Analysis of

Cash Flow Statement

Basic Concepts
Reports the entitys cash flows (cash
receipts and cash payments) during
the period

Purposes of the Statement

of Cash Flows
1. Predict future cash flows
2. Evaluate management decisions
3. Determine the ability to pay
dividends to stockholders and
payments to creditors
4. Show the relationship of net
income to the businesss cash
flows
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What is Cash?
Cash on hand
Cash in the bank
Cash equivalents - highly liquid,
short-term investments that can be
converted into cash with little delay
Money-market investments
U.S. Government Treasury bills
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Statement of Cash Flows

Sections

Operating, Investing, and

Financing Activities
Operating activities create revenues,
expenses, gains, and losses.
Investing activities increase and
decrease long-term assets.
Financing activities obtain cash from
investors and creditors.

Two Formats for

Operating Activities
Indirect method reconciles from
net income to net cash provided by
operating activities
Direct method reports all cash
receipts and cash payments from
operating activities
The two methods have no effect on
investing or financing activities.
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Two Formats for

Operating Activities
Indirect Method
Net income
Adjustments:
Depreciation, etc.
Net income provided by operating activities
Direct Method
Collection from customers
Deductions:
Payment to suppliers, etc.
Net income provided by operating activities

$XXX
XXX
$XXX
$XXX
XXX
$XXX

The Indirect Operating

Section

Operating Activities
Indirect Method
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating activities:
+ Depreciation/amortization expense Investing Activities
+ Loss on sale of long-term assets
- Gain on sale of long-term assets
- Increases in current assets other than cash
+ Decreases in current assets other than cash
+ Increases in current liabilities
- Decreases in current liabilities
Net cash provided by operating activities

10

Depreciation, Depletion,
Amortization

Depreciation, Depletion and Amortization are not Cash transactions, thus

Are ADDED back to Net Income.
11

Gain or Loss from

Long-Term Assets
Changes to Long-term Assets
Purchase or Sale
Effect Cash (Whats the journal entry?)

They appear in the Investing Section

But... When Sold Are Reported on the
Income Statement
Thus, we need to reverse their effect
Add back the Loss
Subtract out the Gain
12

Long-Term Assets

13

Operating Activities from

Indirect Method
Changes in current assets and current
liability accounts
Increase in another current asset decreases
cash
Purchase of Inventory for cash
Decrease in another current asset increases
cash
Collections of Accounts Receivable
Decrease in a current liability decreases cash
Payment of Accounts Payable
Increase in a current liability increases cash
Non-Cash Expense (Accrued Expense)
14

Increase in Current Assets

Decreases Cash
So $2,500 in Sales
are NOT cash
Any increase in
Current Assets
either uses cash
Increase Inventory
Decrease Cash

Or is increased by a
non-cash
transaction
Accounts
Receivable
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Decrease in Current Assets

Increases Cash
If A/R decreases that means we
collected Cash
That cash needs to be added back to
Net Income

If Inventory, Supplies or other current

assets decrease that means we
debited an expense but did not credit
Cash
So we add back those decreases to Net
Income
16

Decrease in Current Liabilities

Decreases Cash
How is Accounts Payable decreased?
Debit Accounts Payable $1,000
Credit Cash
$1,000

Same for all other Payables

17

Increase in Current Liabilities

Increases Cash
When Payables
Increase
They create an
Expense
But the
expense is a
non-cash
expense

So, Add back to

Net Income
18

The Indirect Method:

Operating Activities
Positive Items
Net income
Depreciation/amortization
Loss on sale of long-term assets
Decreases in current assets other than cash
Increases in current liabilities
Negative Items
Net loss
Gain on sale of long-term assets
Increases in current assets other than cash
Decreases in current liabilities
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The Indirect Method:

Investing Activities
Positive Items
Sale of plant assets
Sale of investments that are not cash equivalents
Collections of loans receivable
Negative Items
Acquisition of plant assets
Purchase of investments that are not cash
equivalents
Making loans to others
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The Indirect Method:

Financing Activities
Positive Items
Issuing stock
Selling treasury stock
Borrowing money
Negative Items
Payment of dividends
Purchase of treasury stock
Payment of principal amounts of debts
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Cash Flow Statement

An Example

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Comparative Balance
Sheets
Anchor Corporation December 31

(In thousands)
Assets
Current:
Cash
Accounts receivable
Interest receivable
Inventory
Prepaid expenses
Long-term receivable
Plant assets, net
Total

20x2

20x1 Inc/dec)

