KAMPALA INTERNATIONAL UNIVERSITY
COLLEGE OF ECONOMICS AND MANAGEMENT
NAME : CHANDIRU GLORIA
REG NO : 2021 – 01 - 02713
COURSE : BBA/FA
COURSE UNIT : CORPORATE FINANCE
COURSE CODE : ACC 3102
YEAR : THREE
SEMESTER : ONE
SESSION : DAY
LECTURER : DR. MABONGA ERIC
Use the financial statement to explain how each of the figures is obtained. You
can illustrate where applicable and you can give an example where necessary
The Income Statement is one of a company’s core financial statements that shows
their profit and loss over a period of time. The profit or loss is determined by taking
all revenues and subtracting all expenses from both operating and non-operating
activities.
The income statement is one of three statements used in both corporate finance
(including financial modeling) and accounting. The statement displays the company’s
revenue, costs, gross profit, selling and administrative expenses, other expenses and
income, taxes paid, and net profit in a coherent and logical manner.
The income statement may have minor variations between different companies, as
expenses and income will be dependent on the type of operations or business
conducted. However, there are several generic line items that are commonly seen in
any income statement.
The most common income statement items include:
Starting at the top, we see that CFB PLC has one revenue net sales of3,432.000 in
2019 and 5.834,400 in 2020 which combine to form total revenue.
Net sales
Net sales is the company’s revenue from sales or services, displayed at the very top
of the statement. This value will be the gross of the costs associated with creating the
goods sold or in providing services. Some companies have multiple revenue
streams that add to a total revenue line. As we have in our case the net sale for 2019
are $3,432,00 and those of 2020 are $5,834,400.
To account for this fact and possibility, firms calculate net sales as follows:
Net sales = Gross sales - (Returns and Allowances).
Cost of Goods Sold (COGS)
Cost of Goods Sold (COGS) is a line-item that aggregates the direct costs associated
with selling products to generate revenue. This line item can also be called Cost of
Sales if the company is a service business. Direct costs can include labor, parts,
materials, and an allocation of other expenses such as depreciation. So in this case
the cost of good amounted to $2,864,000 in 2019 and $ 4,980,000 in 2020
Cost of goods sold = Beginning inventory + Materials purchases - Ending inventory
Other expenses
Gross Profit
Gross Profit Gross profit is calculated by subtracting Cost of Goods Sold (or Cost of
Sales) from Sales Revenue.
Marketing, Advertising, and Promotion Expenses
Most businesses have some expenses related to selling goods and/or services.
Marketing, advertising, and promotion expenses are often grouped together as they
are similar expenses, all related to selling.
General and Administrative (G&A) Expenses
SG&A Expenses include the selling, general, and administrative section that contains
all other indirect costs associated with running the business. This includes salaries
and wages, rent and office expenses, insurance, travel expenses, and sometimes
depreciation and amortization, along with other operational expenses. Entities may,
however, elect to separate depreciation and amortization in their own section.
EBITDA
While not present in all income statements, EBITDA stands for Earnings before
Interest, Tax, Depreciation, and Amortization. It is calculated by subtracting SG&A
expenses (excluding amortization and depreciation) from gross profit.
Depreciation & Amortization Expense
Depreciation and amortization are non-cash expenses that are created by
accountants to spread out the cost of capital assets such as Property, Plant, and
Equipment (PP&E).
Operating Income (or EBIT)
Operating Income represents what’s earned from regular business operations. In
other words, it’s the profit before any non-operating income, non-operating
expenses, interest, or taxes are subtracted from revenues. EBIT is a term commonly
used in finance and stands for Earnings Before Interest and Taxes.
Interest
Interest Expense. It is common for companies to split out interest expense and
interest income as a separate line item in the income statement. This is done in order
to reconcile the difference between EBIT and EBT. Interest expense is determined by
the debt schedule.
Other Expenses
Businesses often have other expenses that are unique to their industry. Other
expenses may include fulfillment, technology, research and
development (R&D), stock-based compensation (SBC), impairment charges,
gains/losses on the sale of investments, foreign exchange impacts, and many other
expenses that are industry or company-specific.
EBT (Pre-Tax Income)
EBT stands for Earnings Before Tax, also known as pre-tax income, and is found by
subtracting interest expense from Operating Income. This is the final subtotal before
arriving at net income.
