ACC 519 Applied Financial Management

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ACC 519 Applied Financial Management

• NC State University
• Don Pagach
• Bonnie Hancock

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Overview

• This course is designed to teach students to use
  accounting and other financial information when
  making business decisions. This course delves
  into the
• sources,
• assumptions and
• estimates,
• underlying the information reported in a
  companys financial statements.

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Overview

• We want to be able to understand each reported
  financial line item included in the published
  financial statements, and to seek additional
  sources of information, beyond the GAAP
  statements, for tasks such as
• Performing better more efficient audits
• Evaluating the performance of managers.
• Evaluating risk including the likelihood of
  financial distress.
  
• Forecasting financial statement figures.

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Overview

• To succeed in auditing business it is important
  to understand the strengths and weaknesses of
  GAAP.
  
• This will ensure that decision-making is well
  informed, and allow us to obtain information that
  we can use to appropriately interpret financial
  information and make informed decisions.
• In this course, what is critical is our
  development of an understanding of what financial
  information does and does not tell us about a
  firm.

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Overview

• In addition this course will help prepare you for
  the CPA exam by
  
• 1) Examining business strategy issues, a
  component of the Business Environment and
  Concepts section.
  
• 2) Researching financial accounting standards and
  discussing their applications, an element of many
  of the simulations research components.
  
• 3) Reviewing many financial accounting topics.

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Goal for the course

• Provide you with knowledge of
• Fundamental analysis techniques
• Pro-forma forecasting techniques
• Accounting rules and issues
• Reading between the lines of financial reports

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Where are we headed?

• The beginning of the course will focus on
  business analysis
  
• Strategy Analysis
• Accounting Analysis
• Financial Analysis
• Forecasting

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Where are we headed?

• The second part of the course focuses in on
  specific applications
  
• Valuation
• Credit analysis
• Mergers and Acquisition Issues
• Corporate Financing Policies
• Corporate governance

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Background

• Professor Bonnie Hancock
• Executive Director of the ERM Initiative
• Former President Exploris Museum
• Former president Progress Fuels Corporation.
• Previously, she served as
• Senior vice president Finance and Information
  Technology, Progress Energy.
  
• Director Federal tax
• Vice president and controller and vice president
  Strategic Planning.
  
• Lead executive in guiding the successful
  combination of CPL and Florida Progress Corp.
  She also headed the acquisition of North Carolina
  Natural Gas in 1998-99.
• Elijah Watt Sells Award winner

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Some basics

• Required Textbook
• Palepu, Healy and Bernard 3rd edition.
• Class notes
• Notes can be found at
• www4.ncsu.edu/acdon

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Some basics

• Class format
• Lectures will present analytical techniques
  designed to address questions commonly asked by
  external financial statement users. Cases will
  give us the opportunity to see the techniques
  applied to a company.
• Preparation of these cases should be part of your
  normal preparation for class. Focus questions are
  contained in each case. The first two case are
  relatively short.

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Some Basics

• Groups
• Please choose your own team members. The
  minimum number of members in each team allowed is
  4 and the maximum is 5. Provide us a listing of
  your group members as soon as possible.
• At the end of the term, you will be asked to
  assess the contribution of the individuals in
  your team this requires that team membership be
  maintained throughout the course. Your team grade
  will be adjusted by your team evaluation.

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Grading

• Write-ups of cases 25
• Participation 15
• Mid-term Exam 30
• Quiz 15
• Final Group Presentation 15
• adjusted by group evaluation

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Why Cases

• Cases allow for active learning
• Cases allow for the ability to take ideas
  discussed in the text and apply them to real
  situations.
  
• Allows you to extrapolate your experiences to
  larger and more complex situations.
  
• Puts you in a situation that you will most likely
  be in next fall.

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Case Methodology

• The cases allow you to research an
• issue and come to a point of view (PWC)
• Define the Problem what is the question
• Research the issue gather information
• Consult
• Gather opinions information from others
• Examine documents/guidelines
• Analyze information keep an open mind

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Case Methodology

• Generate alternative recommendations/solutions
• Evaluate the alternatives
• Make a decision
• Prepare to defend your decision

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Case Methodology

• For each case we have prepared a case note, which
  explains the objectives of the case and in some
  cases contains additional information and/or
  alternative questions.
• Before reading each case make sure you read the
  case note.

