BAO6504 Accounting for Management

Lecture 6

Cash Flow Statements

Reference: Chapter 11

THE CASH FLOW STATEMENT: PURPOSE AND FORMAT

Purpose of the cash flow statement To provide information about:

cash receipts cash payments net change in cash resulting from operating, investing and financing activities

To reconcile the beginning and ending cash balances

2

Cash flow statement

Main purpose is to provide financial information about cash receipts and cash payments of an entity for a specific time period Users are interested in cash flow statement in order to find out what is happening to entitys most important resource

Cash flow statement continued

WONG PTY LTD Cash Flow Statement for the month ended 31 October 2010 Cash flows from operating activities Cash receipts from operating activities $11 200 Cash payments from operating activities (5 500) Net cash provided by operating activities $ 5 700 Cash flows from investing activities Purchased office equipment (5 000) Net cash used by investing activities (5 000) Cash flows from financing activities Issue of shares 10 000 Proceeds from bank loan 5 000 Payment of dividend (5 000) Net cash provided by financing activities 14 500 Net increase in cash 15 200 Cash at beginning of period -4 Cash at end of period $15 200

Interrelationships between the statements

Balance sheet depends on results of Income statement and statement of changes in equity

Ending amount in cash flow statement is reported in the balance sheet

Classification of cash flows

Operating activities

Entitys principal revenue-generating activities, and activities not regarded as investing or financing activities Acquisition and disposal of long-term assets

Investing activities

Financing activities

Affect the size and composition of contributed equity and borrowing

6

Significant non-cash activities

Significant financing and investing activities that do not affect cash are not reported in the body of the cash flow statement, but are reported in the notes These include:

Issue of shares to purchase assets Conversion of debt into ordinary shares Issue of debt to purchase assets Exchanges of property, plant & equipment

Format of the cash flow statement

Operating activities are reported using two methods: direct and indirect The direct method presents:
Cash receipts cash payments = net cash provided/used by business activities

AASB 107 and NZ IAS7 encourage companies to use the direct method for 8 published financial statements

Format of the cash flow statement continued

The indirect method goes from an accrual basis to a cash basis Net profit after tax is adjusted by changes in non-cash items affecting net profit to determine net cash provided/used by operating activities AASB 107 requires the indirect method by way of a note as a reconciliation
9

Format of the cash flow statement

continued
COMPANY NAME Cash Flow Statement Period covered Cash flows from operating activities (List of individual items) Net cash provided (used) by operating activities Cash flows from investing activities (List of individual inflows and outflows) Net cash provided (used) by investing activities Cash flows from financing activities (List of individual inflows and outflows) Net cash provided (used) by financing activities Net increase (decrease) in cash Cash at beginning of period Cash at end of period
xx xxx

xx
xxx xx xxx xxx xxx 10 xxx

Usefulness of the cash flow statement

Helps investors, creditors and other interested parties to evaluate the following about the entity:

Ability to generate future cash flows Ability to pay dividends and meet obligations Reasons for difference between profit and net cash provided (used) by operating activities Cash investing and financing transactions for the period
11

PREPARING THE CASH FLOW STATEMENT

There are 3 sources of information to prepare the cash flow statement:

Balance sheets Current periods income statement Additional information (about transactions that occurred during the period)

12

PREPARING THE CASH FLOW STATEMENT

contd

There are 4 steps in the preparation:

Determine net decrease/increase in cash Determine net cash provided/used by operating activities Determine net cash provided/used by investing activities Determine net cash provided/used by financing activities
13

Step 1: Determining the net increase (decrease) in cash

The difference between the beginning and ending cash balances can be easily calculated from comparative balance sheet data Reports opening cash balance compared to closing balance
14

Step 2 continued

15

Cash Flows: eg. Inflows, outflows & types of activities

Cash inflows
From sales to customers From receipt of interest or dividends on loans or investments From sale of property, plant, & equipment / other fixed assets From sale of long- or short-term marketable securities From collection of loans outstanding From sale of shares to owners From debt finance provided by banks etc.

Activities
Operating activities

Cash outflows
To employees for wages To suppliers for purchases To others for expenses To creditors for interest etc. To governments for taxes

Investing activities

To buy fixed assets To buy long- or short-term marketable securities To make loans to others To buy-back shares To pay dividends To repay debt finance
16

Financing activities

USING CASH FLOWS TO EVALUATE AN ENTITY

The company life cycle Free cash flow Capital expenditure ratio Assessing liquidity, solvency and profitability using cash flows

17

Managing and monitoring cash

Basic principles of cash management 1. Increase the speed of collection of receivables 2. Keep inventory levels low 3. Dont pay earlier than necessary 4. Plan timing of major expenditures 5. Invest idle cash
18

What is the relationship between budgeting, managing cash flow, and strategic planning for the business?

19

The company life cycle

All products go through a series of phases called the product life cycle The phases in which an entity is operating affects its predicted cash flows Phases are:

Introductory Growth Maturity Decline

20

The company life cycle cont

Impact of product life cycle on cash flows

21

Free cash flow

Free cash flow describes cash from operations available for expansion or payment of dividends Free cash flow is estimated by the formula: Net cash provided

by operating activities

Capital expenditure

Free cash flow

22

Capital expenditure ratio

Capital expenditure ratio indicates an entitys ability to generate sufficient cash to finance the purchase of new property, plant and equipment.
Net cash provided by operating activities Capital expenditures

Example:
$9 340 000 = 5.37:1 $1 739 000
Figures from Nick Scali Ltd Chapter 11 23

Assessing liquidity, solvency and profitability using cash flows

The ability of an entity to meet its immediate obligations, so a measure of liquidity
Current cash debt coverage

= Net cash provided by operating activities Average current liabilities

Example: $89 340 000 = ($13 045 000 + $10 415 000)/2 0.80 times
24

Assessing liquidity, solvency and profitability using cash flows continued

The ability of an entity to survive over the long term, so a measure of solvency
Cash debt coverage
= Net cash provided by operating activities Average total liabilities

Example:
$9 340 000 = 0.79 times ($13 098 000 + $10 415 000)/2

25

Assessing liquidity, solvency and profitability using cash flows continued

The ability of an entity to generate a reasonable return, so a measure of profitability
Cash return on sales ratio
= Net cash provided by operating activities Net sales

Example:
$ 9 340 000 = 0.12:1 $77 202 000

26