November 30, 2015

1. November 30, 2015 Statement of Cash Flows

2. Cash Flow Statements What Cash Flow Statements show us Building a Cash Flow Statement Today’s Agenda

3. Statement of Cash Flows Income Statement Balance Sheet Statement of Cash Flows The statement of cash flows highlights the major activities that impact cash flows and ,hence, affect the overall cash balance.

4. Cash Flow Statements present a company’s Cash position Sources and uses of its cash Changes in cash over a period of time Is the company generating sufficient cash? To maintain operations? To re-pay its debts? Pay dividends Cash flows and net income differ Cash Flow Statements

5. Purpose of the Statement of Cash Flows Are cash flows sufficient to support ongoing operations? Why is there a difference between net income and net cash flow? Can we pay debts? Will the company have to borrow money to make needed investments? Accruals are non-cash entries Can we pay dividends?

6. A Fundamental Principle • The Greek letter “Delta”, or , can symbolize “change”  Cash Balance =  Noncash Balance Sheet Accounts This principle ensures that properly analyzing the changes in all noncash balance sheet accounts always quantifies the cash inflows and outflows that explain the change in the cash balance.

7. A Review of Basic Equations Basic Equation for Asset Accounts Beginning balance + Debits – Credits = Ending balance • Eg, AR + increases in AR minus AR collected • Eg, AP less amounts paid + unpaid purchases Basic Equation for Contra-Asset, Liability, and Stockholders’ Equity Accounts Beginning balance – Debits + Credits = Ending balance

8. The term cash on the statement of cash flows refers broadly to both currency and cash equivalents. Cash and “Near Cash” Cash Currency and Bank Accounts Cash Equivalents Treasury Bills Commercial Paper Money Market Funds

9. Four Areas of Cash Sources and Uses • Profit & Loss • Net income or loss • Plus non-cash expenses - depreciation and amortization • Changes in working capital • Increases and decreases in current assets and current liabilities • Investment activities • Investments in and disposals of longer term assets • Financing activities • Issuance of or repayment/redemption of debt or equity • Dividends

10. Free Cash Flows Free cash flow measures a company’s ability to fund its capital expenditures and dividends from its net cash provided by operating activities.

11. Organizing a Statement of Cash Flows Operating Activities Revenue and expense transactions that affect net income. Investing Activities Acquiring or disposing of noncurrent assets. Financing Activities Borrowing from and repaying principal to creditors and transactions with stockholders.

12. Constructing the Statement of Cash Flows

13. Organizing a Statement of Cash Flows

14. Direct Method Indirect Method Reconstructs the income statement on a cash basis from top to bottom Accrual net income is adjusted to a cash basis; Used by 99% Operating Activities: Direct or Indirect Method? Both methods result in the exact same amount of cash provided by operating activities.

15. The Indirect Method: A Three-Step Process Step 1 Step 2 Step 3

16. Cash flows are divided into three categories. Organization of the Full-Fledged Statement of Cash Flows

17. Summary of Key Concepts

18. Summary of Key Concepts

19. Operating Activities Includes those activities that enter into the determination of net income.

20. Investing Activities Includes transactions that involve the acquisition or disposal of noncurrent assets.

21. Financing Activities Includes transactions involving receipts from or payments to creditors and owners.

22. Earnings Quality • Managers generally perceive that earnings are of higher quality when the earnings: • are not unduly influenced by inflation, • are computed using conservative accounting principles and estimates, and • are correlated with net cash provided by operating activities.

23. A Full-Fledged Statement of Cash Flows: Indirect Method

24. A Full-Fledged Statement of Cash Flows: Indirect Method Additional Information: • There was a net loss for the year of $27,000. • Depreciation charges for the year were $6,000. • During the year, Ed sold land originally costing $32,000 for $32,000. • During the year, Ed paid dividends of $3,000 to the stockholders. • Ed issued $50,000 of common stock to settle the note due to Joe Doe.

25. Preparing the Statement of Cash Flows: Step 1 List each account appearing on the comparative balance sheets except for cash and cash equivalents and retained earnings.

26. Preparing the Statement of Cash Flows: Step 2 Compute the change from the beginning balance to the ending balance for each account.

27. { Recall that the transaction involving the Note Payable and Common Stock was noncash. Preparing the Statement of Cash Flows: Step 3 Code each entry on the worksheet as a source or use of cash.

28. Preparing the Statement of Cash Flows: Step 4 Code sources of cash as positive numbers and uses of cash as negative numbers.

29. { We need to make an adjustment for the noncash transaction. Preparing the Statement of Cash Flows: Step 5 Make any necessary adjustments, including adjustments for gains and losses. The net effect of these should equal zero.

30. Preparing the Statement of Cash Flows: Step 6

31. Preparing the Statement of Cash Flows: Step 7 Copy the data from the worksheet into the Statement of Cash Flows section by section.

32. Preparing the Statement of Cash Flows: Step 8 Prepare a cash reconciliation at the bottom of the statement.

33. Preparing the Statement of CashFlows In addition, on the face of the statement or in a supplemental schedule, disclose the issuance of $50,000 of stock to a creditor, a noncash financing activity.

34. Tutorial • Library • Complete group project financial models • Work on executive presentations

35. Similarities and Differences in Handling Data Adjustments for accounts that affect revenue are the same in the direct method and indirect methods. In either case, increases in the accounts are deducted and decreases in the accounts are added. Adjustments for accounts that affect expenses are handled in opposite ways for the direct and indirect methods. In the indirect method, an increase in prepaid expenses is deducted from net income. However, in the direct method an increase in prepaid expenses is added to operating expenses.

36. Computing Net Cash Provided by Operating Activities The direct method computes net cash provided by operating activities by reconstructing the income statement on a cash basis from top to bottom. Net cash provided by operating activities under the direct method will always agree with the amount computed using the indirect method.

37. Similarities and Differences in Handling Data Adjustments for accounts that affect revenue are the same in the direct and indirect methods. Adjustments for accounts that affect expenses are handled in opposite ways for the direct and indirect methods.

38. Similarities and Differences in Handling Data Under the direct method, no adjustments for gains and losses on the sale of assets are needed.

39. Direct Method Indirect Method Requires a reconciliation between net income and the net cash provided by operating activities Requires disclosure of amount of interest and income taxes paid during the year Special Rules—Direct and Indirect Methods