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Case write-ups

• Starting with the Housing Industry case starting
  in Chapter 2 each group is required to hand in an
  analysis of the case along with answers to the
  case questions.
• The write-ups are to be prepared by your group
  and are due at the beginning of the class during
  which the case is to be discussed. Your summary
  should address the questions raised in the case.
  The page limit is three pages (2 spacing / 12
  point font) plus supporting tables. Bring an
  extra copy of your report that you can refer to
  during the class discussion.

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Case Discussion

• Why is class participation important?
• Active involvement in learning increases what is
  remembered and assimilated and how the learning
  is used in new situations.
  
• In making statements to peers about your own
  thoughts on a class topic, a student must
  articulate those thoughts and submit them to
  (hopefully constructive) examination by others.
• In listening to peers, students hear many
  different ways of interpreting and applying class
  material, and thus are able to integrate many
  examples of how to use the information.

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Case discussions

• In order to get an idea of class participation
  and the case method, we will start with two
  straight-forward cases.
  
• On Tuesday we will discuss the Crazy Computers
  Case (provided at the end of the slides)
  
• On the following Tuesday we will discuss the
  chapter 1 case The Dot-Com Crash of 2000.
  
• These two cases will not require write-ups but
  you should discuss each within your group and be
  prepared to answer questions during the class
  sessions

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Crazy Computers

• Case note at end of PP slides

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Course Overview

• A number of things that we will be doing this
  semester are consistent with financial statement
  analysis. FSA is the use of financial and
  non-financial information about a firm to gain
  economic insights about the firms current
  performance and future aspects.

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Course overview
Business Activity
Business Environment
Business Strategy
Accounting System
Accounting Environment
Accounting Strategy
Financial Statements
Statement of Financial Position
Statement of Operations
Statement of Cash Flows Statement of Stockholders
Equity
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Course overview

• 4 steps of financial statement analysis
• Step 1 Understand the firms operations and
  strategies
  
• Step 2 Accounting Analysis
• Step 3 Evaluate current position of the firm
  (profitability, sustainability, risk,
  governance)
  
• Step 4 Predict future course of the firm

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Course overview

• Goal of fundamental analysis depends on context
• Auditor
• Security analyst
• Equity investor
• Creditor
• Management consultant
• Legal consultant
• Investment banker

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Business Environment

• The broader macro issues that effect firms
• Labor markets
• Capital markets
• Public markets suppliers, customers
• Business Regulations

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Accounting Environment

• The institutional features that all firms are
  subject to
  
• Accounting conventions/regulations
• Tax rules
• Third-party auditing
• Legal system for accounting disputes

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Accounting System

• Accrual Accounting
• Accounting Standards and Auditing
• Managers Reporting Strategies

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Who is responsible for accounting rules?

• The Securities Exchange Commission
• Created in 1934 by the Securities Exchange Act of
  1934
  
• Mission to protect investors and maintain the
  integrity of the securities market
  
• 5 commissioners, appointed by the president
• Staggered 5-year term
• No more than 3 commissioners can belong to the
  same political party
  
• Current chairman Chris Cox, fmr.
  Representative-CA
  

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Who is responsible for accounting rules?

• Commissioners meet to
• interpret federal securities laws
• amend existing rules
• propose new rules to address changing market
  conditions and/or
  
• enforce rules and laws.

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Who is responsible for accounting rules?

• Four divisions in SEC
• Division of corporate finance
• oversees corporate disclosure of important
  information to the investing public
  
• Division of market regulation
• establishes and maintains standards for fair,
  orderly, and efficient markets
  
• Division of investment management
• oversees and regulates investment management
  industry (including mutual funds) and investment
  advisers.
  
• Division of enforcement
• investigates possible violations of securities
  laws

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Who is responsible for accounting rules?

• Financial Accounting Standard Board (FASB)
• Established in 1973, SEC delegated authority to
  promulgate accounting standards to FASB
  
• Designation re-established by SEC in 2003 as part
  of the Sarbanes-Oxley Acts requirements
  
• Oversight by Trustees of Financial Accounting
  Foundation
  
• Funding, per Sarbanes-Oxley Act, from fees
  assessed against SEC registrants

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Who is responsible for accounting rules?

• Financial Accounting Standard Board (FASB)
• Seven board members
• May serve a maximum of two five-year terms
• Strict independence requirements
• Diverse backgrounds (by convention, not rule 3
  public accounting 2 preparer 1 analyst 1
  academic)
  
• About 55 professional staff

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Who is responsible for accounting rules?

