CASH FLOW STATEMENT SUBHASH KUMAR ASSISTANT PROFESSOR GUEST

CASH FLOW STATEMENT SUBHASH KUMAR ASSISTANT PROFESSOR (GUEST) DEPT. OF COMMERCE CMB COLLEGE DEORH GHOGHARDIHA (MADHUBANI) 1

INTRODUCTION Statement of Cash Flows

Objectives of this Chapter I. Identify business activities which can generate or use cash and differentiate between income flows (i. e. , accrual basis) and cash flows from operating activities. II. The Importance and the usefulness of the statement of cash flows. Statement of Cash Flows 3

Objectives of this Chapter (contd. ) III. Learn how to prepare the statement of cash flows. VI. The “cash burn rate” and the use of this rate in evaluating the financial viability of start-up companies. V. Learn the two alternatives (direct and indirect methods) in preparing net cash flows from operating activities. Statement of Cash Flows 4

I. Activities which can either generate cash or use cash for a business entity A. Operating activities. B. Investing activities. C. Financing activities. Statement of Cash Flows 5

A. Operating Activities (i. e. , sales revenue, expenses) n n All these activities are reported in the I/S (income statement). However, I/S only provides the accrual-basis net income (revenue –expense + gains – losses ) which very often is not the change in cash. Therefore, we need to adjust from net income flows to cash flows in order to report the net cash provided by (or used in) operating activities. Statement of Cash Flows 6

A. Operating Activities (contd. ) n There are two approaches to reconcile net income to net cash provided by (or used in) operating activities: 1. Indirect Method ==> Lump-Sum Adjustment 2. Direct Method ==> Individual Account Adjustment Statement of Cash Flows 7

1. Indirect Method n Adjust net income (the lump sum amount of all revenues and expenses) for all differences between income flows and cash flows. Statement of Cash Flows 8

2. Direct Method n n Adjust each revenue account to cash collection and adjust each expense account to cash payment. Subtract total cash payments from total cash collections to derive net cash flows of the operation activities. SFAS No. 95 allows a choice between the direct and indirect approach for the cash flow statement Statement of Cash Flows 9

Cash flows from operating activities n Cash Inflows: 1. Collections from customers including cash received from sales (or services) and collections of A/R. 2. Cash receipts of interests or dividends. 3. Collections of other operating receipts (i. e. , unearned revenue, rent revenue). Statement of Cash Flows 10

Cash Flows from Operating Activities (contd. ) n Cash Outflows: 1. Payments to suppliers. 2. Payments to employees. 3. Payments for interest expense. 4. Payments for income taxes. 5. Payments for other expenses(i. e. , Prepaid expenses; rent expenses). Statement of Cash Flows 11

Activities which can either generate cash or use cash for a business entity A. Operating activities. B. Investing activities. C. Financing activities. Statement of Cash Flows 12

B. Investing Activities n In addition to generate cash from or use cash in the operating activities, companies can also generate cash from (or use cash in) investing activities. Statement of Cash Flows 13

Cash Flows from Investing Activities n Transactions involving acquiring ( Investing (Cash outflows)) and selling ( Disinvesting (Cash inflows)) : a. Property, Plant and Equipment. b. Investments (current and non-current). c. Notes Receivable (current and noncurrent). Statement of Cash Flows 14

Notes Receivable n Notes Receivable (current and noncurrent), including: u Lending money (N/R , cash outflow); u Collecting of loan (N/R , cash inflow); u Selling of N/R (N/R , discounting N/R, cash inflow) Statement of Cash Flows 15

Activities which can either generate cash or use cash for a business entity A. Operating activities. B. Investing activities. C. Financing activities. Statement of Cash Flows 16

C. Financing Activities n Companies can also generate cash or use cash through financing activities: Statement of Cash Flows 17

Cash Flows from Financing Activities n n Obtaining resources from owners and creditors (cash inflows) and repaying the amount borrowed (cash outflows). Cash inflows: u u u Cash received from issuance of common stock. Cash received from issuance of bonds. Cash received from issuance of N/P (short-term or long term). Statement of Cash Flows 18

Cash Flows from Financing Activities (contd. ) n Cash Outflows: u Retirement of bonds. u Retirement of stock. u Payments of N/P. u Payments of dividends. Statement of Cash Flows 19

II. The Importance and Usefulness of the Statement of Cash Flows § Possible earnings managements may result in unreliable accrual earnings. § Accrual accounting relies on many subjective judgments that may introduce measurement error and uncertainty into reported earnings. § One-time write-offs and restructuring charges can reduce the quality of reported earnings. § For these reasons, analysts scrutinize a firm’s cash flows—not just its accrual earnings—to evaluate performance and creditworthiness.

The Importance and Usefulness of the Statement of Cash Flows (cont. ) n n In order to show cash flows of a company, cash flows of all three activities should be reported. In doing so, investors can also obtain all the information of operating, investing, and financing activities of a company. Moreover, the following questions can also be answered: Statement of Cash Flows 21

The Importance and the Usefulness of the Statement of Cash Flows (contd. ) 1. What is the relationship between net income and cash provided by operations? 2. Why did cash decreased when net income increased? 3. What expansion (investment) activities took place and how were they financed? Statement of Cash Flows 22

The Importance and the Usefulness of the Statement of Cash Flows (contd. ) 4. How much is the cash provided by operating activities? 5. What happened to the proceeds received from issuance of bonds or common stock? All of these cannot be answered from either the income statement or the balance sheet statement. Statement of Cash Flows 23

THANK YOU… Statement of Cash Flows 24