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Chapter 12

Chapter 12. The Statement of Cash Flows. Purpose & Objectives of Session. Identify purposes and key concepts of Statement of Cash Flow (SCF) Discuss definitions and examples of the three types of cash flow activities: Operating, Investing & Financing

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Chapter 12

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  1. Chapter 12 The Statement of Cash Flows

  2. Purpose & Objectives of Session • Identify purposes and key concepts of Statement of Cash Flow (SCF) • Discuss definitions and examples of the three types of cash flow activities: Operating, Investing & Financing • Contrast Direct vs. Indirect approach to Operating section • Provide examples and illustrations • Discuss and illustrate Non-Cash exchanges

  3. What are the purposes of theStatement of Cash Flow? • Supplements the Income Statement (which uses accrual basis) • Provides a cash basis concept of income (in Operating section) • Reflects all cash receipts & disbursements • Explains major changes in Cashaccount over a period • Highlights certain significant transactions that are not detailed in I/S or B/S • Cash is King!

  4. IBM Unisys AMD Time Warner Increase (Decrease) Net Income in Cash( Loss) $ 428 5,429 ( 85) $ 62 40 (69) ( 671) ( 191) Cash Flows vs. Net Income for Four Companies (in millions) Note the direction (Inc or Dec) and the 4 different combinations

  5. Readily convertible to cash • Little risk of price change • Original maturity to investor of three months or less 1 2 3 4 5 6 7 8 9 10 1 2 3 11 12 13 14 15 16 17 4 5 6 7 8 9 10 1 2 3 18 19 20 21 22 23 24 11 12 13 14 15 16 17 4 5 6 7 8 9 10 25 26 27 28 29 30 31 18 19 20 21 22 23 24 11 12 13 14 15 16 17 25 26 27 28 29 30 31 18 19 20 21 22 23 24 25 26 27 28 29 30 31 Cash Equivalents:A Review • Commercial paper • U.S. Treasury bills • Certain money market funds Remember that in the SCF analysis, Cash includes Cash Equivalents

  6. inflows outflows Statement of Cash Flows Format Cash Related with: Operating activities Investing activities Financing activities Change in cash (increase or decrease) must prove to Balance Sheet Cash amounts

  7. Statement of Cash Flows Format Cash flows from Operating activities: (P/L, C/A & C/L) Cash flows from Investing activities: (LTA) Cash flows from Financing activities: (LTL & C/S) Net increase (decrease) in Cash $XXX Cash and equivalents, beginning of year XXX Cash and equivalents, end of year $XXX from Balance Sheets

  8. Operating Activities:A Review Incur Employee Salaries and Wages Defn: Cash transactions related withacquiring and selling products and services Sell Products and Services Incur Utility and other Operating Costs Make Inventory Purchases

  9. Investing Activities:A Review Purchase/Sell Long-term Investments Defn: Cash transactions related withacquiring and disposing of long-term assets Buy/Sell Property, Plant & Equipment Purchase/Sell Intangible Assets (i.e. Patents, trademarks, etc.)

  10. Date Dept. of Treasurer Jane Doe Paycheck for Financing Activities:A Review Sell/Repurchase Capital Stock Defn:Cash transactions related withinternal and external financing of the business Borrow $ / Repay Loans Issue/Retire L-T Bonds Pay Dividends

  11. Operating Activities Categorizing Cash Flow Activities Income Statement Transactions Current Assets and Current Liabilities Investing Activities Long-term Liabilities or Stockholders’ Equity Financing Activities Long-term Assets

  12. The SCF: A Template & Components(AKA  Sources & Uses of Cash)

  13. Computing Cash Flows from Operating Activities:2 Alternates • Direct Method • report major classes of cash receipts and payments • Indirect Method • adjust net income to remove effect of accruals and deferrals both methods are GAAP and arrive at same Cash from Operatingactivities

  14. Statement of Cash Flows -Direct Method Example: Cash flows from operating activities: Cash collected from customers ? Cash payments for insurance ? Cash payments for salaries & wages ? Net cash flows from Operating activities ? How would you determine these amounts??

  15. Direct Method - Operating Activities Example: Accounts receivable, 1/1/02 $ 90,000 Accounts receivable, 12/31/02 80,000 Credit sales during year 900,000 What are 2002 cash collections from customers?

  16. Direct Method - Operating Activities Example: Accounts receivable, 1/1/02 * $ 90,000 Credit sales during year 900,000 Less: Accts. receivable, 12/31/02 * ( 80,000) Cash collections $910,000 Accounts Receivable * When was/will the cash receipts occur? Beg. Balance. ($90k) + Credit Sales ($900k) - Cash Collections ($x) End. Bal. ($80k)

  17. Statement of Cash Flows -Direct Method Cash flows from operating activities: Cash collected from customers $ 910,000 Cash payments for insurance ? Cash payments for salaries & wages ? Net cash flows from operating activities ?