• Questions
• What are the advantages and disadvantages of
  private standard setting?
  
• Is it better to have rules (U.S.) or standards
  (International)?
  

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Who is responsible for accounting rules?

• The most relevant SEC filings for business
  analysis are
  
• 10-K, once a year, 45 days after fiscal close
• One component is the Annual Report to
  Shareholders (ARS)
  
• Proxy Statement Def. 14-A
• 10-Q Quarterly Reports

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U.S. regulatory environment and filings

• The 10-K provides information about
• Companys business and business strategy
• The competitive environment of the industry in
  which the company operates
  
• Managements discussion of recent performance and
  forecast of future
  
• Financial statements and footnotes

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U.S. regulatory environment and filings

• Proxy statement provides information about
• Management of the firm
• biography
• ownership and compensation
• Board of directors
• biography
• ownership and compensation

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Additional financial disclosures

• 4 steps of fundamental analysis
• Step 1 Understand the firms operations and
  strategies
  
• Step 2 Accounting Analysis
• Step 3 Evaluate current position of the firm
  (profitability, sustainability, risk,
  governance)
  
• Step 4 Predict future course of the firm

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Additional financial disclosures

• Significant Accounting Policies and Related
  Notes
  
• Accounting policies are the choices that
  management makes in its application of GAAP
  
• Many financial statement items are the result of
  estimates decided upon by management
  (depreciation, bad debts, discount rates, etc.)
  
• Accounting policies and estimates must be
  disclosed
  
• Accounting policies in note 1
• Accounting estimates throughout
• How do recognized items differ from disclosed
  items?

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CHICO'S FAS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
January 29, 2005 (In thousands, except share and
per share amounts and where otherwise indicated)
1. Business Organization and Significant Account
ing Policies Business Organization The accompan
ying consolidated financial statements include
the accounts of Chico's FAS, Inc., a Florida
corporation, and its wholly-owned subsidiaries.
The Company operates as a specialty retailer of
private label casual clothing, intimates and
related accessories. The Company sells its
products through traditional retail stores,
catalog, a small franchise network and via the
Internet at www.chicos.com. As of January 29,
2005, the Company's retail store system consisted
of 657 stores located throughout the United
States, the U.S. Virgin Islands and Puerto Rico,
645 of which are owned and operated by the
Company, and 12 of which are owned and operated
by franchisees. Fiscal Year The Company's fisc
al years end on the Saturday closest to January
31 and are designated by the calendar year in
which the fiscal year commences. The periods
presented in these financial statements are the
fiscal years ended January 29, 2005 (fiscal
2004), January 31, 2004 (fiscal 2003) and
February 1, 2003 (fiscal 2002). Fiscal 2004, 2003
and 2002 each contained 52 weeks.
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Management Estimates The preparation of financial
statements in conformity with accounting
principles generally accepted in the United
States requires management to make estimates and
assumptions that affect the reported amounts of
assets and liabilities and disclosure of
contingent assets and liabilities at the date of
the financial statements and the reported amounts
of revenues and expenses during the reporting
period. Actual results could differ
from those estimates. Significant estimates and
assumptions made by management primarily impact
the following key financial areas
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Sales Returns The Company's policy is to honor cu
stomer returns at all times. Returns after 30
days of the original purchase, or returns without
the original receipt, qualify for store credit
only. The Company will, in certain circumstances,
offer full customer refunds either after 30 days
or without a receipt. The Company estimates its
reserve for likely customer returns based on the
average refund experience in relation to sales
for the related period.
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Is the Lowe's House in Order?
Housing Slowdown Sends Some Running for
Exits,But Others See a Bargain
By STEPHEN GROCERAugust 31, 2006
The storm gathering around housing-related stocks
finally hit Lowe's Cos. in the second quarter. A
slumping housing market, sagging consumer
confidence and sky-high energy costs combined to
cause Lowe's to report second-quarter earnings
short of Wall Street forecasts and cut its
outlook for the rest of fiscal 2006. Long a
retail standout, the Mooresville, N.C., company's
shares tumbled 11 after the report, hitting a
52-week low of 26.15 on Aug. 25. Several
analysts expect the macroeconomic environment to
only worsen in the next few quarters, while
others think worries about housing are overblown
and that Lowe's can continue to grow, adding
value to an attractively priced stock.
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Segment disclosure

