Statement ofCash Flows
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Chapter 10
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #2
Statement Use
• Internal users– Determine dividend policy– Evaluate cash generated by operations– Review investing and financing policy
• External users– Assess firm’s ability to increase dividends– Assess firm’s ability to pay debt from operations– Assess firm’s relationship of cash from operations
to total cash
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #3
Statement Structure
Cash flows from operations
+ Cash flows from investing activities
+ Cash flows from financing activities
= Change in cash
+ Beginning cash balance
= Ending cash balance
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #4
Operating Activities
Cash inflows from• Sale of goods or
services• Returns on loans
(interest)• Return on equity
securities (dividends)
Cash outflows for• Payments for
acquisitions of inventory• Payments to employees• Payments for taxes• Payments for interest• Payments for other
expenses
The cash effects of transactions and other events that enter into the determination of net income:
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #5
Investing Activities
Cash inflows from• Receipts for loans
collected• Sales of debt or equity
securities• Sales of plant, property,
and equipment
Cash outflows for• Loans to other entities• Investment in debt or
equity securities• Purchase of plant,
property, and equipment
Lending money and collecting on those loans and acquiring and selling investments and productive long-term assets:
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #6
Financing Activities
Cash inflows from• Sale of equity securities• Sale of bonds,
mortgages, notes, and other short- and long-term borrowings
Cash outflows for• Payment of dividends• Reacquisition of capital
stock • Payment of amounts
borrowed
Borrowing and repaying long-term loans; issuing equity securities; payment of dividends to shareholders:
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #7
Cash Flows From Operations
• 2 methods for operating section of Cash Flow:• Direct method
– Presents the income statement on a cash basis
– Supplemental information required: reconciliation of net income to cash provided by operations
• Indirect method– Adjusts net income for items that affected net income but did
not affect cash
– Supplemental information required: cash paid for income taxes and for interest
– Most widely used
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #8
Cash Flows From Operations:Direct Method
Cash flows from operations: Cash received from customers $ 370,000 Cash paid to suppliers and employees (310,000) Interest received 10,000 Interest paid (net of amount capitalized) (4,000) Income taxes paid (15,000) Net cash provided by operations 51,000
Presents the income statement on a cash basis
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #9
Cash Flows From Operations:Indirect Method
Cash flows from operations: Net earnings $ 40,000 Provision for depreciation 6,000 Provision for allowance for doubtful accounts 1,000 Deferred income taxes 1,000 Loss on property, plant, and equipment disposals 2,000 Changes in operating assets and liabilities: Receivables increase (2,000) Inventories increase (4,000) Accounts payable increase 5,000 Accrued income taxes increase 2,000 Net cash provided by operations $51,000
Adjusts net income for items that affected net income but did not affect cash
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #10
Cash Flows From Operations
Cash flows from operations: Cash received from customers $ 370,000 Cash paid to suppliers and employees (310,000) Interest received 10,000 Interest paid (net of amount capitalized) (4,000) Income taxes paid (15,000) Net cash provided by operations 51,000
Cash flows from operations: Net earnings $ 40,000 Provision for depreciation 6,000 Provision for allowance for doubtful accounts 1,000 Deferred income taxes 1,000 Loss on property, plant, and equipment disposals 2,000 Changes in operating assets and liabilities: Receivables increase (2,000) Inventories increase (4,000) Accounts payable increase 5,000 Accrued income taxes increase 2,000 Net cash provided by operations $51,000
Direct
Indirect
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #11
Cash Flows From Investing Activities
Cash flows from investing activities: Capital expenditures $ (30,000) Proceeds from property, plant and equipment disposals 6,000 Net cash used in investing activities (24,000)
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #12
Cash Flows From Financing Activities
Cash flows from financing activities: Net proceeds from repayment of commercial paper $ (4,000) Proceeds from issuance of long-term debt 6,000 Dividends paid (5,000) Net cash used in financing activities (3,000)
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #13
Statement of Cash Flows – Direct Method(supplemental disclosures not illustrated)
OPERATING ACTIVITIESCash received from customers 370,000$ Cash paid to suppliers and employees (310,000) Interest received 10,000 Interest paid (4,000) Income taxes paid (15,000)
Net cash provided (used) by operating activities 51,000
INVESTING ACTIVITIESCapital expenditures (30,000) Proceeds from property, plant, and equipment disposals 6,000
Net cash provided (used) by operating activities (24,000) FINANCING ACTIVITIES
Net proceeds from repayment of commercial paper (4,000) Proceeds from issuance of long-term debt 6,000 Dividends paid (5,000)
Net cash provided (used) by financing activities (3,000)
Increase in Cash 24,000
Beginning cash balance 8,000 Ending cash balance 32,000$
Statement of Cash Flows – Indirect Method (supplemental disclosures not illustrated)
OPERATING ACTIVITIESNet earnings 40,000$ Provision for depreciation 6,000 Provision for allowance for doubtful accounts 1,000 Deferred income taxes 1,000 Loss on property, plant, and equipment disposals 2,000 Changes in operating assets and liabilities:
Receivables increase (2,000) Inventories increase (4,000) Accounts payable increase 5,000 Accrued income taxes increase 2,000
Net cash provided (used) by operating activities 51,000
INVESTING ACTIVITIESCapital expenditures (30,000) Proceeds from property, plant, and equipment disposals 6,000
Net cash provided (used) by operating activities (24,000) FINANCING ACTIVITIES
Net proceeds from repayment of commercial paper (4,000) Proceeds from issuance of long-term debt 6,000 Dividends paid (5,000)
Net cash provided (used) by financing activities (3,000)
Increase in Cash 24,000
Beginning cash balance 8,000 Ending cash balance 32,000$
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #15
Operating Cash Flow/Current Maturities of Long-Term Debt and Current Notes Payable
• Indicates a firm’s abilities to meet its current maturities of debt
• Higher ratio indicates better liquidity
Operating Cash Flow
Current Maturities of Long-Term Debtand Current Notes Payable
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #16
Operating Cash Flow to Total Debt
• Indicates a firm’s ability to cover total debt with the yearly operating cash flow
• Conservative approach is to include all possible balance sheet debt
Operating Cash Flow
Total Debt
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #17
Operating Cash Flow per Share
• A better indication of a firm’s ability to make capital expenditure decisions and pay dividends than is earnings per share
• Does not reflect firm’s profitability– Firms are prohibited from reporting this statistic in
financial statements or in the notes thereto
Operating Cash Flow - Preferred Dividends
Diluted Weighted AverageCommon Shares Outstanding
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #18
Operating Cash Flow to Cash Dividends
• Indicates a firm’s ability to cover cash dividends with the yearly operating cash flow
Operating Cash Flow
Cash Dividends
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #19
Procedures to Develop the Statement of Cash Flows (cont’d)
1. Determine change in cash and cash equivalents
2. Compute the change in all other balance sheet accounts
3. Classify as operating, investing, and financing
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #20
Procedures to DevelopDirect Operating Cash Flows
1. Operating section describes income statement accounts as receipts or payments
2. Cash receipts• From customers• From other operating sources
3. Cash payments• For merchandise• To employees• For other operating expenses
Copyright 2007 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.Chapter 10, Slide #21
Procedures to DevelopIndirect Operating Cash Flows
1. Begin with net income
2. Eliminate gains and losses that relate to investing and financing activities
3. Add back or deduct adjustments to change accrual-based net income to cash basis• Current noncash assets• Current liabilities