Overview

Objective of IAS 7
Fundamental principle in IAS 7
Fundamental principle in IAS 7
Fundamental principle in IAS 7
Presentation of the Statement of Cash Flows
Presentation of the Statement of Cash Flows
Presentation of the Statement of Cash Flows
 Net Cash Flow
• Net cash flow = Net income – Noncash
revenues + Noncash charges

• Net cash flow = Net income + Depreciation

and amortization
Presentation of the Statement of Cash Flows
• The operating cash flows section of the
statement of cash flows under the direct
method would appear something like this:
Cash receipts from customers xx,xxx

Cash paid to suppliers xx,xxx

Cash paid to employees xx,xxx

Cash paid for other operating expenses xx,xxx

Interest paid xx,xxx

Income taxes paid xx,xxx

Net cash from operating activities xx,xxx

Profit before interest and income taxes xx,xxx

Add back depreciation xx,xxx

Add back impairment of assets xx,xxx

Increase in receivables xx,xxx

Decrease in inventories xx,xxx

Increase in trade payables xx,xxx

Interest expense xx,xxx

Less Interest accrued but not yet paid xx,xxx

Interest paid xx,xxx

Income taxes paid xx,xxx

Net cash from operating activities xx,xxx

Net Cash Flow from Operating Activities
Net Income P14,000
Add/(Deduct) adjustment for differences between net income and
cash flows from operating activities:
depreciation expense + 8,000
Increase in salaries payable + 800
increase in accounts payable + 2,600
increase in accounts receivable -7,000
Net cash provided by operating activities P18,400
 Exercise Indirect Method
The following information is available:
•Net Income P5,000 =
•Depreciation Expense 2,500 +
•Increase in deferred tax liabilities 500 +
•Decrease in cash 3,000 -
•Increase in marketable securities 1,000 -
•Decrease in accounts receivable 2,000 +
•Increase in inventories 9,000 -
•Decrease in Accounts Payable 5,000 +
•Increase in accrued liabilities 1,000 +
•Increase in property and equipment 14,000 -
•Increase in short-term notes payable 19,000 +
•Decrease in long-term liabilities 4,000 –
•=4000
 Adjustment to convert Net Income to Net Cash Flow from Operating
Activities (INDIRECT METHOD)

Net Income After Taxes

Plus (+)
• Decrease in current assets (except cash, marketable securities and non-trade
accounts)
• Increase in current liabilities (except financing or non-operating accounts, e.g. bank
loan, current maturities of long-term debt
• Depreciation, depletion, and amortization expense
• Amortization of discounts on bonds payable
• Amortization of premium on investment in bonds
• Increase in deferred income taxes
• Loss (net) on disposal of assets or liabilities
• Subsidiary loss under the equity method
• Interest expense
• Income taxes
 Adjustment to convert Net Income to Net Cash Flow from Operating
Activities (INDIRECT METHOD)

Minus (-)
• Increase in current assets (except cash, marketable securities and non-trade
accounts)
• Decrease in current liabilities (except financing or non-operating accounts, e.g. bank
loan, current maturities of long-term debt
• Amortization of premium on bonds payable
• Amortization of discount on investment in bonds
• Decrease in deferred income taxes
• Gain (net) on disposal of assets or liabilities
• Subsidiary gain under the equity method
Equals (=)
Net Cash Flow From Operations
Interest paid
Income taxes paid
Net Cash from Operating Activities
 Required?
• What is net cash flow from operating
activities?
• What is net cash flow from investing
activities?
• What is net cash flow from financing activities
• What is the change in cash?
Financial Ratios Discussion
 Sample Exercise