• An example
• From IBMs 1996 annual report

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Segment disclosure

• From IBMs 1999 annual report

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Segment disclosure

• Accounting rules
• Old rule (before 1997) SFAS 14 (1974)
• New rule (after 1997) SFAS 131 (1997)
• Two main differences
• How a segment is defined
• Required disclosure items

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Segment disclosure

• The OLD rules (SFAS 14)
• Product/Industry (Line of Business, or LOB)
• Geographic segment
• Major customers
• 10 rule for defining segment
• disclosure required for any segment (LOB or
  geographic) which represented at least 10 sales
  or identifiable assets

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Segment disclosure

• The new rule (SFAS 131, after 1997)
• Segment defined as operating segments, the way
  the company is managed, rather than LOB or
  geographic segments.
  
• Any unit in a firm which potentially earns
  revenue and incurs expenses
  
• whose results are reported on a regular bases to
  the CEO or COO or other executives for the
  purpose of monitoring performance and allocation
  resources
• for which information is available internally.

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Segment disclosure

• The new rule
• More items need to be disclosed
• Revenues
• Operating profit
• Identifiable assets
• Capital expenditures
• Interest expense
• They need not to confirm to GAAP, but
  reconciliation with main F/S is required.

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Segment disclosure

• Benefits of having segment disclosures
• help assess firms business strategy
• how diversified the firm is with respect to lines
  of business, geographic, and customer base
  
• where the growth potential comes from
• where capital expenditures are allocated within
  firm
  
• Any costs of segment disclosures?

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Segment disclosure

• Further explore information in segment
  disclosures
  
• Why do firms diversify?
• How does stock market value diversification?

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Strategy
A Hot Commodities Market SpursBuying Spree by
Manufacturers By TIMOTHY AEPPELAugust 14, 2006 
Page A1 Shortages and high prices for raw materia
ls are fueling a new and unusual wave of
acquisitions and deals. Steelmakers are buying
iron-ore mines, airplane manufacturers are
striking long-term deals for titanium, and the
world's second-largest tire maker is cultivating
rubber trees. This return to a type of vertical i
ntegration that has been out of favor for decades
signals a new phase of industry consolidation.
Having bulked up by acquiring rivals,
manufacturers are turning their deal-making
prowess to raw materials providers in hopes of
ensuring adequate supplies and controlling costs.
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Strategy
The trend reaches beyond raw materials to crucia
l parts. Armor Holdings Inc., a maker of armored
cars and bullet-proof vests, last month bought
Integrated Textile Systems Inc., a Monroe, N.C.,
supplier of super-strong fibers. The fiber
producer had come up with a low-cost and
environmentally friendly way to make fibers for
reinforcing armored cars. Auto makers and steel
companies historically sought to own everything
from raw-materials stocks, manufacturing plants
and sales outlets. But vertical integration lost
favor in the past century because of
inefficiencies.
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Regulation FD Disclosures

• Regulation FD (Fair Disclosure) is an SEC rule
  that requires public companies to ensure that
  information is fully disseminated to all market
  participants
• All parties should have equal access to market
  moving, material news.

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Regulation FD Disclosures

• Goal of Reg-FD is to increase the amount of
  common information
  
• Questions
• Does more common information result in more
  efficient security prices?
  
• What role will Reg-FD have on the amount of
  private information?
  
• Does Reg-FD change the role of the financial
  analyst?
  

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Interim Reporting

• 10-Qs are quarterly financial statements
• Should the quarterly report take a discrete view
  or integral view of the accounting period?
  
• Discrete view - a view that each accounting
  period is a separate accounting period. The
  results of operations should be determined in
  essentially the same manner as if the interim
  period were an annual period.
• Integral view - each interim period is a part of
  the larger annual accounting period.
  
• Ex. A calendar year company spends 5m on Super
  Bowl ad, should the expense be part of Q1 or
  allocated over the four qtrs?

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Interim Reporting

• Advantages Disadvantages of quarterly
  reporting.
  
• Provides more timely information even though not
  audited
  
• Accounting estimates and allocations are more
  arbitrary
  
• Seasonality

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Interim Reporting

• Required quarterly disclosures
• Sales, income taxes, extraordinary items,
  unusual/infrequent items, Cumulative effect
  changes, net income
  
• EPS
• Seasonal revenues, expenses and costs
• Significant changes in estimates for income tax
  expense
  
• Discontinued operations
• contingent items
• Significant changes in financial position