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Corporate Finance
University of Kansas School of Law
Harper Ho, Virginia

CORPORATE FINANCE OUTLINE
Professor Virginia Harper Ho
Spring 2012
 
 
I. OVERVIEW
1. Introduction to Corporate Finance
·         Financial Decisions: sale of financial assets to raise money
o    Financial assets: securities, stocks, bonds
·         Investment Decisions: purchase of real assets (that you hope will earn value)
o    Real assets: land, building, equipment, patents, etc.
o    OR could reserve cash or pay dividends
o    Capital budgeting or Capital expenditures
·         Your client
o    CFO
o    Controller- in charge of tax, auditing, accounting functions
o    Treasurer- in charge of cash management
·         Regulators of corporate finace
o    Securities regulation
§  Federal corporate law
§  Investment intermediaries
§  Accounting Rules
o    Accounting
§  Public Company Accounting Oversight Board (PCAOB)– auditing function
o    State Corporate Law (DE for KS, MBCA for MO)
 
2. Introduction to Accounting
·         Intro to Accounting
o    Accounting is recording and accounting for the receipt and disbursement of a limited set of money-denominating assets.
o   GAAP (US) and IFRS (rest of world)
§     General Accepted Accounting Principles—developed by professions, see p 20 Carney footnote 6 — responsible for establishing accounting rules, has statutory authority to test accounting and reporting rules, oversight and monitor whether the companies comply the rule.
§  IFRS– International financial Reporting standards (still under negotiation, used by some jurisdiction, but will come into effect soon.)
§  There is an effort to move GAAP closer to IFRS standards
o    In Re Bowles footnote- hierarchy for GAAP (SEC and FASB)
o   American Institute of Certified public accountants
§  Committee on Accounting Procedure(1939-59): “Accounting Principles Research Bulletins”
§  Accounting Principles Board(59-73): APB opinion– official opinions became part of GAAP
o   Financial Accounting Standards Board (73-present) —responsible for establishing accounting rules
§  Statements of financial Accounting Standards
o   SEC adopted its own accounting rules in Regulation S-X Act 13(b)(1) –for public companies – Public Company Accounting Oversight Board, no real role in rule-making, nonprofit corporation established by Congress to oversee the audits of public companies and broker-dealer compliance.
 
·         Financial Statements
o    Balance Sheet
o    Income Statement
o    Statement of Cash Flows
o    Statements of Shareholders’ Equity
 
·         Basic Accounting Principles
·         Historical Cost principle – historical cost with only minor exceptions at higher market values should be included
·         Reliability principle
·         Economic entity principle — Made for an economic entity
Consolidated returns is required when the parent company owns more than 50% of  the subsidiary.
If owns less than 50% but more than 20%, count it as assets
·         Matching Income & Expenses in Accounting period — Cost effective and need only report material information (Accrual accounting—opposite of cash accounting,) Financial reports are for accounting periods
·         Transparency of methods—understandable.
·         Consistency of methods — Firms should report results on a consistent basis from one period to the next, and should prefer methods that will be comparable to the those of other firms in the industry, thus facilitating comparisons.
·         All reports are on monetary basis under the same currency
·         Going concern that assume the entity will continue to operate for the indefinite future
·         Conservatism principle — Transactions must be reported on a conservative basis, a method to understate, rather than overstate
Matching principle in the dog and cat account example; FMV, reliability and historical cost; conservative
Inventory has to be report at a value lower than the book value or the historic cost.
 
 
3. Financial Statements
·         Balance Sheet
o    Cash accounting
§  Record revenue when received
§  Record expenses when actually paid
o    Accrual accounting
§  Record revenue when earned (delivery) – if received later, A/C
§  Record expenses when incur obligation to pay – if paid later, A/P
o    Not on the balance sheet
§  Contingent liabilities
§  Operating leases (unlike buying the equipment)
§  Other transactions like: JVs, R&D partnerships
§  Value of company’s reputation, employee know-how, productivity potential
o    Basic “Balance Sheet Equation”
§  Assets = Liabilities PLUS Owners’  Equity
o    Valuation numbers shown for assets on the balance sheet reflect book value
§  Book value = the historical price at which asset was acquired

evenue in the period that the expenses are incurred
·         This is accrual accounting
o    Parts of Income Statement
§  Sales (Revenue)
·         Always at top line and reports all revenue for the period (example: all of 2001)
§  Costs and Expenses
·         Cost of sales
o    How do we determine cost of sales when cost of inventory is different for different widgets from year to year
§  This is where LIFO and FIFO come in
·         Gross margin on sales
o    = Sales – COS / Sales = %
·         Inventory Accounting / Calculating COGS
o    LIFO / FIFO
§  FIFO
·         Use cost of the oldest unit in inventory (First In, First Out)
o    Minority position used particularly by tech industry to reflect how goods in that industry move quickly
o    Better value of inventory because what is left is most recently acquired inventory
§  LIFO
·         Use cost of the newest unit in inventory (Last In, Last Out)
o    Results in lower profits usually
o    If cost is going up then profit and taxes will go down (can function like a tax shelter
§  Weighted average cost = (unit cost A * % of units at cost A) + (unit cost B * % of units at cost B)
§  Stock Compensation
·         Cost of giving stock options to employees
o    Basic Formula of Income Statement
§  Revenues – Expenses = Net Income
·         Net income is the magic number that people talk about, when companies release their “earnings”
o    Different Ways to Look at Earnings
§  Net Earnings: Earnings after interest and taxes are taken out (i.e. the “Bottom Line” earnings numbers companies announce)
§  EBIT (“Earnings Before Interest & Taxes”) = Operating Profit
§  Earnings Per Share = Net Earnings / # of shares
·         Basic vs. Diluted EPS
o    Diluted means company has issued rights to convert into common shares (i.e. like a convertible preferred stock) and it takes it into account