A.

Importance of cash flow statements and its main activities

Cash flow statement is one of the financial statements a company or an organization makes to

aggregate all the cash inflows (cash in) and cash out flow (cash out) within a certain period of

time. A cash flow statement is prepared for a number of purposes. For instance, investors can use

it to make a decision on whether they should invest in any given business or not. Secondly,

entrepreneurs and business owners use the cash flow statement to help them understand how the

business if performing and whether they should adjust their key strategies or initiatives

(Weytjens et al.,2021). Further, managers use cash flow statements to properly manage their

budgets, come up with closer relationships, and oversee their teams.

Importance of cash flow statement

1. It gives an insight into in the spending activities by an organization

The cash flow statement gives an insight of the activities which an organization pays within a

certain period (Ratnasingam et al.,2020). There are some payments which do not appear in the

profit and loss but will be found in the cash flow statement for example loan repayment.

2. Planning

Cash flow statement is better tool for planning for any organization. The organization will be

able to know its current obligations and how much they have for the purposes of meeting its

obligations like wages, and any other operating costs. According to Weytjens et al., (2021)

planning enables companies to understand future risks associated with the current opportunities
and threats. Comprehending this enables stakeholders to understand approaches to manage the

risks such that they become eliminated or their occurrence impact is reduced.

Management of any cash crisis

Cash flow statement enables the shareholders an opportunity to know how much an organization

has in terms of cash at both hand and bank, the management will be able to have adequate cash

to manage any crisis which may arise due to shortage or excess cash.

3. Working capital

Working capital is the available funds held by an organization for day-to-day operational

expenses. According to Bhattacharya (2021) it is also referred to as net working capital which is

the difference between a company’s current liabilities (debts and accounts payable) and current

assets (accounts receivable /inventories of raw materials, finished goods and customer’s unpaid

bills). The comparison allows the prediction of the company’s short-term financial health,

liquidity and operational efficiency. When the difference between the two is positive it indicates

the company’s ability to grow.

Main activities of cash flow statement are;

Financing activities:

These are cash from long-term liability and stockholder equity accounts, including notes payable,

retained earnings and dividend payments. The financing activities are cash in or out from

financing activities like ordinary capital or debt financing. Omag (2016) claims that a positive

number in this section indicates that the money coming in is more than what is coming out.
Consequentially showing that the company has the capability of managing their debts increasing

the stakeholders and creditor’s confidence in investing into the company. Financing activities

cash be identified through looking at changes in the company’s long-term liabilities as well as

equity. Examples of cash flow activities include money received from the issuance of debt

instruments such as bonds and noted payable, money received from stock that has been issues,

money payments for distribution of dividend, purchase of treasury stock, and redemption of

bonds or noted payable.

Investing activities:

These are the information about the business's purchase or sale of long-term investments, such as

property, buildings, vehicles, furniture or equipment. Although a positive number is preferred

from these section investors prefer having cash flow from business operation rather than the

investing activities (Weytjens et al., 2021). The investing activities from a cash flow statement

can be easily identified by looking at the changes that take place in the cash flow activities of a

balance sheet. Examples of investing activities are cash flow emanating from the purchase of

equipment, buildings, land, and any other investment assets or even cash received from the sale

of equipment, buildings, land, and any other investment activities.

Operating activities

These are the activities done in the normal cause of business. They costs incurred includes

operating costs and profit items that are also found on an income statement, such as accounts
receivable and payable, inventory, wages payable and income taxes payable. Operating activities

may also include cash flow arising from dividend revenue interest expense as well as income tax.

B. Advantages and disadvantages of ARR and Payback period in evaluating investments

The accounting rate of return is the average of return on investment for any company. It divides

the profit by the average investment.

Advantages are;

1. Simple to compute: Abor (2017) claims that compared to ARR computation of

accounting rate of return is not complicated.

2. Easy to understand: Any investor, including the small ones will be able to understand the

accounting rate of return

3. Ability to compare different firms or organization: The methods allow for the comparison

of different firms with different sizes.