  18. Direct Method - Operating Activities Example: Prepaid insurance, 1/1/02 $ 10,000 Prepaid insurance, 12/31/02 12,000 Insurance expense (from I/S) 122,000 What are 2002 cash payments for insurance?

  19. Direct Method - Operating Activities Example: Prepaid insurance, 12/31/02 * $ 12,000 Insurance expense 122,000 Less: Prepaid insurance, 1/1/02 * ( 10,000) Cash payments for insurance 124,000 Prepaid Insurance * What year was the cash disbursed? Beg. Bal. ($10k) - Expense Adjusting Entry ($122k) + Pymts. ($x) End Bal. ($12k)

  20. Statement of Cash Flows -Direct Method Cash flows from operating activities: Cash collected from customers $ 910,000 Cash payments for insurance (124,000) Cash payments for salaries & wages ? Net cash flows from operating activities ?

  21. Direct Method - Operating Activities Example: Salaries payable, 1/1/02 $ 18,000 Salaries payable, 12/31/02 14,000 Salaries & wage expense 160,000 What are 2002 cash payments for salaries & wages?

  22. Direct Method - Operating Activities Example: Salaries payable, 1/1/02 * $ 18,000 Add: salaries & wage expense 160,000 Less: Salaries payable, 12/31/02 * ( 14,000) Cash payments for salaries $164,000 Salaries Payable * What year will these be paid? Beg. Bal.($18k) + Salary Expense ($160k) - Salary Pymts. ($x) End. Bal. ($14k)

  23. Statement of Cash Flows -Direct Method Cash flows from operating activities: Cash collected from customers $ 910,000 Cash payments for insurance (124,000) Cash payments for salaries & wages (164,000) Net cash flows from operating activities ?

  24. Statement of Cash Flows -Direct Method Cash flows from operating activities: Cash collected from customers $ 910,000 Cash payments for insurance (124,000) Cash payments for salaries & wages (164,000) Net cash inflow from operating activities $ 622,000

  25. Indirect Method -Operating Activities Income Statement Conversion of accrual to cash basis Cash Flows from Operating Activities

  26. Indirect Method - Operating Activities Operating Activities Net income xxxx Increases in current assets - Decreases in current assets + Increases in current liabilities + Decreases in current liabilities -

  27. Statement of Cash Flows -Operating Activities:Indirect Method Cash flows from Operating activities: Net income $ ? Change in Accounts receivable $ ? Change in Prepaid insurance $ ? Change in Salaries payable $ ? Net cash inflow from Operating activities $ ?

  28. Statement of Cash Flows -Indirect Method: Calculate Net Income Cash flows from Operating activities: Net income$618,000 Change in Accounts receivable $ ? Change in Prepaid insurance $ ? Change in Salaries payable $ ? Net cash inflow from Operating activities $ ? Net Income = Sales – Insurance Expense – Salaries Expense $618,000 = $910,000 - $122,000 - $160,000

  29. Statement of Cash Flows -Indirect Method: Change in A/R Cash flows from Operating activities: Net income $618,000 Decrease in Accounts receivable$ 10,000 Change in Prepaid insurance $ ? Change in Salaries payable $ ? Net cash inflow from Operating activities $ ? Change in A/R = A/R (1/1/02) – A/R (12/31/02) ($10,000) = $90,000 - $80,000 (C/A Decrease)

  30. Statement of Cash Flows -Indirect Method: Change in Prepaid Insurance Cash flows from Operating activities: Net income $618,000 Decrease in Accounts receivable $ 10,000 Increase in Prepaid insurance ($ 2,000) Change in Salaries payable $ ? Net cash inflow from Operating activities $ ? Change in PPI = PPI (1/1/02) – PPI (12/31/02) $2,000 = $10,000 - $12,000 (C/A Increase)

  31. Statement of Cash Flows -Indirect Method: Change in Salaries Payable Cash flows from Operating activities: Net income $618,000 Decrease in Accounts receivable $ 10,000 Increase in Prepaid insurance ($ 2,000) Decrease in Salaries payable ($ 4,000) Net cash inflow from Operating activities $ ? Change in S/P = S/P (1/1/02) – S/P (12/31/02) ($4,000) = $18,000 - $14,000 (C/L Decrease)

  32. Statement of Cash Flows -Operating Activities: Indirect Method Cash flows from Operating activities: Net income $618,000 Decrease in Accounts receivable $ 10,000 Increase in Prepaid insurance ($ 2,000) Decrease in Salaries payable ($ 4,000) Net cash inflow from Operating activities $ 622,000 NOTE: Indirect Method highlights articulation with the Income Statement

  33. Indirect Method:Adjustments to Net Income • Concept: Adjustments are necessary since Indirect method starts with accrual basis Net Income • Accrual basis includes non-cash expenses and revenues • Key adjustments: • Deduct non-cash expenses (eg, Depreciation, Bond Discount Amortization) • Deduct Gains (eg, PP&E Disposals, Bond Retirements) * • Add-back Losses (eg, PP&E Disposals, Bond Retirements) * • * RATIONALE:Entire cash proceeds from LT asset disposals are shown as Investing activity and from LT debt retirement as Financing activity.