December 31
End of Year Beginning of Year
Current assets:
Cash P 60,000 P 80,000
Accounts Receivable 250,000 150,000
Inventory 437,000 360,000
Prepaid Expenses 12,000 14,000
Current liabilities:
Accounts payable 420,000 390,000
Accrued liabilities 8,000 12,000
The deferred income Taxes liability account on the statement of financial position
Increased by P6,000 during the year, and depreciation charges were P50,000
during the year
Using the indirect method, determine the net cash provided by operating activities
for the year.
Net income ................................................................. P84,000
Adjustments to convert net income to a cash basis:
Depreciation charges for the year ........................... P50,000
Increase in accounts receivable .............................. (60,000)
Increase in inventory .............................................. (77,000)
Decrease in prepaid expenses ................................. 2,000
Increase in accounts payable .................................. 30,000
Decrease in accrued liabilities ................................ (4,000)
Increase in deferred income taxes .......................... 6,000 (53,000)
Net cash provided by operating activities ................... P31,000
Quiz
Modifying Accounting Data
For
Managerial Decisions
 Operating Assets = Operations
Working Capital
• The cash and marketable securities, accounts
receivable, inventories, and fixed assets
necessary to operate the business.
 Non-Operating Assets
• Cash and marketable securities above the
level required for normal operations,
investments in subsidiaries, land held for
future use, and other nonessential assets.
 In millions
ASSETS 2019 2018 LIABILITIES AND SHE 2019 2018
Cash and marketable 10 80 Accounts Payable 60 30
securities
Accounts Receivable 375 315 Notes Payable 110 60
Inventories 615 415 Accruals 140 130
Total Current Assets 1,000 810 Total Current Liabilities 310 220
Net plant and equipment 1,000 870 Long-term bonds 754 580
Total Liabilities 1,064 800
Preferred Shares (400,000) 40 40
Ordinary Shares (50,000,000) 130 130
Retained earnings 766 710
_____ ____ Total Ordinary Equity 896 840
Total assets 2,000 1,680 Total Liabilities and SHE 2,000 1,680

Common Shareholders’ Equity (Net Worth) =

Assets-Liabilities-Preferred Shares
P2B – P1.064B – P40M = P896M
 Net Operating working capital
(NOWC)
• Operating working capital less accounts
payable and accruals. It is the working capital
acquired with investor-supplied funds.
=
All current assets – All current liabilities that do
not charge interest
NOWC=Cash and Marketable Securities +
Accounts receivable + inventories - Accounts
payable - accruals = 800,000
 Total Operating capital
• Current assets used in operation

Operating Working Capital = Net operating

working capital +Net fixed assets = 1,800
 Net Operating Profit After Taxes
(NOPAT)
• The profit a company would generate if it had
no debt and held no non-operating assets
=
NOPAT=EBIT(1-TAX RATE)
= P170.3M
 Income Statement and Retained Earnings
2019 2018
Net Sales 3,000.0 2,850.0
Operating cost excluding depreciation and amortization 2,616.20 2,497.0
Earnings before interest, taxes, depreciation and 383.80 353.0
amortization (EBITDA)
Depreciation 100.0 90.0
Amortization 0.0 0.0
Depreciation and amortization 100.00 90.0
Earnings before interest and taxes (EBIT, or operating 283.80 263.0
income)
Less: interest 88.0 60.0
Earnings before taxes (EBT) 195.8 203.0
Taxes 78.3 81.2
Net income before dividends 117.5 121.8
Preferred dividends 4.0 4.0
Net income 113.5 117.8
 EPS=113,500/50,000 DPS=57,500/50,000

2019 2018
Net income 113.5 117.8
Ordinary share dividends 57.5 53.0
Addition to retained earnings 56.0 64.8

Per share data

Ordinary share price 23.00 26.0
Earnings per share (EPS) 2.27 2.36
Dividends per share (DPS) 1.15 1.06
Book value per share (BVPS) 17.92 16.80
Cash flow per share (CFPS) 4.27 4.16