Income Taxes
Income Taxes refer to the relevant taxes charged on pre-tax income. The total tax
expense can consist of both current taxes and future taxes. So in this case income
taxes were charged at 40% which were 58.640 in 2019 and (63.424) in 2020
Net Income
Net Income is calculated by deducting income taxes from pre-tax income. This is the
amount that flows into retained earnings on the balance sheet, after deductions for
any dividends. Therefore from our income statement this gives us a figure of 87.960
in 2019 and (95.136) in 20202
Shares out standing
Use the formula "Earnings per share equals net income divided by shares
outstanding" to calculate the shares outstanding. Divide the net income by the
earnings per share to determine the number of shares outstanding.
It simply implies the number of shares issued and outstanding as of date. These are
the number of shares held by shareholders and are actively tradable without any
restrictions in the form of lock-in or anything else. Also, It is used by Analysts and
even normal investors to compute various Important Financial ratios such as Earning
per Share, Dividend per Share, etc., among the various ratios used by Investors to
evaluate a company’s performance from an equity investment perspective. So by
2019 the company had an outstanding shares of 460,000 and in 2020 it has an
outstanding share of 460,000.
It is important to note that there are various categories of Shares, such as Authorized
Shares, Issued Shares, and Outstanding Shares, although all the company shares
differ in terms of purpose.
Thus, we can see how a change in Share Outstanding impacts the Earnings Per Share
for the company and consequently impacts the company’s valuation.
Formula:
Outstanding Shares = Issued Shares – Treasury Stock
How to Calculate Outstanding Shares?
Let’s understand how to calculate it and how it affects Earnings Per Share with the
help of an example:
ABC Limited has an Authorized Share Capital of $100000 comprising 10000 shares of
Face Value of $10 each. The company has an issued share capital of 8000 shares as of
31st December 2019. As of the same date, there is no treasury stock outstanding,
and all the issued shares are outstanding.
The Board of Directors decided to buy back 1000 shares @ $13 per share on 25th
January 2020 (The market Price of Share on that date was $10 per share).
Net Earnings by the Company for the quarter ending 31st December 2019 is $10000
and for the quarter ending 31st March 2020 is $12000.
Based on the above information, let’s compute the number of Outstanding Shares
and their impact on the Earnings per share of the company as of 31st
December 2019 and 31st March 2020.
Particulars 31st December 2019 31st March 2020
Net Earnings (A) $10,000 $12,000
Issued Shares (B) 8000 8000
Treasury Stock (C) 0 0
Share bought back (D) 0 1000
Outstanding Shares (E) = (B – C -D) 8000 7000
Earnings Per Share (EPS) (F) = (A / E) $1.25 $1.71
Earnings per share
Earnings per share (EPS) is calculated by determining a company's net income and
allocating that to each outstanding share of common stock. Net income is the
income available to all shareholders after a company's costs and expenses are
accounted for.
Here's how to calculate earnings per share:
EPS= NI − PD AOCS where:NI= Net income PD= Preferred dividends AOCS= Avera
ge outstanding common shares EPS= AOCS NI − PD where:NI= Net income PD=
Preferred dividends AOCS= Average outstanding common shares
The formula uses the average outstanding shares. Typically, an average number is
used because companies may issue or buy back stock throughout the year and that
makes the actual outstanding shares and true earnings per share difficult to pin
down. Using an average of outstanding shares can provide an accurate picture of
the earnings for the company.
Example of How to Calculate EPS
Let's look at an example of how to calculate earnings per share. As a reminder, the
figure for earnings per share is calculated as follows:
EPS= NI − PD AOCS EPS= AOCS NI − PD
Suppose that for the fiscal year 2021, net income for ABC Bank was $18.232 billion.
Its preferred stock dividends were $1.614 billion. Its average outstanding common
shares stood at 10.196 billion.
Here is the formula for EPS:
EPS=$18.232 billion −$1.614 billion 10.196 billion =$16.618 billion 10.196 billion =$1.
63EPS=10.196 billion $18.232 billion −$1.614 billion EPS=10.196 billion $16.618 billio
n EPS=$1.63
Diluted EPS, which accounts for the impact of convertible preferred shares, options,
warrants, and other dilutive securities, was $1.56.
Companies may choose to buy back their own shares in the open market to improve
EPS. By doing so, a company doesn't have to improve its net income. The better EPS
results from the net income being divided up by a fewer number of shares.
Let's say ABC Bank bought 1 billion shares back in 2021 through its share repurchase
program. As a result, its EPS would have been:
EPS=$16.618 billion 9.196 billion =$1.81EPS=9.196 billion $16.618 billion EPS=$1.81
REFERENCES
Aswath Damodaran (1996). Corporate Finance: Theory and Practice. Wiley. ISBN 978-
0471076803.
João Amaro de Matos (2001). Theoretical Foundations of Corporate Finance.