  34. Statement of Cash Flows –Operating activities: 2 alternate approaches Direct Method : Net cash inflow from operating activities $ 622,000 Indirect Method : Net cash inflow from operating activities $ 622,000 Same end result

  35. Statement of Cash Flows:Investing & Financing Activities • Direct vs. Indirect approaches ONLY apply to Operating activities • Exact SAME approach is used for: • Investing activities section • Financing activities section • Remaining slides illustrate examples for each activity

  36. Cash Flows From Investing Activities:Format and Examples Cash flows from Operating activities: XXX Cash flows from Investing activities: Purchases of long-term assets ( XXX) Sales of long-term assets XXX Net cash flows from Investing activities XXX Cash flows from Financing activities XXX

  37. Computing Cash from Investing Activities Example: Property & equipment, 1/1/02 $ 280,000 Property & equipment, 12/31/02 320,000 Cash receipts from disposals of Property & Equipment during year 35,000 What were cash purchases of Property & Equipment during the year?

  38. Computing Cash from Investing Activities Example: Property & equipment, 1/1/02 $ 280,000 Deduct: Disposal of P&E (35,000) Less: Property & equipt., 12/31/02 ( 320,000) Cash purchases of Property & Equipment $75,000 Property, Plant & Equipment Beg.Bal. ($280k) - Disposals ($35k) + Acquisitions ($x) End.Bal. ($320k)

  39. Cash Flows From Investing Activities Cash flows from Operating activities: XXX Cash flows from Investing activities: Purchases of property & equip. (75,000) Sales of property & equipment35,000 Net cash from Investing activities$ 40,000 Cash flows from Financing activities XXX NOTE: Acquisitions and Disposals are reported separately and not netted out

  40. Cash Flows From Financing Activities:Format and Examples Cash flows from Operating activities: XXX Cash flows from Investing activities:XXX Cash flows from Financing activities: Sell (repurchase) stocks XX or (XX) Issue (retire) bonds XX or (XX) Borrow (repay) loans XX or (XX) Pay dividends (XX) Net cash from Financing activitiesXXX

  41. Computing Cash from Financing Activities Example: Notes payable, 1/1/02 $ 560,000 Notes payable, 12/31/02 600,000 New borrowings during the year 60,000 What were cash repayments during the year?

  42. Computing Cash from Financing Activities Example: Notes payable, 1/1/02 $ 560,000 Add: new borrowings 60,000 Less: Notes payable, 12/31/02 ( 600,000) Cash payments on notes $ 20,000 NOTE: Same analysis applies for : 1. Cap. Stock 2. L/T Bonds Notes Payable Beg. Bal. ($560k) + New Loans ($60k) - Loan Pymts.($x) End. Bal. (600k)

  43. Cash Flows From Financing Activities Cash flows from Operating activities: XXX Cash flows from Investing activities:XXX Cash flows from Financing activities: Borrowings on Note Payable 60,000 Note Payable repayments (20,000) Net cash from Financing activities$ 40,000 NOTE: Separate reporting of additional borrowings vs. repayments of same note

  44. Certificate of Stock Non-cash Investing and Financing Activities • Concept: Disclose important Financing and Investing activities which do not require cash • Examples: Exchange Stock for Plant ($10M) Buy Equipment through Debt financing ($1M) from Supplier

  45. Non-Cash Investing & Financing Activities:Illustrated Example Cash flows from Operating activities: XXX Cash flows from Investing activities: Acquire new Plant($10M) Acquire new Equipment ($ 1M) Net cash used for Investing activities($11M) Cash flows from Financing activities: Issue Common Stock for Plant $10M Issue Note for Equipment $ 1M Net cash from Financing activities$11M NOTE: The net effect on change in Cash is zero

  46. Cash Flow Adequacy • Measures company’s ability to meet principal and interest obligations • Creditors concerned with cash available to repay debts after company has replaced its long-term assets Cash Flow from Operating Activities = Capital Expenditures Avg. Debt Maturing over Next Five Years

  47. Summary of Session • Identify purposes and key concepts of Statement of Cash Flow (SCF) • Discuss definitions and examples of the three types of cash flow activities: Operating, Investing & Financing • Contrast Direct vs. Indirect approach to Operating section • Provide examples and illustrations • Discuss and illustrate Non-Cash exchanges • CASH IS KING!

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