Accounting Analysis (Analyzing Financing Activities)

CHAPTER 4
ACCOUNTING ANALYSIS
(analyzing financing activities)
TOPIC OUTCOME
At the end of this topic, student will be able to:
• Explain the needs of accounting analysis
• Analyzing financing activities
- identify source of financing
- discuss types of lease and its implication
- list features of capital
- describe retained earning
Introduction
Process of evaluating a
company’s accounting Precondition for effective
numbers reflect economic financial analysis
reality
Accounting
analysis
Identify and assess For necessary adjustment in

accounting distortions in financial statement
financial statement
Needs of Accounting Analysis
• Recognition methods
• Accrual vs cash accounting – reflect the actual activities
in the business
• Diverse set of users
• Different set of users requires different information
Financing activities
• Business activities are financed with either
liabilities or equity.
• It covered:
• Liabilities ( financing liabilities and operating liabilities) –
normally reported as current or non current.
• Equity – claims of owners on the net assets of the
company.
Liabilities
• Arise from financing activities –
Current short term borrowings
• Arise from operating activities –
liabilities payables or accrued expenses
Non • Requires disclosures – interest

rates, features, maturity.
current • Includes – mortgages, commercial
paper, capital lease, secured loan,
liabilities unsecured loans
• Reasons to analyze liabilities:
• Ability and flexibility in pursuing further financing
• Prohibition on disbursement of evidence
• Terms of indebtedness
• Restrictions to deploy resources and pursuing business
activities
• Obligations for working capital.
Lease
• Contractual agreement between lessor and lessee
• The lessor owns the asset and for a fee allows the
lessee to use the asset.
• The lessee is the party in a lease liable for periodic
payments in exchange for the right to use the asset.
• Can be classified as:
• Finance lease
• Operating lease
A.Operating Leases
• Usually not fully amortized
• Usually require the lessor to maintain
and insure the asset
• Lessee enjoys a cancellation option
B.Financial Leases
Essentially opposite of an operating lease.
1. Do not provide for maintenance or service by the lessor.
2. Financial leases are fully amortized.
3. The lessee usually has a right to renew the lease at
expiry.
4. Generally, financial leases cannot be cancelled.
Implication of lease
• Step in preparing amortization table:
• Determine the present value of the leased asset.
PVA = PMT (PVIFAi,n)
• Compute interest
interest expenses = interest rate x beginning year
liability
• Compute principal for each year
total lease payment – interest expenses
Implication of lease
• example:
• A company lease an asset on January 2016. The assets
has 5 years useful life. The company will depreciate this
assets using straight line method. The company paid
RM2,505 lease at the end of each year. The interest rate
on the lease is 8 percent per year.
• You are required to analyze the lease by preparing the
amortization schedule.
Lease amortization table
Beginning Year Year end

Year Liability Interest Principal Total Liability
2016 10,000 800 1,705 2,505 8,295
2017 8,295 664 1,841 2,505 6,454
2018 6,454 517 1,988 2,505 4,466
2019 4,466 358 2,147 2,505 2,319
2020 2,319 186 2,319 2,505 0
total 2,525 10,000 12,525
Income statement effects
• Operating lease
Year Rent Expenses

2016 2,505
2017 2,505
2018 2,505
2019 2,505
2020 2,505
total 12,525
Income statement effects
• Capital lease
- A firm has to recognizes depreciation
Total
Year Interest Depreciation expenses
2016 800 2,000 2,800
2017 664 2,000 2,664
2018 517 2,000 2,517
2019 358 2,000 2,358
2020 186 2,000 2,186
total 2,525 10,000 12,525
• Comments:
• From balance sheet perspective, capital lease
accounting recognizes the benefits (assets) and
obligation (liabilities) that arises from lease transaction.
• Operating lease methods ignores these benefits and
obligation and fully reflects these impacts only by end of
the lease term.
• Thus, the balance sheet under the operating lease
method fails to reflect the lease assets and obligations
of the company
Shareholders’ Equity
• Analyzing the equity includes:
• Classify among major sources of equity financing
• Examining the rights class of shareholders and priorities
in liquidations
• Evaluating legal restrictions of distribution of equity
Shareholders’ Equity
• Disclosed in financial statements or
Capital related notes.

• Classification : Preferred share,
Common share
Retaine • Earned capital of a company
d • Accumulation of undistributed
earnings or losses of a company
earnings • Effected by cash or share dividend

THE END
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CHAPTER 4

Identify and assess For necessary adjustment in

Non • Requires disclosures – interest

Beginning Year Year end

Year Rent Expenses

• Disclosed in financial statements or

Capital related notes.

Retaine • Earned capital of a company

earnings • Effected by cash or share dividend

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