CFPS=NI + Depreciation + Amortization/Ordinary Shares Outstanding

213.5/50
BVPS = Total SHE/Ordinary shares outstanding
2019 = =896/50
2018 = 840/50
 Net Cash Flow
• The actual net cash as opposed to accounting
net income, that a firm generates during some
specified period.
=Net Cash flow = Net income-Noncash revenues
+Noncash charges
= Net Cash flow = Net income + Depreciation
+Amortization
= P113.5 + P100
= P213.5
Operating Activities
Net income before preferred dividends 117.5
Additions (Sources of Cash)
Depreciation and amortization 100.0
Increase in accounts payable 30.0
Increase in accruals 10.0
Subtractions (Uses of Cash)
Increase in accounts receivable (60.0)
Increase in inventories (200.0)
Net cash provided by operating activities (2.5)
Long term Investing Activities
Cash used to acquire fixed assets (230.0)
Financing Activities
Increase in notes payable 50.0
Increase in bonds 174.0
Payment of common and preferred dividends (61.5)
Net cash provided by financing activities 162.5
Net decrease in cash and marketable securities (70.0)
Accounting profit vs Net Cash Flow
 Free Cash Flow
• The cash flow actually available for
distribution to all investors (shareholders and
debtholders) after the company has made all
the investments in fixed assets, new products,
and working capital necessary to sustain
ongoing operations.
 Comparison
Free Cash Flow Net Cash Flow
• Funds available to all investors • Funds available to ordinary
• Funds available to all investors shareholders
after subtracting out the • Payment to bondholders
investments that are and preferred shareholders
necessary to sustain the firm’s reduces net cash flow but
ongoing operations
are not deducted out of
• Thus, investments in fixed free cash flow
assets and net working capital
reduces free cash flow but are
not subtracted from net cash
flow
Calculating Free Cash Flow
 Income Statement and Retained Earnings
2019 2018
Net Sales 3,000.0 2,850.0
Operating cost excluding depreciation and amortization 2,616.20 2,497.0
Earnings before interest, taxes, depreciation and 383.80 353.0
amortization (EBITDA)
Depreciation 100.0 90.0
Amortization 0.0 0.0
Depreciation and amortization 100.00 90.0
Earnings before interest and taxes (EBIT, or operating 283.80 263.0
income)
Less: interest 88.0 60.0
Earnings before taxes (EBT) 195.8 203.0
Taxes 78.3 81.2
Net income before dividends 117.5 121.8
Preferred dividends 4.0 4.0
Net income 113.5 117.8
 EPS=113,500/50,000 DPS=57,500/50,000

2019 2018
Net income 113.5 117.8
Ordinary share dividends 57.5 53.0
Addition to retained earnings 56.0 64.8

Per share data

Ordinary share price 23.00 26.0
Earnings per share (EPS) 2.27 2.36
Dividends per share (DPS) 1.15 1.06
Book value per share (BVPS) 17.92 16.80
Cash flow per share (CFPS) 4.27 4.16

CFPS=NI + Depreciation + Amortization/Ordinary Shares Outstanding

213.5/50
BVPS = Total SHE/Ordinary shares outstanding
2019 = =896/50
2018 = 840/50
 Net Operating Profit After Taxes
(NOPAT)
• The profit a company would generate if it had
no debt and held no Non-Operating assets
=
NOPAT=EBIT(1-TAX RATE)
= 283.8(1-0.40)
= 283.8 (.60)
= 170.3
 Operating Cash Flow
• Equal to NOPAT plus any noncash
adjustments, calculated on an after-tax basis.

• =NOPAT + Depreciation and Amortization

=170.3 +100
= 270.3
 In millions
ASSETS 2019 2018 LIABILITIES AND SHE 2019 2018
Cash and marketable 10 80 Accounts Payable 60 30
securities
Accounts Receivable 375 315 Notes Payable 110 60
Inventories 615 415 Accruals 140 130
Total Current Assets 1,000 810 Total Current Liabilities 310 220
Net plant and equipment 1,000 870 Long-term bonds 754 580
Total Liabilities 1,064 800
Preferred Shares (400,000) 40 40
Ordinary Shares (50,000,000) 130 130
Retained earnings 766 710
_____ ____ Total Ordinary Equity 896 840
Total assets 2,000 1,680 Total Liabilities and SHE 2,000 1,680

Common Shareholders’ Equity (Net Worth) =

Assets-Liabilities-Preferred Shares
 Net investment in Operating
Capital
Total Current Assets – AP – Accruals + FA
•2018 = 810 – 30 – 130 = 650 + 870 = 1,520
•2019 = 1,000 – 60 – 140 = 800 + 1,000 = 1,800
•Variance = 280
 2019 2018
Net Sales 3,000.0 2,850.0
Operating cost excluding depreciation and amortization 2,616.20 2,497.0
Earnings before interest, taxes, depreciation and 383.80 353.0
amortization (EBITDA)
Depreciation 100.0 90.0
Amortization 0.0 0.0
Depreciation and amortization 100.00 90.0
Earnings before interest and taxes (EBIT, or operating 283.80 263.0
income)
Less: interest 88.0 60.0
Earnings before taxes (EBT) 195.8 203.0
Taxes 78.3 81.2
Net income before dividends 117.5 121.8
Preferred dividends 4.0 4.0
Net income 113.5 117.8
 Gross investment in Operating
Capital
• = Net investment + Depreciation and
Amortization
• 2018 = 810 – 30 – 130 = 650 + 870 = 1,520
• 2019 = 1,000 – 60 – 140 = 800 + 1,000 = 1,800
• Net investment = 280
• Depreciation and Amortization = 100
380
 Free Cash Flow
• = Operating Cash Flow- Gross Investment in Operating
Capital
• 270.3 – 380 = 109.7

