华中科技大学：《财务报表分析》（英文版）CHAPTER 7 Cash Flow Analysis

Cash Flow Analysis 7 CHAPTER

7 CHAPTER Cash Flow Analysis

Statement of cash flows Relevance of Cash Flows Cash Defined refers to cash and cash equivalents. Cash equivalents are short-term, highly liquid investments that are(1)readily convertible to known amounts of cash, and (2) near maturity (typically within 3 months) with limited risk of price changes due to interest rate shifts

Statement of Cash Flows Relevance of Cash Flows Cash Defined -- refers to cash and cash equivalents. Cash equivalents are short-term, highly liquid investments that are (1) readily convertible to known amounts of cash, and (2) near maturity (typically within 3 months) with limited risk of price changes due to interest rate shifts

Statement of cash Flows Relevance of Cash Flows Cash is the beginning and the end of a com pany's operating cycle Net cash flow is the end measure of profitability Cash repays loans, replaces equipment, expands facilities, and pays dividends 幽到 Analyzing cash inflows and outflows helps assess liquidity, solvency, and financial flexibility Liquidity is the nearness to cash of assets and liabilities Solvency is the ability to pay liabilities when they mature Financial flexibility is the ability to react to opportunities and adversities

Statement of Cash Flows Relevance of Cash Flows Cash is the beginning and the end of a company’s operating cycle. Net cash flow is the end measure of profitability. Cash repays loans, replaces equipment, expands facilities, and pays dividends. Analyzing cash inflows and outflows helps assess liquidity, solvency, and financial flexibility. Liquidity is the nearness to cash of assets and liabilities. Solvency is the ability to pay liabilities when they mature. Financial flexibility is the ability to react to opportunities and adversities

Statement of cash Flows Relevance of Cash Flows Statement of cash flows (SCF) helps address questions sucl h as How much cash is generated from or used in operations? What expenditures are made with cash from operations? How are dividends paid when confronting an operating loss? What is the source of cash for debt payments? What is the source of cash for redeeming preferred stock? How is the increase in investments financed? What is the source of cash for new plant assets? Why is cash lower when income increased? What is the use of cash from new financing?

Statement of Cash Flows Relevance of Cash Flows Statement of cash flows (SCF) helps address questions such as: How much cash is generated from or used in operations? What expenditures are made with cash from operations? How are dividends paid when confronting an operating loss? What is the source of cash for debt payments? What is the source of cash for redeeming preferred stock? How is the increase in investments financed? What is the source of cash for new plant assets? Why is cash lower when income increased? What is the use of cash from new financing?

Statement of cash Flows Cash Flow Relations Illustration: Consider two consecutive years' balance sheets divided into (1) cash, and(2)all other balance sheet accounts Accounts Year 1 Year 2 Cash and cash equivalents S3000 S5.000 Noncash accounts Noncash current assets s(9,000)$(1100 Noncurrent assets (6,000 (8,000) Current liabilities 8.000 10.000 Long-term liabilities 3.000 5.000 Equity accounts 7000 9000 Net noncash balance $3,000 5,000 Note Change in cash from Year 1 to Year 2(increase of $2,000)= Change in noncash balance sheet accounts ($2, 000 increase)from Year 1 to Year 2

Statement of Cash Flows Cash Flow Relations Illustration: Consider two consecutive years’ balance sheets divided into (1) cash, and (2) all other balance sheet accounts: Accounts Year 1 Year 2 Cash and cash equivalents $3,000 $5,000 Noncash accounts: Noncash current assets $(9,000) $(11,000) Noncurrent assets (6,000) (8,000) Current liabilities 8,000 10,000 Long-term liabilities 3,000 5,000 Equity accounts 7,000 9,000 Net noncash balance $3,000 $5,000 Note: Change in cash from Year 1 to Year 2 (increase of $2,000) = Change in noncash balance sheet accounts ($2,000 increase) from Year 1 to Year 2

Statement of cash Flows Cash Flow Relations Interrelations between cash and noncash balance sheet accounts can be generalized: Net changes in cash are exp lained by net changes in noncash balance sheet accounts Changes within or among noncash balance sheet accounts do not affect cash. Yet there is disclosure of all significant financing and investing activities in a separate schedule of noncash investing and financing activities. Changes within the components of cash are not reported

Interrelations between cash and noncash balance sheet accounts can be generalized: ❖ Net changes in cash are explained by net changes in noncash balance sheet accounts. ❖ Changes within or among noncash balance sheet accounts do not affect cash. Yet, there is disclosure of all significant financing and investing activities in a separate schedule of noncash investing and financing activities. ❖ Changes within the components of cash are not reported. Statement of Cash Flows Cash Flow Relations

Statement of cash Flows Reporting by Activities Statement of cash flows reports receipts and payments by operating, financing, and investing activities Operating activities are the earning-related activities of a company. Investing activities are means of acquiring and disposing of noncash assets Financing activities are means of contributing withdrawing, and servicing funds to support business activities

Statement of Cash Flows Reporting by Activities Statement of cash flows reports receipts and payments by operating, financing, and investing activities Operating activities are the earning-related activities of a company. Investing activities are means of acquiring and disposing of noncash assets. Financing activities are means of contributing, withdrawing, and servicing funds to support business activities