Princeton University Press. ISBN 9780691087948.
Joseph Ogden; Frank C. Jen; Philip F. O'Connor (2002). Advanced Corporate Finance.
Prentice Hall. ISBN 978-0130915689.
Pascal Quiry; Yann Le Fur; Antonio Salvi; Maurizio Dallochio; Pierre Vernimmen
(2011). Corporate Finance: Theory and Practice (3rd ed.). Wiley. ISBN 978-
1119975588.
Stephen Ross, Randolph Westerfield, Jeffrey Jaffe (2012). Corporate
Finance (10th ed.). Mcgraw-Hill. ISBN 978-0078034770.
KAMPALA INTERNATIONAL UNIVERSITY
COLLEGE OF ECONOMICS AND MANAGEMENT
NAME : NAMPIIYA MARTHA
REG NO : 2021 – 01 - 02180
COURSE : BBA/FA
COURSE UNIT : CORPORATE FINANCE
COURSE CODE : ACC 3102
YEAR : THREE
SEMESTER : ONE
SESSION : DAY
LECTURER : DR. MABONGA ERIC
Use the financial statement to explain how each of the figures is obtained. You
can illustrate where applicable and you can give an example where necessary
An income statement, also known as a profit and loss (P&L) statement, summarizes
the cumulative impact of revenue, gain, expense, and loss transactions for a given
period. The document is often shared as part of quarterly and annual reports, and
shows financial trends, business activities (revenue and expenses), and comparisons
over set periods.
Income statements typically include the following information:
Revenue: The amount of money a business takes in
Expenses: The amount of money a business spends
Costs of goods sold (COGS): The cost of component parts of what it takes to make
whatever a business sells
Gross profit: Total revenue less COGS
Operating income: Gross profit less operating expenses
Income before taxes: Operating income less non-operating expenses
Net income: Income before taxes less taxes
Earnings per share (EPS): Division of net income by the total number of
outstanding shares
Depreciation: The extent to which assets (for example, aging equipment) have lost
value over time
EBITDA: Earnings before interest, taxes, depreciation, and amortization
Accountants, investors, and other business professionals regularly review income
statements:
It is important to realize that profit on an income statement seldom corresponds with
a company’s actual cash flow. In fact, while all companies seek to maximize their cash
flow (since cash is necessary to pay bills, salaries, loans, dividends and so on), not all
companies attempt to maximize reported earnings. In fact, many companies actually
try to minimize reported earnings in an attempt to reduce taxes. The reason why
income and cash flow seldom match is that most companies elect to prepare their
income statements (and thereby their balance sheets) using accrual accounting as
opposed to cash accounting.
Accrual accounting recognizes revenues as earned when sales are transacted,
regardless of when the company actually receives payment. Likewise, expenses are
recognized when they are incurred rather than when the actual payment is made. In
contrast, cash accounting recognizes revenues as earned only when payment is
received and recognizes expenses as costs only when cash is actually paid out. As we
will see in chapter four, one part of the statement of cash flows (specifically, cash
flows from operating activities) represents the conversion of an accrual accounting
income statement into a cash accounting income statement.
The basic structure of a multi-step income statement is outlined above. The term
multi-step means that four profit measures are designated on the statement: gross
profit, operating profit (sometimes referred to as operating income, Earnings before
Interest and Taxes, or EBIT), profit before taxes (sometimes referred to as Earnings
before Taxes or EBT), and net income (also referred to simply as earnings).
Note that these are not the only accounts that may appear on an income statement
and some income statements may utilize slightly different terminology. Some
companies offer more detail on their statements than others. Certain expense items
that are important for one company may be minor or nonexistent for another
company. Nonetheless, these are the major items and delineations that appear on
most standard income statements and this is the income statement structure that we
will use throughout the remainder of this section of the book.
Net sales - Sales revenue is recorded when a product is shipped, or more precisely,
when ownership of the product (or service) is transferred from the seller to the buyer.
Whereas identifying this point in time is relatively easy for merchandise sold at a
retail store, it is often more complicated to pinpoint the exact transfer time of
services. For example, a health club membership provides membership services over
a period of time. When is revenue recognized? The law allows the income
recognition to take place as soon as the member signs a contract. Although this is
not exactly correct in terms of the definition, it is nonetheless allowed and used.
In general, companies prefer to record revenue as soon as possible. Accurate
reporting, however, must note that some of this revenue may never actually be
collected. Often times people sign a service contract (for example, a health club
membership) and then cancel without ever paying any cash. Companies and
individuals sometimes purchase products on credit but do not pay when their bill
arrives. Consumer rights legislation, lemon laws, money-back guarantees, trial
periods, credit card company stop-payment return policies, defaults, and so on,
mean that not all sales will result in full payment.
