the prior net income that 3M has earned minus any dividends that they paid out. The rest of the stuff we're not going to talk about. Treasury stock is when they repurchase their own stock. And then, I'm definitely not gonna talk about accumulated other comprehensive income at this point. But that's what the balance sheet looks like. And as you notice, the assets equal liabilities and equity. Next, let's review the income statement. So, on the income statement we'll see revenues, which are increases in stockholders equity from providing goods and services. These will also be called sales or credits or gains. >> Stockholders equity? What are you talking about? Why isn't a revenue an increase in cash? >> Good question. This is a pretty fundamental point of financial accounting. So, let's take a little bit to review it. Revenue is recognized when companies deliver the goods to customers, not necessarily when they get paid cash. So, the company delivers the goods, but then gives the customer an invoice to get paid in 30 days. We create an accounts receivable between the time we recognize the revenue and when we collect the cash. Or sometimes companies will receive cash before delivering the goods. So they get a deposit. So, they'll create a liability called unearned revenue between the time they receive the cash and deliver the goods. But in both cases the revenue will be recognized when the goods are delivered, not when cash is gonna be received. And that's a fundamental point for accrual accounting, is that we recognize revenues and expenses based on business activities, not based on cash flow. Which is why it's an increase in stockholder's equity and not necessarily an increase in cash. Next, we have expenses, which are decreases in stockholders equity that incurred in the process of generating revenues. These are also called provisions or charges or losses. And then, net income, which is also known as earnings or net profit, which is these revenues minus expenses. Does not equal the change in cash because we're gonna recognize revenues and expenses based on business activities, not based on cash coming in or cash going out. Here's the Income Statement for 3M company. Starts at the top with net sales. So, that's the revenue which is the value of goods delivered to customers during the period using the selling price. Cost of sales, also known as cost of goods sold. That's the cost of goods that were delivered to customers during the period using the historical cost of manufacturing the goods. Selling general and administrative expenses. These are all the operating expenses incurred the period. So things like the cost of your sales force, marketing, top management, admin, and so forth. Research and development expenses. Self-explanatory. The cost of research and development activity during the period. And then, that gives us operating income, which you can think of as the profitability from the core business of 3M. Below that, we include interest expense and interest income during the period. The provision or expense for income taxes. And then, at the bottom, the net income attributable to 3M. You can ignore the non-controlling interest. It's not something we're gonna talk about. Instead, we're gonna focus on this bottom line net income attributable to 3M. Finally, we have the statement of cash flow, which is gonna summarize all of the cash transactions during the period split up into operating activities which are transactions related to providing goods or services and other normal business activities. Investing activities, which are transactions related to a acquiring or disposing of long-lived assets like property plant equipment. And financing activities, which are transactions related to owners or creditors. So, here's the cash flow statement for the 3M Company. I'm not gonna go through the whole thing because if you've taken prior courses, you know this is really hard and complicated to put together. The numbers that we're gonna need for this course are the net cash provided by operating activities. So, again, that's cash coming in from customers, cash we're paying out to suppliers, employees, or other vendors. Cash used in investing activities. This is the cash spent on capital expenditures, or acquiring other companies, or buying marketable securities, less any disposals of those. And finally, the cash used in financing activities. We get cash from financing activities when we issue stock or we borrow money. We pay out cash for financing activities when we pay back debt, when we buy back our stock, or when we pay dividends to shareholders. So, the total cash changed during the year is split up into these three categories. That wraps up our quick review of the financial statements. Now that we know all the wonderful information that are in those financials, we can start doing some really interesting stuff with it. I'll see you next time. >> See you next video.
