Cash Flow Statement

1. Cash Flow Statement

2. Why Cash Flow Statement? • Shareholder value is now widely accepted as an appropriate standard for performance in US business. The stock market sends a clear message that earning per share is not the most important measure. Now is growth for growth’s sake. What matters is long-term cash generation. (Werner & LeBer, “Managing for Shareholder Value--From Top to Bottom,” Harvard Busines Review, Nov.-Dec. 1989 pp. 52-65.)

3. Basic Form of Cash Flow Statement • Cash Flow From Operating Activities • Direct method or indirect method (direct requires also a reconciliation of net income to cash flow from operating activities) • Cash Flow from investing activities • Cash Flow from financing activities • Total (positive or negative) cash flow is added to beginning cash balance and should result in ending cash balance

4. Flow from Operating Activities • Includes: • Current assets • except Marketable securities and s-term notes receivable which are investing • Current Liabilities • except s-t notes payable which are financing • Revenue and Expenses (includes interest expense and revenue, and dividends received)

5. Flow from Investing Activities • Includes: • Short-term and long-term investments • Short-term and long term notes receivable • Property, Plant and Equipment (depreciation affects operating activities) • Intangible Assets

6. Flow from Financing Activities • Includes: • Short-term and long-term loans • Capital Stock and Paid in Capital in excess of par • Retained earnings (net income aspect is operating) • Dividends Paid

7. General Theory • Take revenue or expense account (includes cash and accrual) • adjust out accrual amounts • Result is net cash in or out. • Too expensive to classify all cash transactions into operating, financing, investing activities. Cheaper to use accrual systems and adjust out accrual information

8. Operating ActivitiesIndirect Method • Net Income • + Depreciation exp (noncash exp) • + Losses from sale of assets • (full amount of sale already included in investing section) • - Gains from sale of assets • (full amount of sale already included in investing section) • - increases in current assets • + decreases in current assets • + increases in current liabilities • - decreases in current liabilities • = Net cash from operating activities

9. Operating Activities Direct Method • + Cash Received from Customers • - Cash paid for inventory • - Cash paid for operating expenses • - Cash paid for income taxes • - Cash paid for interest • + Cash received from dividends and interest • = Net cash from operating activities

10. Cash Received from Customers • Sales • - Increase in A/R (receive less cash) OR + Decreases in A/R (receive more cash) • - writeoffs (beg allowance +bad debt exp. - ending allowance) • + Increase in unearned revenue (receive more cash) OR - Decrease in unearned revenue (receive less cash) • = Cash Received from Customers

11. Sales + Beg Net A/R - End Net A/R - Bad debt exp adj - Beg unearned rev + End undearned rev = Cash from Customers Sales + Beg A/R - End A/R - writeoffs = beg allowance + bad debt exp. - ending allowance - Beg unearned rev + End unearned rev = Cash from Customers Cash Received from Customers(other variations)

12. Cash Paid For Inventory • Cost of Goods Sold • + End Inventory • - Beginning Inventory • = Purchases • + Beg A/P • - End A/P • = Cash paid for inventory

13. Cash Paid for Operating Expenses • Operating Expenses (do not include interest exp., depreciation exp., nor gains & losses from sale of investments) • - Beg prepaids • + End prepaids • + Beg accrued exp • - End accrued exp • = Cash paid for operating expenses

14. Cash Paid for Income Taxes • Income Tax Exp • + Beg tax payable • - End tax payable • = Cash paid for income Taxes

15. Cash Paid for Interest • Interest Exp • + Beg interest payable • - End interest payable • = Cash paid for interest

16. Cash Received from dividends and interest • Dividend and Interest Income • + Beg interest receivable • - End interest receivable • = Cash Received from dividends and interest

17. Cash Flow from Investing Activities • Cash received (sale) or paid (purchase) for: • short term investments • long-term investments • property plant and equipment • Whole cash amount received or paid. • Look at change in investment and fixed asset accounts but may need more specific information

18. Example Equipment • Balance Sheet Amount Change: Beg $300,000, Ending $400,000 • Can your just say net cash out for equipment was $100,000? • Why?

19. Example Equipment Continued • Sold Equipment for $65,000 cash that had book value of $40,000 (original cost $100,000) • Bought equipment $200,000 with $80,000 down and the rest on a long term note payable • Accumulated depreciation increased by $50,000

20. Example EquipmentResults on Cash Flow Statement • Cash from sale of equipment $65,000 • Gain on sale $25,000 subtracted from NI on indirect method (make sure amt is not included in direct method either) • Depreciation exp $110,000 ($50,000 increase in accum deprec from B/S + $60,000 acum depr reduced when sold equip added back in indirect method (make sure amt is not included in direct method operating expenses • Cash paid for purchase of equipment $80,000 • Noncash investing & financing Activities • Issued long-term note payable for some equipment $120,000

21. Equipment ExampleThink about journal entries • Cash 65,000Accum Depr 60,000 Equip 100,000 Gain 25,000 Sale of equipment • Depr Exp 110,00 Accum. Depr 110,000 Year end Adj J/E for equip depr. • Equipment 200,000 Cash 80,000 L-T Note Payable 120,000 Equip Purchase

22. Financing Activities • Cash received from: • sale of stock • issuance of debt • Cash paid for • Payment of debt (principle only, interest is in operating activities) • Payment of dividends • Look at change in stock, debt and retained earnings (May need more details) (for R/E only dividends portion applies to financing activities while net income portion should tie into indirect method in operating activities)

23. Ways to Check Your Work • Indirect and Direct methods must equal each other • Net cash flow added to beginning cash balance must equal ending cash balance (Marketable securities are most often included as part of these cash balances.) • In template must account for every change in B/S accounts and every item on income statement (some noncash items are adjusted out or not included in cash flow calculations)