Chapter 4 - The Cash Flow Statement  The Cash Flow Statement is used by firms to explain changes in their cash balances over a period of time by identifying all of the sources and uses of cash.  Source of cash is any activity that brings cash into the firm. For example, sale of equipment.  Use of cash is any activity that causes cash to leave the firm. For example, payment of taxes. FIN3000, Liuren Wu 1

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Cash Flow Analysis  Why did the cash balance decline by $4.5 million from 2009 to 2010? 1. Accounts receivable increased by $22.5 million representing an increase in uncollected cash from credit sales. It represents $22.5m of use of cash to invest in accounts receivable. 2. Inventory increased by $ million indicating use of cash to procure inventory. 3. Equipment increased by $ million indicating use of cash to invest in equipment. In general,  an increase in an asset account = use of cash  a decrease in an asset account = source of cash FIN3000, Liuren Wu 3

Cash Flow Analysis (cont.) 4. Accounts Payable, credit extended to the firm, increased by $4.5million. Thus source of cash increased by $4.5million due to accounts payable. 5. Long-term debt increased by $51.75 million indicating a source of cash. 6. Short-term debt decreased by $9 million indicating use of cash to pay off the debt. 7. Retained earnings increased by $ million representing a source of cash to the firm from the firm’s operations. In general,  An increase in a liability account = source of cash  A decrease in a liability account = use of cash FIN3000, Liuren Wu 4

Cash Flow Analysis (cont.)  Change in cash balance = Sources of cash – Use of Cash = $216 - $ = -$4.50 Sources of CashUses of Cash Increase in Accounts Payable = $4.50 Increase in Accounts Receivable $22.50 Increase in long-term debt =$51.75 Increase in inventory = $ Increase in retained earnings = $ Increase in net plant and equipment = $40.50 Decrease in short-term notes = $9 Total Sources of cash = $ Total Uses of cash = $ FIN3000, Liuren Wu 5

Cash Flow Analysis (cont.)  An analysis of H.J. Boswell’s operations reveals the following for 2010:  The firm used more cash than it generated, resulting in a deficit of $4.5 million  The primary source of cash flow was retained earnings ($ million) followed by long-term debt ($51.75 million)  The largest use of cash was for acquiring inventory at $148.5 million. FIN3000, Liuren Wu 6

Cash Flow Analysis Summary Sources of CashUses of Cash Decrease in an asset account Increase in an asset account Increase in a liability account Decrease in a liability account Increase in an owner’s equity account Decrease in an owners’ equity account FIN3000, Liuren Wu 7

Cash Flow Statement  The format for a traditional cash flow statement is as follows: Beginning Cash Balance Plus: Cash Flow from Operating Activities Plus: Cash Flow from Investing Activities Plus: Cash Flow from Financing Activities Equals: Ending Cash Balance  Operating activities represent the company’s core business including sales and expenses. Basically any activity that affects net income for the period.  Investing activities include the cash flows that arise out of the purchase and sale of long-term assets such as plant and equipment.  Financing activities represent changes in the firm’s use of debt and equity such as issue of new shares, payment of dividends. FIN3000, Liuren Wu 8

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Step 1: Picture the Problem (cont.)  The format for a traditional cash flow statement is as follows: Beginning Cash Balance Plus: Cash Flow from Operating Activities Plus: Cash Flow from Investing Activities Plus: Cash Flow from Financing Activities Equals: Ending Cash Balance FIN3000, Liuren Wu 10

Step 4: Analyze  The cash flow statement for 2007 depicts a profitable firm with positive cash flow from operations.  The firm has been aggressively investing in fixed assets to the tune of almost 4 times its operating cash flows.  The firm has been able to successfully raise money from capital markets by issuing stocks of nearly $2,000 million. FIN3000, Liuren Wu 11