4. It enables organization to calculate current performance based on the profitability

measured

Disadvantages of ARR

1. Accounting profits: Tax and other cash inflow and cash out flows are not considered

2. Accounting Rate of Return is not applicable in situations where investment is made in

different times or in part (Franklin, Grayvbeal & Cooper, 2019).

3. It does not factor in time value of money. It assumes that the value of money received in

different periods is equal.

 4. The results from different projects may not compare as it does not consider investments

whose life period are different.

5. The method does not consider other external factor which may affect the viability of a

particular project or investment

Payback period: This is the number of period (days, weeks, months or years ) a project takes to

recoup its initial investment amount.

Advantages of payback period

1. Simple to compute: It’s not complicated when it comes to computing it.

2. Easy to understand: Does not require specialized/technical knowledge to understand the

method

Disadvantages of payback period method

1. It does not consider time value of money: Value of money changes with time, however,

payback period gives same value to same amount of money received in different period

of an investment (Franklin, Grayvbeal & Cooper, 2019).

2. It does not factor risk: An organization operates under various risks which should be

factored in while calculating the value of money; payback period is short of this.

3. Opportunity cost: Opportunity cost is the benefit from the best alternative investment

forgone. Payback period do not put into consideration.

4. Payback period do not consider cash inflows received after the initial cash out had been

received.
I would use Accounting Rate of Return instead of Payback period because of the following

reasons

1. Accounting rate of return would factor in opportunity cost unlike payback period. This

implies that, unlike the payback methods, accounting rate of return takes into

consideration the comparison between the income and the initial investment instead of

the cash flows (Franklin, Grayvbeal & Cooper, 2019). Such an approach is beneficial

since it looks into the cost savings, revenues, and any expenses that may be associated

with the investment that has been made. Normally, this gives a better picture of the

impact as opposed to simply focusing on the cash flows that are to be produced.

2. Accounting rate of return would put into consideration all benefit form an investment,

regardless of whether initial cash out lay had been received or not (Franklin, Grayvbeal &

Cooper, 2019).This is unlike what happens when using the payback period approach. By

applying this approach, accounting rate of return shows the user not only the revenues

that are generated from the asset but also the profit which is generated from the same.

C. Budget is an estimation of how much money or funds an organization would get inform

of income and how much, to be spent by an organization inform of expenditure within a

certain period of time, which could be monthly, quarterly, semiannually or annually.

Importance of preparing budgets.

1. An organization is able to identify its long and short term goals and develop strategies

towards achieving the same

 2. It enables an organization to spend within its means; a firm will be able to spend only

what they have.

3. It facilitates communication and coordination within an organization: With budget in

place, there would be a clear communication on what is required when and by how much

and through this top hierarchy will be communicating with other staff

4. It’s a tool of planning: Through budget, an organization is able to plan its activities

systematically.

5. It enables delegation of work: Each department is made aware of its budget hence have

some responsibilities in terms of delegation to ensure that they achieve their targets

within the budget.

6. Motivation to staff: If the target for example revenue targeted is achieved, there would be

motivation to staff.

Limitations of budget

1. Assumptions: Unrealistic and inaccurate assumptions in budget may make it not

achievable.

2. Fixed budgets may not change as there are changes in the environment, they are very

inflexible

3. Time: Preparation of budgets takes time and consumes a lot of time which could have

been spent in other activities

4. Costly: In large organization, preparation of budgets consumes huge sums of money

whose opportunity costs are enormous.

5. Managers may forget other issues affecting an organization and focus more on achieving

budgets.
Senthilnathan (2020) explains that percentage rate of return expected on an investment or asset,

compared to the initial investment's cost. The ARR formula divides an asset's average revenue by

the company's initial investment to derive the ratio or return that one may expect over the

lifetime of an asset or project. ARR does not consider the time value of money or cash flows,

which can be an integral part of maintaining a business.