To account for this fact and possibility, firms calculate net sales as follows:
Net sales = Gross sales - (Returns and Allowances).
This income statement shows that the company brought in a total of $3,432,000
millions in 2019 and $ 5,834,400millions in 2020 through sales,
Some firms also offer sales discounts for large volume purchases - in such cases,
these are also netted out of gross sales. Often returns and allowance numbers are
estimates. If actual returns turn out to be less than estimated returns, a credit is made
to net sales during the next accounting period. If, however, actual returns turn out to
be greater than estimated returns, the allowance account should be increased during
the next accounting period to reflect this fact.
Cost of goods sold - Whenever a product is manufactured or sold, certain direct
costs are incurred. These costs are designated on the income statement as cost of
goods sold, or COGS. For a retail company, direct costs are simply the cost of
materials purchased for resale. For a manufacturing company, direct costs can also
include labor costs, manufacturing overhead, and depreciation expenses associated
with production. Since service companies incur few direct costs, their income
statements usually do not include cost of goods sold. For uniformity and simplicity,
unless otherwise specifically noted, we will assume throughout this section of the
text that all firms are retailers, or at least that COGS is equal to materials purchased
for resale.
Whenever an item is sold, that item must be allocated a certain cost, that is, a cost of
goods sold. If a retail company sells 25 shirts in a given accounting period (assume
one day), each of the 25 shirts must be assigned a cost. If the retail company
purchased the 25 shirts from a manufacturer for $10 per shirt, cost of goods sold
would be $250. Assume, however, that the retail company actually purchased 45
shirts from the manufacturer during the accounting period in batches of 20 shirts at
$8 per shirt, 15 shirts at $10 per shirt and 10 shirts at $14 per shirt. Thus, the retailer
purchased $450 worth of shirts from the manufacturer (at an average cost of $10 per
shirt). If the retailer only sells 25 shirts during the accounting period, he must assign
a cost to these 25 shirts as cost of goods sold and record the remaining amount as
inventory. If the retailer chooses to assign the average purchase cost to each shirt,
cost of goods sold will be $250 and ending inventory will be $200.
A total of $2,864,000 million in 2019 and $ 4,980,000million in 2020 in selling and
operating expenses, general and administrative expenses, were subtracted from that
profit, leaving an operating income.
In general,
Cost of goods sold = Beginning inventory + Materials purchases - Ending inventory
Firms can choose between three methods of inventory valuation (and thereby cost of
goods sold valuation): FIFO, LIFO, and Average Cost.
Operating expenses - Operating expenses are expenses other than cost of goods
sold that a company incurs in the normal course of business. These include items
such as management salaries, advertising expenditures, repairs and maintenance
costs, research and development expenditures, lease payments, and general and
administrative expenses. This latter category includes everything from salaries of
office staff to paper clips. As mentioned above, for a manufacturer, depreciation
expense is considered as a cost of goods sold; for a retailer, depreciation is included
in operating expenses. Because we are limiting our focus to retail companies only,
depreciation will be noted throughout the text as an operating expense - often times
listed separately on the income statement.
Interest expense - Interest expense is the cost to the firm of borrowing money. It
depends on the overall level of firm indebtedness and the interest rate associated
with this debt. Interest expense is generally a small fraction of total firm expenses,
however, this expense as a percent of revenue can fluctuate dramatically with
changes in the firm’s borrowing requirements or with the general level of interest
rates in the economy.
Taxes - Income taxes are a necessary part of business for all profitable for-profit
firms. Earned income can be taxed at the federal, state and/or local levels and the
provision for income taxes can be calculated using published tax tables from the
respective government agencies. Because taxes are paid on an estimated basis
throughout the year (with the minimum estimated tax being equal to what was owed
in the prior year) and taxes owed are calculated at the end of the year based on the
firm’s actual profit before taxes, reported taxes and actual cash taxes paid will often
differ. This difference is reported on the balance sheet under the deferred tax
account.
Net income - Net income (also called net profit or earnings) is the “bottom line” of
the income statement. It represents the base profit earned by a firm in a given
accounting period. Net income divided by the number of common shares
outstanding is referred to as earnings per share, or EPS. This value represents the
profit earned for each share of stock. The current market price of the stock divided
by EPS is called a P/E ratio. Analysts often consider EPS and P/E ratios to be
important indicators of a firm’s current and potential future performance. These
measures and their significance will be explained in greater detail later in the book. In
this case the company earned 87.960 in 2019 and (95.136) in 2020
In conclusion therefore, In conjunction with the cash flow statement, balance sheet,
and annual report, income statements help company leaders, analysts, and investors
understand the full picture of a business’s operational results so they can determine
its value and efficiency and, ideally, predict its future trajectory.
