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Breaking into Wall Street 400 Guide
Questions And Answers (Guaranteed A+)
Walk me through the three financial statements - answer✔"The 3 major financial statements
are the income statement, balance sheet, and cash flow statement.
The income statement gives the companies revenue and expenses, and goes down to net
income, the final line on the statement.
The balance sheet shows company's assets (resources) such as cash, inventory, and PP&E, as
well as its liabilities, such ase debt and accounts payable, and shareholders equity. Assets must
equal liabilities plus shareholders equity.
The cash flow statement begins with net income, adjusts for non-cash expenses and working
capital changes, and then lists cash flow from investing activities and financing activities. At the
end, you see the company's net change in cash.
Major line items on income statement - answer✔Revenue, COGS, SG&A, Operating Income,
Pretax Income, Net Income
Major line items on balance sheet - answer✔Cash, Accounts Receivable, Inventory, PP&E,
Accounts Payable, Accrued Expenses, Debt, Shareholders Equity
major line items on cash flow statement - answer✔Net Income; Depreciation & Amortization;
Stock-Based Compensation; Changes in Operating Assets & Liabilities; Cash Flow From
Operations; Capital Expenditures; Cash Flow From Investing; Sale/Purchase of Securities;
Dividends Issued; Cash Flow From Financing.
How do the three statements link together? - answer✔"To tie the statements together, Net
Income from the Income Statement flows into Shareholders' Equity on the Balance Sheet, and
into the top line of the Cash Flow Statement.
Changes to Balance Sheet items appear as working capital changes on the Cash Flow Statement,
and investing and financing activities affect Balance Sheet items such as PP&E, Debt and
Shareholders' Equity. The Cash and Shareholders' Equity items on the Balance Sheet act as
"plugs," with Cash flowing in from the final line on the Cash Flow Statement."
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If I were stranded on a desert island and only had one financial statement and I wanted to
review the overall health of a company, which statement would I use and why? - answer✔You
would use cash flow statement because it gives true picture of how much cash the company is
actually generating, independent of all the non-cash expenses you might have. And cash flow is
#1 thing you care about in analyzing financial health of a business.
If you could look at 2 statements, which two would you use and why? - answer✔Then you
would pick the income statement and balance sheet because you can create the CFS from both
of them (assuming you have "before" and "after" versions of balance sheet corresponding to
period income statement tracks
Walk me through how depreciation going up by $10 would affect the statements? -
answer✔Income statement: operating income would decline by $10, and assuming a 40% tax
rate, net income would go down by $6 because of reduced tax expense
CFS: net income at top goes down by $6, but $10 depreciation is a non-cash expense that gets
added back, so overall cash flow from operations goes up by $4. There are no changes
elsewhere, so the overall net change in cash goes up by $4.
BS: PP&E goes down by $10 on assets side because of depreciation, and cash is up by $4 from
changes on CFS
Overall: assets is down by $6. Since net income fell by $6 as well, shareholders' equity is down
by $6 and both sides of the balance sheet balance.
*Remember that an asset going up decreases your cash flow, whereas a liability going up
increases your cash flow
If Depreciation is a non-cash expense, why does it affect the cash balance? - answer✔Because it
is tax-deductibale. Since taxes are a cash expense, depreciation affects cash by reducing taxes.
Where does depreciation usually show up on the income statement? - answer✔It could be in a
separate line item, or it could be embedded in COGS or operating expenses. Every company
does it differently.
*End result for accounting questions is the same: depreciation always reduces pre-tax income
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What happens when accrued compensation goes up by $10? - answer✔*assume accrued
compensation now being recognized as an expense (as opposed to just changing non-accrued
to accrued compensation)
Operating expenses on income statement go up by $10, pre-tax income galls by $10, and net
income falls by $6 (assuming 40% tax rate).
On CFS, net income down by $6, accrued compensation will increase cash flow by $10, so
overall cash flow from operations is up by $4 and net change in cash at the bottom is up by $4.
On BS, cash up by $4 as a result, so assets are up by $4. On liabilities/equity side, accrued
compensation is a liability so liabilities are up by 10 and retained earnings are down by $6 due
to the net income, so both sides balance.
What happens when inventory goes up by $10, assuming you pay for it with cash? - answer✔No
changes to IS.
On cash flow statement, inventory is an asset so that decreases your cash flow from operations,
which goes down by $10, as does net change in cash at the bottom.
On balance sheet under assets, inventory up by $10 but cash is down by $10, so changes cancel
out and assets still equals liabilities & shareholders' equity.
Why is the income statement not affected by changes in inventory? - answer✔*This is a
common interview mistake, incorrectly stating that working capital changes show up on income
statement.
In the case of inventory, the expense is only recorded when the goods associated with it are
sold. So if it's just sitting in a warehouse, it does not count as a cost of good sold or operating
expense until the company manufactures it into a product and sells it.
Let's say Apple is buying $100 worth of new ipod factories with debt. How are all 3 statements
affected at the start of Year 1, before anything else happens? - answer✔No changes yet to IS at
start of year 1.
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On CFS, additional investment in factories would show up under cash flow from investing as a
net reduction in cash flow of $100 so far. But the additional $100 worth of debt raised would
show up as an addition to cash flow, canceling out investment activity. So cash number stays
the same.
On BS there is now $100 worth of factories in PP&E, so assets is up by $100. On the other side,
debt is up by $100 as well so both sides balance
Now going out 1 year to start of year 2. Assume debt is high yield so no principal is paid off, and
assume an interest rate of 10%. Also assume factories depreciate at a rate of 10% per year.
What happens? - answer✔Apple must pay interest expense and must record the depreciation.
Operating income would decrease by $10 due to the 10% depreciation charge each year, and
the $10 in interest expense would decrease pre tax income by $20 altogether.
Assuming 40% tax rate, net income would fall by $12 (20-20*.4)
On CFS, net income at top is down by $12. Depreciation is a non-cash expense, so you add it
back and the end result is that cash flow from operations is down by $2.
That's only change on CFS, so overall cash is down by $2.
On BS, under assets, cash down $2, PP&E down $10 from depreciation, so assets are down by
$12 total.
On other side, since net income was down by $12, shareholders' equity is also down by $12 and
both sides balance.
*Remember, debt number under liabilities does not change since we've assumed none of the
debt is actually paid back
At the start of Year 3, the factories all break down and the value of the equipment is written
down to $0. The loan must also be paid back now. Walk me through the 3 statements. -
answer✔After 2 years, the value of the factories is now $80 if we go with the 10% depreciation
per year assumption. It is this $80 that we will write down in the 3 statements.
On IS, $80 write-down shows up in pre-tax income line. With 40% tax rate net income declines
by $48.
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