QUESTION 2: TAN Plc

Part A: Income Statement and Balance Sheet

TAN
      Plc      
    Income Statement    
    For the Period Ending 31/12/2022  

$ $ $
Sales 150000
Opening stock 1500
Purchases 60000
Less Closing stock -40000

Cost of goods
sold 35000 -35000
Gross profit 115000

Expenses
Bills expense 37500
prepaid bills -12000 25500
salary expense 33000
Accrued salaries 6500 39500 65000

Net income 50000

 TAN
      Plc    
    Balance   Sheet  
  For Period Ending 31/12/2022

ASSETS   $     $
properties 45000
machine 30000
prepayments 75000
stock 40000
debtors 22000
prepaid bills 12000
cash 37500 261500

financed by share capital 112500

accruals 44000
creditors 55000
net profit 50000
261500

Part B: Analysis of Financial Position through Ratio analysis

Through ratio analysis, the financial position of TAN plc can be

assessed quantitatively looking at the liquidity, efficiency, and

profitability of the company. This is done by doing an analysis

of TAN plc financial statements such as the balance sheet and

the income statement. Profitability ratios are those that will be

used to ascertain whether TAN plc is generating sufficient

profits relative to the company’s operating costs, revenues,

assets shown in the balance sheet, and the equity of

shareholders. The specific profitability ratios that will be

calculated include gross profit ratio, net profit ratio, and

operating ratio. Liquidity ratios will be used to indicate whether

TAN plc is capable of paying off the company’s current

financial liabilities without necessarily having to borrow from

external sources (Warren, Jonick & Schneider, 2020). The

liquidity ratios that will be calculated include quick ratio and

current ratio. On the other hand, efficiency ratios will be

applied to show how well TAN plc is using its assets as well as

liabilities internally. Efficiency ratios can be used to calculate

the receivables of the company, its process of repayment of

liabilities, and the manner in which it users in machinery and

inventory.

Profitability
Ratios

i. Gross profit ratio =( GI/Sales) x 100

(115000/150000) x100 =
76.65%

ii. Net profit ratio = (Net profit/Sales) x 100

(50000/150000) x 100 = 33.33%

iii. Operating ratio = (Cost of goods sold plus operating expenses)/ sales x 100
 (100000/150000) x 100
=66.66%

The profitability ratios calculated above, indicate that TAN Plc is able to generate profit from its

operations. The gross profit ratio of the company is high at 76.65 % which is shows that the

Company is generating high enough profit. Further, the net profit ratio stands at 33.33% which is

also good enough for the company since its generating sufficient revenues. The general implication

of these three ratios is that TAN plc is efficiently using its re4sources to generate income.

Liquidity Ratios

Quick ratio =( Current assets -inventory)/Current liabilities

(186500-40000)/99000 x 100
147.98%

Current ratio = Current assets/current liabilities x 100

186500/99000 x 100
188.38%

The company has got the ability to meet its short time liabilities with a lot of ease.

The Quick Ratio of TAN plc is 147.98%. This ratio is greater than 1. Typically, this

means that the company is healthy and can pay off its liabilities with ease since the

greater the quick ratio of a company the healthier it is. If the quick ratio was less than

1, it would mean that the company is performing poorly and is not in a position to pay

off its liabilities.

Looking at the current ratio, TAN plc has a current ratio of 188.38%. Since this ratio

is greater than 100% or even greater than 1, the company will manage to easily pay

off its debts. The except current ratio of the company is 1.8838. A good current ratio

should lie between 1.2 and 2 (Warren, Jonick & Schneider, 2020). This implies that

the current ratio of TAN is higher than the recommended figure, so the company is

healthy.

Efficiency Ratios

Debtors days = Year end debts/Sales x 365

22000/150000 x365
53.53 days
This is approximately equal to 54 days

Creditors days = Creditors at end of year/purchases x365

(55000/60000) x 365
334.58 days
This is approximately 335
days

PART C: Advice to Current and prospective Shareholders

They should not sell their shares because of the following reasons:
 i. The industry profit ratio of 25% is less than the 33.33% for TAN Plc
ii. Industry current ratio of 125% is less than the 188.38% of TAN PLc.
iii. Industry average debtors days of 110 is more than 54 days for TAN PLc.
iv. Industry average creditors days of 13o days is less than 335 days of TAN plc.

