Fundamentals of Corporate Finance

Fourth Edition

Session 2
Section 2.4
The Statement of
Cash Flows
Learning Objective
• Interpret a statement of cash flows
2.4 The Statement of Cash Flows (1 of 9)
• The firm’s statement of cash flows uses the information from the income
statement and balance sheet to determine, during a set period:
– How much cash the firm has generated
– How that cash has been allocated
• Cash is important because it is needed to pay bills and maintain
operations and is the source of any return of investment for investors
2.4 The Statement of Cash Flows (2 of 9)
• The statement of cash flows is divided into three sections which roughly
correspond to the three major jobs of the financial manager:
1. Operating activities
2. Investment activities
3. Financing activities
Global Corporation’s Statement of Cash Flows for 2016 and 2015 (1 of 2)

Table 2.3 Global Corporation’s Statement of Cash Flows for 2016 and 2015

Global Corporation
Statement of Cash Flows
Year ended December 31 (in $ millions)

blank 2016 2015

Operating activities blank blank
Net income 2.0 1.9
Depreciation and amortization 1.2 1.1
Cash effect of changes in blank blank
Accounts receivable −5.3 −0.3
Accounts payable 2.7 −0.5
Inventory −1.0 −1.0
Cash from operating activities −0.4 1.2
Global Corporation’s Statement of Cash Flows for 2016 and 2015 (2 of 2)

Table 2.3 [Continued]

blank 2016 2015

Investment activities blank blank
Capital expenditures −33.4 −4.0
Acquisitions and other investing activity - -
Cash from investing activities −33.4 −4.0
Financing activities blank blank
Dividends paid −1.0 −1.0
Sale or purchase of stock - -
Increase in short-term borrowing 2.3 3.0
Increase in long-term borrowing 35.2 2.5
Cash from financing activities 36.5 4.5
Change in cash and cash equivalents 2.7 1.7
2.4 The Statement of Cash Flows (3 of 9)
• Operating Activity
– Use the following guidelines to adjust for changes in working capital:
 Accounts receivable:
– Adjust the cash flows by deducting the increases in accounts receivable
– This increase represents additional lending by the firm to its customers and it
reduces the cash available to the firm
2.4 The Statement of Cash Flows (4 of 9)
• Operating Activity
– Accounts payable:
 Similarly, we add increases in accounts payable
 Accounts payable represents borrowing by the firm from its suppliers
 This borrowing increases the cash available to the firm
2.4 The Statement of Cash Flows (5 of 9)
• Operating Activity
– Inventory:
 Finally, we deduct increases to inventory
 Increases to inventory are not recorded as an expense and do not contribute to
net income
 However, the cost of increasing inventory is a cash expense for the firm and
must be deducted
– We also add depreciation to net income, since it is not a cash outflow
2.4 The Statement of Cash Flows (6 of 9)
• Investment Activity
– Subtract the actual capital expenditure that the firm made
– Also deduct other assets purchased or investments made by the firm, such
as acquisitions
2.4 The Statement of Cash Flows (7 of 9)
• Financing Activity
– The last section of the statement of cash flows shows the cash flows from
financing activities
 Dividends paid
 Cash received from sale of stock or spent repurchasing its own stock
 Changes to short-term and long-term borrowing
2.4 The Statement of Cash Flows (8 of 9)
• Financing Activity
– Payout Ratio and Retained Earnings
Retained Earnings = Net Income − Dividends

Divide nds
P a yout Ra tio =
Ne t Income
2.4 The Statement of Cash Flows (9 of 9)
• The last line of the Statement of Cash Flows combines the cash flows
from these three activities to calculate the overall change in the firm’s
cash balance over the time period of the statement.
• The