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© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Chapter 12 Reporting and Analyzing Cash Flows.

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Presentation on theme: "© The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Chapter 12 Reporting and Analyzing Cash Flows."— Presentation transcript:

1 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Chapter 12 Reporting and Analyzing Cash Flows

2 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-2 Conceptual Learning Objectives C1: Explain the purpose and importance of cash flow information C2: Distinguish between operating, investing, and financing activities C3: Identify and disclose noncash investing and financing activities C4: Describe the format of the statement of cash flows

3 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-3 Analytical Learning Objectives A1: Analyze the statement of cash flows A2: Compute and apply the cash flow on total assets ratio

4 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-4 Procedural Learning Objectives P1: Prepare a statement of cash flows P2: Compute cash flows from operating activities using the indirect method P3: Determine cash flows from both investing and financing activities P4: Appendix 16A: Illustrate use of a spreadsheet to prepare a statement of cash flows P5: Appendix 16B: Compute cash flows from operating activities using the direct method

5 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-5 How does a company obtain its cash? Where does a company spend its cash? What explains the change in the cash balance? Purpose of the Statement of Cash Flows C1

6 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-6 How did the business fund its operations? Did the business borrow any funds or repay any loans? Does the business have sufficient cash to pay its debts as they mature? Did the business make any dividend payments? Importance of Cash Flows C1

7 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-7 Cash Currency Cash Equivalents Short-term, highly liquid investments. Readily convertible into cash. Sufficiently close to maturity so that market value is unaffected by interest rate changes. Short-term, highly liquid investments. Readily convertible into cash. Sufficiently close to maturity so that market value is unaffected by interest rate changes. Measurement of Cash Flows C1

8 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-8 The Statement of Cash Flows includes the following three sections: Operating Activities Investing Activities Financing Activities Classifying Cash Flows C 2

9 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin 12-9 Outflows Salaries and wages Payments to suppliers Taxes and fines Interest paid to lenders Other Outflows Salaries and wages Payments to suppliers Taxes and fines Interest paid to lenders Other Inflows Receipts from customers Cash dividends received Interest from borrowers Other. Inflows Receipts from customers Cash dividends received Interest from borrowers Other. Operating Activities C 2

10 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Outflows Purchasing long-term productive assets Purchasing equity investments Purchasing debt investments Other Outflows Purchasing long-term productive assets Purchasing equity investments Purchasing debt investments Other Inflows Selling long-term productive assets Selling equity investments Collecting principal on loans Other Inflows Selling long-term productive assets Selling equity investments Collecting principal on loans Other Investing Activities C 2

11 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Outflows Pay dividends Purchasing treasury stock Repaying cash loans Paying owners’ withdrawals Outflows Pay dividends Purchasing treasury stock Repaying cash loans Paying owners’ withdrawals Inflows Issuing its own equity securities Issuing bonds and notes Issuing short- and long-term liabilities Inflows Issuing its own equity securities Issuing bonds and notes Issuing short- and long-term liabilities Financing Activities C 2

12 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Items requiring separate disclosure include: Retirement of debt by issuing equity securities. Conversion of preferred stock to common stock. Leasing of assets in a capital lease transaction. Items requiring separate disclosure include: Retirement of debt by issuing equity securities. Conversion of preferred stock to common stock. Leasing of assets in a capital lease transaction. Noncash Investing and Financing C 3

13 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Format of the Statement of Cash Flows C 4

14 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin There are two acceptable methods to determine Cash Flows from Operating Activities: Direct Method Indirect Method There are two acceptable methods to determine Cash Flows from Operating Activities: Direct Method Indirect Method Format of the Statement of Cash Flows C 4

15 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Let’s look at the Indirect Method for preparing the Cash Flows from Operating Activities section. Preparing the Statement of Cash Flows P2

16 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net Income Cash Flows from Operating Activities 97.5% of all companies use the indirect method. Changes in current assets and current liabilities. + Losses and - Gains + Noncash expenses such as depreciation and amortization. Indirect Method P2

17 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Use this table when adjusting Net Income to Operating Cash Flows. Indirect Method P2

18 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin  East, Inc. reports $125,000 net income for the year ended December 31,  Accounts Receivable increased by $7,500 during the year and Accounts Payable increased by $10,000.  During 2008, East reported $12,500 of Depreciation Expense.  East, Inc. reports $125,000 net income for the year ended December 31,  Accounts Receivable increased by $7,500 during the year and Accounts Payable increased by $10,000.  During 2008, East reported $12,500 of Depreciation Expense. What is East, Inc.’s Operating Cash Flow for 2008? Indirect Method Example P2

19 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net income125,000$ Deduct: Increase in accounts receivable Cash provided by operating activities Net income125,000$ Deduct: Increase in accounts receivable Cash provided by operating activities For the indirect method, start with net income. Indirect Method Example P2

20 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable Cash provided by operating activities Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable Cash provided by operating activities Add noncash expenses such as depreciation, depletion, amortization, or bad debt expense. Indirect Method Example P2

21 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Cash provided by operating activities Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Cash provided by operating activities Indirect Method Example P2

22 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Add: Increase in accounts payable10,000 Cash provided by operating activities Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Add: Increase in accounts payable10,000 Cash provided by operating activities Indirect Method Example P2

23 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Add: Increase in accounts payable10,000 Cash provided by operating activities140,000$ Net income125,000$ Add: Depreciation expense12,500 Deduct: Increase in accounts receivable(7,500) Add: Increase in accounts payable10,000 Cash provided by operating activities140,000$ If we used the Direct Method, we would get the same $140,000 for Cash Provided by Operating Activities. Indirect Method Example P2

24 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Let’s prepare a Statement of Cash Flows for B&G Company using the Indirect Method. Indirect Method P2

25 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin P2

26 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Additional Information for 2008: Net income was $105,000. Cash dividends declared and paid were $40,000. Bonds payable of $50,000 were redeemed for $50,000 cash. Common stock was issued for $35,000 cash. Additional Information for 2008: Net income was $105,000. Cash dividends declared and paid were $40,000. Bonds payable of $50,000 were redeemed for $50,000 cash. Common stock was issued for $35,000 cash. P2

27 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Add noncash expenses and losses. Subtract noncash revenues and gains. Add noncash expenses and losses. Subtract noncash revenues and gains. Start with accrual-basis net income. Then, analyze the changes in current assets and current liabilities. P1

28 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin P2

29 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Now, let’s complete the investing section. P3

30 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Now, let’s complete the financing section. P3

31 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin P1

32 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Analyzing Cash Sources and Uses A1

33 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Used, along with income-based ratios, to assess company performance. Cash flow on total assets = Operating cash flows Average total assets Cash Flow on Total Assets A2

34 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Let’s look at the Direct Method for preparing the Cash Flows from Operating Activities section. Preparing the Statement of Cash Flows P5

35 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin Analyzing the Cash Account Let’s use this Cash account to prepare B&G Company’s Statement of Cash Flows under the Direct Method. P5

36 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin P5

37 © The McGraw-Hill Companies, Inc., 2008 McGraw-Hill/Irwin End of Chapter 12


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