Question 3: AMF LTD

Cash budget for AMF Ltd for 6 months

Receipt
s October Nov Dec Jan Feb March

Opening Balance 10000 5000 500 -7000 -10000 -10000

Sales 12000 12000 12000 12000 16000

Total 10000 17000 12500 5000 2000 6000

Payments

To receipts credit 2500 2500

Cash purchases 9000 9000 9000 9000 9000

Bills 1000 1000 1000 1000 1000 1000

Rent 4000 4000 4000 2000 2000 2000

Equipment 3000 3000

Total 5000 16500 19500 15000 12000 12000

 Purchases for November to March is 10000 each month. Discount is 10% which is
equal to 1000.
Payment for purchases is 9000 from Nov 2022 to March
2023.

B. Advise to AMF LTD

There are a number of strategies that the management of AMF Ltd should apply so as to

better manage their cash flow. The first strategy is that the company should cut unnecessary

expenses. This is done by taking an audit of all the company’s expenses. For instance, the

management should decide on whether it is prudent for them to pay for subscription or software

that the company does not use. A closer look at the expenses of the company will enable the

management decide on whether the biggest expenses are actually providing a good return on

investment or whether the expenses are greater than the value that they offer to the company.

Alternatively, AMF can adopt a strategy of deferring payment of expenses. Such a strategy

would help the company to retain its cash for longer periods. However, care should be taken to

ensure that by delaying payment of expenses, it does not end up destroying its credit rating or

reputation.

The second strategy that can adopted by AMF Ltd to improve cash flow would be prompt

collection of money from customers. One way of achieving this would be by promptly sending

out invoices to customers. The faster this is done, the faster the company gets paid. If this is not

done, the company may decide to send out payment reminder letters to customers who are late in
making their payments. If this fails to work, phone calls can be made to the customers to remind

them about their unpaid invoices (Warren, Jonick & Schneider, 2020). Finally, AMF Ltd should

offer various methods of to their customers. This is because the more convenient and easier a

company makes it for their customers to make payments, the faster the company gets paid. The

most common method of facilitating this is by allowing customers to manage their payments

online. By making it possible for customers to have various online payment options such as debit

cards, credit cards or even mobile payment, the faster they are likely to pay.

References

Abor, J. Y. (2017). Evaluating capital investment decisions: Capital budgeting.

In Entrepreneurial Finance for msmes (pp. 293-320). Palgrave Macmillan, Cham.

Bhattacharya, H. (2021). Working capital management: Strategies and techniques. PHI Learning

Pvt. Ltd..

Franklin, M., Grayvbeal, P., & Cooper, D. (2019). Principles of Accounting, Volume 1:

Financial Accounting.

Omag, A. (2016). Cash flows from financing activities. Evidence from the automotive

industry. International Journal of Academic Research in Accounting, Finance and

Management Sciences, 6(1), 115-122.

Ratnasingam, J., Khoo, A., Jegathesan, N., Wei, L. C., Abd Latib, H., Thanasegaran, G., ... &

Amir, M. A. (2020). How are small and medium enterprises in Malaysia’s furniture industry

coping with COVID-19 pandemic? Early evidences from a survey and recommendations for

policymakers. BioResources, 15(3), 5951-5964.

Senthilnathan, S. (2020). Capital Budgeting–The Tools for Project Evaluation. Available at

SSRN 3748067.

Warren, C. S., Jonick, C., & Schneider, J. (2020). Financial accounting. Cengage Learning.

Weytjens, H., Lohmann, E., & Kleinsteuber, M. (2021). Cash flow prediction: MLP and LSTM

compared to ARIMA and Prophet. Electronic Commerce Research, 21(2), 371-391.