• = NOPAT – Net Investment in Operating Capital

• =170.3 – 280 = 109.7
 MVA and EVA
• Since the primary goal of management is to
maximize the firm’s stock prices, we need to
bring stock prices into the picture.
• Financial analysts have therefore developed
two performance measures:
Market Value Added
Economic Value Added
 Market Value Added (MVA) – measures
the effects of managerial actions since the
inception of a company
• MVA = Market value of stock – Equity capital
supplied by shareholders
= (Shares outstanding)(Stock price) -
Total ordinary equity
=50,000,000 x 23 = 1,150
= 1,150 – 896 = 254
• The higher its MVA the better the job
management is doing for the firm’s shareholders.
 2019 2018
Net income 113.5 117.8
Ordinary share dividends 57.5 53.0
Addition to retained earnings 56.0 64.8

Per –share data

Ordinary share price 23.00 26.0
Earnings per share (EPS) 2.27 2.36
Dividends per share (DPS) 1.15 1.06
Book value per share (BVPS) 17.92 16.80
Cash flow per share (CFPS) 4.27 4.16
MVA Calculation 2019 2018
Price per share 23.0 26.0
Number of shares (millions) X 50 X 50
Market value of equity 1,150.0 1,300.0
Book value of equity - 896.0 - 894.0
MVA 254.0 460.0
 In millions
ASSETS 2019 2018 LIABILITIES AND SHE 2019 2018
Cash and marketable 10 80 Accounts Payable 60 30
securities
Accounts Receivable 375 315 Notes Payable 110 60
Inventories 615 415 Accruals 140 130
Total Current Assets 1,000 810 Total Current Liabilities 310 220
Net plant and equipment 1,000 870 Long-term bonds 754 580
Total Liabilities 1,064 800
Preferred Shares (400,000) 40 40
Ordinary Shares (50,000,000) 130 130
Retained earnings 766 710
_____ ____ Total Ordinary Equity 896 840
Total assets 2,000 1,680 Total Liabilities and SHE 2,000 1,680

Common Shareholders’ Equity (Net Worth) =

Assets-Liabilities-Preferred Shares
Economic Value Added (EVA) – focuses on
managerial effectiveness in a given year
• EVA = NOPAT – After tax cost of operating
capital
= EBIT(1-T)-[(Total investor supplied
operating capital)x(After-tax percentage
cost of capital)]
Total investor supplied operating capital
= sum of the interest-bearing debt,
preferred shares, and common equity
= net operating working capital + net
EVA Calculation 2019 2018
EBIT 283.8 263.0
1-Tax rate X 60% X 60%
NOPAT 170.3 157.8
Total investor supplied operating 1,800.0 1,520.0
capital*
After tax cost of capital (%) 10% 10.3%
Peso cost of capital 180.0 156.6
EVA= NOPAT – Peso Cost of Capital ( 9.70 ) 1.20

*Equals the sum of notes payable, long-term debt, preferred stock

And common equity
Or
Equals total liabilities and equity minus accounts payable and
Accruals
Or
Equals to net operating working capital plus net fixed assets
 2019 2018
Net Sales 3,000.0 2,850.0
Operating cost excluding depreciation and amortization 2,616.20 2,497.0
Earnings before interest, taxes, depreciation and 383.80 353.0
amortization (EBITDA)
Depreciation 100.0 90.0
Amortization 0.0 0.0
Depreciation and amortization 100.00 90.0
Earnings before interest and taxes (EBIT, or operating 283.80 263.0
income)
Less: interest 88.0 60.0
Earnings before taxes (EBT) 195.8 203.0
Taxes 78.3 81.2
Net income before dividends 117.5 121.8
Preferred dividends 4.0 4.0
Net income 113.5 117.8
Financial Liquidity
Financial Flexibility