$ 22
93
3
135
8
11
453
$725

$ 42
80
1
138
7

219
$487

$ (20)
13
2
(3)
1
11
234
$238
23

Comparative Balance
Sheets
Anchor Corporation December 31

(In thousands)
Liabilities
Current:
Accounts payable
Salary payable
Accrued liabilities
Long-term debt
Stockholders equity
Common stock
Retained earnings
Total

20x2

20x1 Inc/dec)

$ 91
34
1
160

$ 57 $ 34
6
(2)
3
(2)
77
83

359
110
$725

258 101
86
24
$487 $238
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Income Statement
Anchor Corporation
Year Ended December 31, 20x2
(In thousands)
Revenues and gains:
Sales revenue
$284
Interest revenue
12
Dividend revenue
9
Gain on sale of plant assets
8
Total revenues and gains
$313
25

Income Statement
Anchor Corporation
Year Ended December 31, 20x2
(In thousands)
Expenses:
Cost of goods sold
$150
Salary and wage expense
56
Depreciation expense
18
Other operating expense
17
Interest expense
16
Income tax expense
15
Total expenses
$272

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Income Statement
Anchor Corporation
Year Ended December 31, 20x2
(In thousands)
Total revenues and gains
$313
Total expenses
272
Net income
$ 41

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Statement of Cash Flows:

Operating Activities
Depreciation does not affect Sales of long-term assets are
Statement of Cash Flows (Indirect Method)
cash, but it decreases net
investing
Year
Ended
20x2 (In
thousands)
income
add December
it back in. 31,Activities
remove
gains from
income.
Cash flows from operatingnet
activities:

Net Income
Adjustments to reconcile net income to
net cash provided by operating activities:
A Depreciation
B Gain on sale of plant

$41
18
(8)

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Statement of Cash Flows:

Operating Activities
Statement of Cash Flows (Indirect Method)
Year Ended December 31, 20x2 (In thousands)
C Increase in accounts receivable
(13)
C Increase in interest receivable
(2)
C Decrease in inventory
3
C Increase in prepaid expenses
(1)
C Increase in accounts payable
34
C Decrease is salary payable
(2)
C Decrease in accrued liabilities
(2)
Net cash provided by operating activities

27
$68
29

Changes in Current Asset and

Current Liability Accounts C
1. An increase in a current asset other
than cash indicates a decrease in cash.
2. A decrease in a current asset other
than cash indicates an increase in cash.
3. A decrease in a current liability
indicates a decrease in cash.
4. An increase in a current liability
indicates an increase in cash.
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Statement of Cash Flows:

Investing Activities
Statement of Cash Flows (Indirect Method)
Year Ended December 31, 20x2 (In thousands)

Cash flows from investing activities:

Acquisition of plant assets
$(306)
Loan to another company
(11)
Proceeds from sale of plant assets
62
Net cash used for investing activities $(255)

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Statement of Cash Flows:

Financing Activities
Statement of Cash Flows (Indirect Method)
Year Ended December 31, 20x2 (In thousands)
Cash flows from financing activities:
Proceeds from issuance of common stock
Proceeds from issuance of long-term debt
Payment of long-term debt
Payment of dividends
Net cash provided by financing activities

$101
94
(11)
(17)
$167

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Statement of Cash Flows

Statement of Cash Flows (Indirect Method)
Year Ended December 31, 20x2 (In thousands)
Net cash provided by operating activities
Net cash used for investing activities
Net cash provided by financing activities
Net decrease in cash
Cash balance, December 31, 20x1
Cash balance, December 31, 20x2
$

$ 68
(255)
167
$ (20)
42
22

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Noncash Investing and

Financing Activities
Suppose Anchor Corporation issued
Common stock valued at $300,000
to acquire a warehouse.
Warehouse Building
Common Stock

300,000
300,000

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Noncash Investing and

Financing Activities
Noncash Investing and Financing Activities:
Acquisition of building by issuing common
stock
Acquisition of land by issuing note payable
Payment of long-term debt by issuing
common stock
Total noncash investing and financing
activities

$300
70
100
$470

Analysis of Cash Flows

In evaluating sources and uses of cash, the analyst
should focus on questions like:
Are asset replacements financed from internal or external
funds?
What are the financing sources of expansion and business
acquisitions?
Is the company dependent on external financing?
What are the companys investing demands and opportunities?
What are the requirements and types of financing?
Are managerial policies (such as dividends) highly sensitive to
cash flows?

Quick quiz

Analyze the following CFS.

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