Class Note for SCH-MGMT 797 at UMass(4)
Class Note for SCH-MGMT 797 at UMass(4)
Popular in Course
Popular in Department
This 3 page Class Notes was uploaded by an elite notetaker on Friday February 6, 2015. The Class Notes belongs to a course at University of Massachusetts taught by a professor in Fall. Since its upload, it has received 14 views.
Reviews for Class Note for SCH-MGMT 797 at UMass(4)
Report this Material
What is Karma?
Karma is the currency of StudySoup.
Date Created: 02/06/15
senberg hool ofManagement SCHMGMT 797AA Financial Statement Analysis Notes for seventh day Chapters 16717 Ray Pfeiffer July 20 2005 Administrative items Music Reformulated statements on web Exam tomorrow Extra project resources Wall StreetJournal 19847present http proquestumicom loginPCOPTSU5UPTAmRElTPTYzMQ Go over course project instructions again Today Questions Accounting methods and valuation Earnings quality i What is it 7 Why does it matter 7 how to measure it Summary For Friday Study for exam Pre presentations The effects of accounting methods on valuation Go through example in Effects of Accounting Treatmentxls Then look at slide 1 The point is that While conservative or aggressive accounting will affect the residual earnings and RNOA valuation is not affected because of the offsetting effects of accounting on book value Conservative accounting creates hidden reserves understated net operating assets and higher apparent pro tability income scaled by understated assets But again under RE valuation there is no effect on value because value is only created by generating real economic value Slides 274 have a good list of typical conservative and liberal accounting practices Nate w de ter 76 77 RAJPei er a 22 Slides 577 have a nice list of valuation fallacies to go through that are related to the effects of accounting on various measures So what effects do these insights have on valuation We can trust that residual earnings valuation still works However our forecasts of future earnings need to recognize the fact that accounting choices will influence the numbers Earnings Quality Note that this analysis of earnings quality is very germane to the work of an auditor In the Previous section it was shown that accounting methods consistently applied do not affect value when focusing on RE valuation However in this section the story is different The reason is not because of something wrong with the model rather low quality earnings can cause the analyst to be misled in their forecasts of future sales margins turnovers fade rates growth etc and these forecasting errors will lead to poor valuations Slide 8 lists ve questions that frame the analysis of accounting quality But amounting quality is just one part of assessing earning quality see slide 9 figure 171 in text on page 607 for the other parts i financial statement analysis and red flags W11 ofwzmgb d ng earning Slide 10 shows a way of categorizing accounting manipulation Slide 11 shows some things to think about before proceeding on a quality analysis Slides 12 and 13 are a good list of accounting areas that are prone to manipulation Slide 14 points out institutional factors and 15 points out financial statement indicators red ags Slide 16 shows the results from Teoh et al regarding evidence of manipulation around IPOs Afmwewor for lbin ing about deteilmg manipulation Penman advocates thinking about the accrual numbers sales for example as consisting of a cashibasis amount that is presumed to be unimanipulated plus or minus accrual adjustments Operating inmme 01 Fm tmb ow A Not operating amt From this then we design diagnostics ratios to assess the reasonableness of the resulting aggregate number Figure 172 page 612 and slides 18 and 19 list some of these diagnostics for sales Slide 20 suggests considering the normal ATO from past years or appropriate industry comparisons Then using sales assuming sales can be relied upon compute normalized Nate w Cba ter 76 77 RAJPei er 4 e3 01 as the sum of free cash flow and the change in sales over normal ATO see p 614 Finally compare normalized OI with OI and look for deviations from 10 Slides 21 and 22 then go into investigations of individual expense line items Slide 23 does the same for balance sheet line items and 24 does the same for the cash flow statement Slides 25 and 26 contain additional things to look out for in particular strategic transaction timing and organizational manipulations Challenge lo ndf g manipulation Slide 27 indicates some typical disclosure issues that make assessment of earnings quality difficult Perhaps such firms disclosure policies are such that they d be better left alone Summary 1 P You learned that accounting methods while having a lot of discretion in application and ranging from conservative to unbiased to liberal do not directly impact RE ReOI valuation because of the offsetting nature of the stocks and flows used in valuation In contrast you learned that application of GAAP and shortcomings in GAAP can influence the numbers that the analyst sees and thus indirectly in uence the forecasts of sales margins turnovers etc used in valuation i thus potentially impacting the impewmmlmn of the valuation models You learned some diagnostic tools to use to detect aggressive accounting You learned some red ags to look for when evaluating a firm s earnings