Statement of cash Flows Reporting by Activities Transaction or Event Effect on Account Activity Sales for cash Credit (increase) retained earnings via income Operating Accounts receivable collection Credit(decrease) receivable Operating Insurance paid in cash Debit(decrease) retained earnings via income Operating Interest payment Debit(decrease) retained earnings via income Operating Accounts payable paid Debit(decrease) payable Operating Collection of noncurrent operating receivable Credit (decrease) receivable Operating Payment for plant assets Debit (increase) plant assets Investing Sale of investment Credit (decrease) investments Investing Repayment of loans Debit(decrease) loans Financing Payment of dividends Debit(decrease)retained earnings Financing

Statement of Cash Flows Reporting by Activities Transaction or Event Effect on Account Activity Sales for cash Credit (increase) retained earnings via income Operating Accounts receivable collection Credit (decrease) receivable Operating Insurance paid in cash Debit (decrease) retained earnings via income Operating Interest payment Debit (decrease) retained earnings via income Operating Accounts payable paid Debit (decrease) payable Operating Collection of noncurrent operating receivable Credit (decrease) receivable Operating Payment for plant assets Debit (increase) plant assets Investing Sale of investment Credit (decrease) investments Investing Repayment of loans Debit (decrease) loans Financing Payment of dividends Debit (decrease) retained earnings Financing

Statement of cash Flows Constructing the Statement Illustration Toronto Technology Corporatio Condensed Balance sheets December 31 Changes during Year 2 Operating Investing Financing Transactions Noncash (in thousands)L Year 1 Year 2 Activity Activit Act [caSh $120$100 2FAccounts receivable 200 145$55 [3]Inventories 150 (25) 4Fixed assets 660 874 $(214) [5]Accumulated depreciation(200)(244) (20) [6]Intangible assets 150 100 50 Total assets $1,0801,150 [aCCounts payable 150$130 [8l-Long-term deb 420 400 $(10)$(10) 9HCapital stock accounts 250 300 10 [10FRetained earnings 260 320 180 (120) Total liabilities and equity $1,080s1,150 Totals 304$(234)$(90)$0

Illustration: Toronto Technology Corporation Condensed Balance Sheets December 31 Changes during Year 2* Operating Investing Financing Noncash (in thousands) Year 1 Year 2 Activity Activity Activity Transactions [1]–Cash $ 120 $ 100 [2]–Accounts receivable 200 145 $ 55 [3]–Inventories 150 175 (25) [4]–Fixed assets 660 874 $ (214) [5]–Accumulated depreciation (200) (244) 64 (20) [6]–Intangible assets 150 100 50 Total assets $1,080 $1,150 [7]–Accounts payable $ 150 $ 130 (20) [8]–Long-term debt 420 400 $ (10) $ (10) [9]–Capital stock accounts 250 300 40 10 [10]–Retained earnings 260 320 180 (120) Total liabilities and equity $1,080 $1,150 Totals $ 304 $ (234) $ (90) $ 0 Statement of Cash Flows Constructing the Statement

Statement of cash flows Constructing the Statement Illustration Continued: Some observations 1. The $20 cash decrease is the focus of explanation for the statement of cash flows-it is explained by changes in noncash balance sheet accounts 2. The $55 decrease in accounts receivable is a positive(cash inflow)adjustment to income in arriving at cash flow from operations it implies cash collections exceed accrual sales 3. The $25 increase in inventories is a negative(cash outflow) adjustment to income because cash outlays for inventory exceed purchases in cost of sales 4. Tosummarize changes in fixed assets a T-account is used: FixedAssets Beginning Acquisitions 314 100 Disposals g Both acquisitions and disposals are part of investing activities. While each transaction is reported separately in the statement of cash flows, the balance sheet shows the net of $214($314-$100 5. Changes in accumulated depreciation are summarized in a T-account: Accumulated Depreciation Accumulated 200 Beginning depreciation on assets disposed 20 Depreciation Ending Depreciation($64)is a noncash expense-a debit to income(retained earnings) and a credit to accumulated depreciation. It is added back to income in arriving at cash from operations. The $20 in accumulated depreciation relates to the $100(original cost) of fixed assets sold at book value (S100-$20= $80). The $20 of accumulated depreciation adjusts the $100 amount included in investing activities

Illustration Continued: Some observations 1. The $20 cash decrease is the focus of explanation for the statement of cash flows—it is explained by changesin noncashbalance sheet accounts. 2. The $55 decreasein accountsreceivable is a positive (cash inflow) adjustmentto income in arrivingat cash flow from operations it implies cash collectionsexceedaccrual sales. 3. The $25 increase in inventories is a negative (cash outflow) adjustment to income because cash outlays forinventory exceedpurchases in costof sales. 4. To summarizechanges in fixed assets a T-accountis used: Fixed Assets Beginning 660 Acquisitions 314 100 Disposals Ending 874 Both acquisitions and disposals are part of investing activities. While each transaction is reported separately in the statementof cash flows, the balancesheet shows the net of $214 ($314 – $100). 5. Changes in accumulateddepreciation are summarized in a T-account: Accumulated Depreciation Accumulated 200 Beginning depreciation on assets disposed 20 64 Depreciation 244 Ending Depreciation ($64) is a noncash expense—a debit to income (retained earnings) and a credit to accumulated depreciation. It is added back to income in arriving at cash from operations. The $20 in accumulated depreciation relates to the $100 (original cost) of fixed assets sold at book value ($100 – $20 = $80). The $20 of accumulated depreciation adjusts the $100 amount included in investing activities. Statement of Cash Flows Constructing the Statement