The Statement of Cash Flow

Statement of Cash Flows Understand the purpose of SCF Distinguish between its three sections Understand the difference between the direct and indirect methods for the Operations section Understand Cash Flow from Operations and how it is derived from Net Income Practice these concepts 1 Statement of Cash Flows Beginning Balance Assets = Liabilities + ∆Cash + ∆OA = ∆Liabilities + ∆CC + NI - Div Assets = Liabilities + S.E. S.E. Ending Balance ∆Cash +/- “other stuff” = NI 2 Statement of Cash Flows Fixed claimants (lenders) Residual claimants (shareholders) Managers Why do we need a separate financial statement? 3 W. T. Grant Bankruptcy 90 40 -10 1966 1967 1968 1969 1970 1971 1972 1973 1974 -60 -110 -160 4 W. T. Grant Bankruptcy 90 40 -10 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 -60 -110 -160 5 W. T. Grant Bankruptcy 90 Net Income 40 -10 -60 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 Operating Cash Flow -110 -160 6 Consolidated Freightways 140,000 120,000 Net Income 100,000 80,000 60,000 40,000 20,000 0 1994 -20,000 -40,000 1995 1996 1997 1998 1999 2000 2001 2002 Operating Cash Flow -60,000 7 Montgomery Wards Bankruptcy 1997 1996 1995 1994 1993 1992 Operating Cash Flow 1991 400 200 0 -200 -400 -600 -800 -1000 -1200 -1400 Net Income 8 Planet Hollywood Bankruptcy 100000 50000 0 -50000 -100000 -150000 -200000 -250000 -300000 Operating Cash Flow 94 95 96 97 98 99 Net Income 9 Enron 6000 5000 Operating Cash Flow 4000 3000 2000 1000 Net Income 0 1995 1996 1997 1998 1999 2000 2001 -1000 -2000 10 Statement of Cash Flows Direct or indirect statements Categorize transactions into one of the following: Operating Activities • cash provided by the sale of goods or service, including interest and dividends received • cash used to pay operating expenses, including interest expense Investing Activities • cash used to buy long-term assets and investments • cash obtained by selling long-term assets and investments Financing Activities • cash provided by issuing stock or debt instruments • cash used to repay debt principal and repurchase stock • cash used to pay dividends, but NOT interest paid on debt 11 Statement of Cash Flows Direct: start from cash transactions • Investing and Financing sections ==> always direct Indirect: start from NI, back out accruals • Cash flow amount from operations ==> same as direct • Key difference: Derivation of cash flow from operations 12 Statement of Cash Flows What events affect cash flow from operations and net income equally? What events affect cash flow from operations but NOT net income? What events affect net income but NOT cash flow from operations? 13 Statement of Cash Flows Direct Indirect Beginning Cash Beginning Cash + Cash rcv’d from customers Net Income + Interest received + Increase in payables - Cash paid to suppliers - Increase in receivables - Cash paid to employees +/- other adjustments - Interest paid +/- other adjustments = Cash from Operations = Cash from Operations +/- Cash from Investing +/- Cash from Financing = Ending Cash +/- Cash from Investing +/- Cash from Financing = Ending Cash 14 Statement of Cash Flows Balance sheet equation: A(t) = L(t) + E(t) Differences: => ∆A = ∆L + ∆E Decompose: ∆Cash + ∆CA + ∆NCA = ∆CL + ∆NCL + ∆CC + ∆OE + ∆RE Note that ∆RE = NI - Div, thus after rearranging, ∆Cash = NI - ∆CA + ∆CL - ∆NCA + ∆NCL + ∆OE + ∆CC -Div Accounts we know: ∆Cash = NI - ∆netAR - ∆Inventory - ∆OCA + ∆CL -∆netPPE - ∆ONCA + ∆NCL + ∆OE + ∆CC - Div 15 Statement of Cash Flows ∆Cash = ∆Cashoperations + ∆Cashinvesting + ∆Cashfinancing ∆Cashoperations = NI + DepExp - ∆netAR - ∆Inventory -∆OCA + ∆CL - Gain(Loss) ∆Cashinvesting = -∆netPPE + Gain(Loss) -DepExp -∆ONCA+∆OE = - Acquisitions + Disposals - ∆ONCA+∆OE ∆Cashfinancing = + ∆NCL + ∆CC - Div 16 Rules of Significant Noncash Transactions Some transactions are omitted from the SCF but disclosed elsewhere (such as at the bottom of the SCF) so long as they are material: • Acquisition of assets by assuming liabilities (including capital lease obligations) or by issuing equity securities • Exchanges of non-monetary assets • Refinancing of long-term debt • Conversion of debt or preferred stock to common stock • Issuance of equity securities to retire debt 17