Financial analysis of an income statement can reveal that the costs of goods sold are
falling, or that sales have been improving, while return on equity is rising. Income
statements are also carefully reviewed when a business wants to cut spending or
determine strategies for growth.
Learning how to read and understand an income statement can enable you to make
more informed decisions about a company, whether it’s your own, your employer, or
a potential investment.
Outstanding shares
The term “shares outstanding” of a business refers to the number of authorized
shares that are being either held by the promoters of the company or sold to the
public shareholders while excluding the number of treasury stocks that have been
bought back by the company itself. In other words, shares outstanding indicates the
number of shares of a company available at the open market.
Examples of Shares Outstanding Formula (With Excel Template)
Let’s take an example to understand the calculation of Shares Outstanding in a better
manner.
Let us consider an example of a company named KLX Inc. in order to illustrate the
computation of shares outstanding. According to the balance sheet for the year
2018, the company has 5.0 million authorized common stock and 1.0 million
authorized preferred stock, out of which it has issued 3.5 million common stock and
0.7 million preferred stock. During 2018, the company repurchased 0.3 million
common stocks and 0.1 million preferred stocks. Based on the given information,
Calculate the number of shares outstanding of the company.
Solution:
Issued Stock is calculated using the formula given below
Issued Stock = Issued Common Stock + Issued Preferred Stock
Issued Stock = 3.5 million + 0.7 million
Issued Stock = 4.2 million
Treasury Stock is calculated using the formula given below
Treasury Stock = Treasury Common Stock + Treasury Preferred Stock
Treasury Stock = 0.3 million + 0.1 million
Treasury Stock = 0.4 million
Shares Outstanding is calculated using the formula given below
Shares Outstanding = Issued Stock – Treasury Stock
Shares Outstanding = 4.2 million – 0.4 million
Shares Outstanding = 3.8 million
Therefore, the total number of shares outstanding for KLX Inc. at the end of the year
2018 is 3.8 million.
Earnings per share
EPS is a financial ratio, which divides net earnings available to common shareholders
by the average outstanding shares over a certain period of time. The EPS formula
indicates a company’s ability to produce net profits for common shareholders. This
guide breaks down the Earnings per Share formula in detail.
A single EPS value for one company is somewhat arbitrary. The number is more
valuable when analyzed against other companies in the industry, and when
compared to the company’s share price (the P/E Ratio). Between two companies in
the same industry with the same number of shares outstanding, higher EPS indicates
better profitability. EPS is typically used in conjunction with a company’s share price
to determine whether it is relatively “cheap” (low P/E ratio) or “expensive” (high P/E
ratio).
Earnings Per Share Formula
There are several ways to calculate earnings per share.
Below are two versions of the earnings per share formula:
EPS = (Net Income – Preferred Dividends) / End of period Shares Outstanding
EPS = (Net Income – Preferred Dividends) / Weighted Average Shares
Outstanding
The first formula uses total outstanding shares to calculate EPS, but in practice,
analysts may use the weighted average shares outstanding when calculating the
denominator. Since outstanding shares can change over time, analysts often use last
period shares outstanding.
There is also often talk of diluted EPS in financial reports. Diluted EPS includes
options, convertible securities, and warrants outstanding that can affect total shares
outstanding when exercised.
Another type of earnings per share formula is adjusted EPS. This removes all non-
core profits and losses, as well as those in minority interests. The focus of this
calculation is to see only profit or loss generated from core operations on a
normalized basis.
Earnings Per Share Formula Example
ABC Ltd has a net income of $1 million in the third quarter. The company announces
dividends of $250,000. Total shares outstanding is at 11,000,000.
The EPS of ABC Ltd. would be:
EPS = ($1,000,000 – $250,000) / 11,000,000
EPS = $0.068
Since every share receives an equal slice of the pie of net income, they would each
receive $0.068.
REFERENCES
Jonathan Berk; Peter DeMarzo (2013). Corporate Finance (3rd ed.).
Peter Bossaerts; Bernt Arne Ødegaard (2006). Lectures on Corporate
Finance (Second ed.). World Scientific.
Richard Brealey; Stewart Myers; Franklin Allen (2013). Principles of Corporate Finance.
Mcgraw-Hill.
Julie Dahlquist, Rainford Knight, Alan S. Adams (2022). Principles of Finance.
