Statement of Cash Flows What information? –Cash lifeblood of organization –If not generate enough – not meet obligations, not stay in business Interrelationships – sections, financial statements –Equal change in cash from beginning to end Cash flow from operations –Engine of company, principal source – internally –Residual amount – company’s operations

Statement of Cash Flows Cash flow from investments –Long term and investment assets –Purchase and sale of assets not held for resale –Making and collecting of loans to others Cash flow from financing activities –Capital structure –Stock, loans, dividends paid

Indirect Method Determining cash flows –Net income + noncash expenses – increase in current asset + decrease in current asset + increase in current liability – decrease in current liability –Examples NI - $30,000 Depreciation - $2,600 A/R – BI-$1,000, EI-$1,350 A/P – BI-$1,250, EI-$1,800 Inventory – BI-$6,000, EI-$5,000 Salaries Payable – BI-$1,250, EI-$750

Liquidity Ratios Ratios – analyze financial statements –Lenders, creditors, investors, employees, regulatory agencies –Comparisons - Industry norms, prior period, competitor, planned and budgeted amounts –Describe the financial condition – organization Efficiency of activities Comparable profitability Perception of investors – financial markets Where come from, current condition, possible future –Indiscriminate use – dangerous – not always indicative – difference in accounting classifications, deliberate manipulation

Liquidity Ratios –If only use ratios – erroneous conclusions Current ratio – relationship – inflows of cash and demands for cash payments Quick ratio (acid test) – absolute liquidity – eliminate current assets that cannot be liquidated quickly Working capital – dollar amount Operating cycle - number of days from cash to inventory to accounts receivable to cash –Days in inventory + Days in A/R – Days in A/P –reveals how long cash is tied up in receivables and inventory, i.e. Efficiency ratios

Liquidity Ratios –Defensive interval ratio – number of days cash on hand before running out- burn rate divided into cash how long a company can operate using only current liquid assets indicates how long a business can operate on its liquid assets without needing further revenues Defensive Interval Period = (cash + marketable securities + accounts receivable) / average daily purchases

Analysis framework Business strategy/goals – qualitative –Step 1 – goals, strategies, operating characteristics –Step 2 – outlook for firm sales – goals, markets –Step 3 – investments to support the Product-Market Strategies – investments in A/R, inventories, P & E, acquisitions –Step 4 – future profitability and competitive performance – strong profitability over long run? – influences debt to equity, common stock issuance –Step 5 – future external financing needs –Step 6 – Access to target sources of external finance – established policies

–Step 7 – viability of the 3-5 year plan – goals, strategies, investment requirements, financing needs –Step 8 – current year financing plan – need –Step 9 – stress test under scenarios of adversity –Reliable? – annual report? –Profit drivers? - underlying issues that directly determine your company's financial performance four major profit drivers: 1) price, 2) variable costs, 3) fixed costs (or overhead), and 4) sales volume –Risks? - Some of the risks that almost all businesses face involve competition, price changes, style changes, competition from new products, and changes from fluctuating economic conditions

–SWOT – strategic planning tool - Strengths, Weaknesses, Opportunities, and Threats –Competitive advantages/disadvantages Accounting analysis –Conservative/aggressive choices – anticipate no profit and provide for all losses –Disclosure level –Measurement quality - measured objectively –Audit quality – systematic examination – fairness of financial statements is evaluated –One time events – significant effect

Financial analysis –Ratios – comparison to competition and industry –Value firm against market value of firm Comparable Discounted present value of future profits Multiple of earnings –Cash flow analysis Classifications Prospective – forward looking information –Industry – future? –Firm grow with industry? Shrink? Increase market share of industry? –Trend? –Value firm against market value

Financial Ratios and Financial Analysis –Profitability ratios Return on sales – pg. 9 Return on equity – pg. 10 Gross margin % –Activity ratios ROA – pg. 11 Days Receivable Days Inventory Days Payable –Leverage ratio Debt to assets – pg. 12 Debt to equity Interest coverage – pg. 13 –Liquidity ratios Current ratio – pg. 14 Quick ratio – pg. 14

Report/Presentation Annual Report Project –three distinct parts –Company analysis written report –Using the annual reports from the company website or 10-K reports from EDGAR, you should compare, contrast, and analyze the following aspects of the company, both the company’s trends and how well it is doing against its industry statistics ProfitabilityActivitySolvencyLiquidity Cash Flows Corporate Governance Strategy

Conclusions How is the company doing in each of the categories from above? In which areas is the company doing particularly well or improving significantly? In which areas could the company improve? Be specific about what they could do. How is the company doing in relation to the industry averages? What is your overall assessment of the company’s operations and outlook?

Presentation –20-25 minutes – could be questions at end –Each person in the group must participate in the presentation –The grade is individual so if someone in your group freezes during the presentation, the other students’ grades will not be affected. Peer Review

Read The Statement of Cash Flows, Read Assessing a Firm's Future Financial Health, Assign #9 - Liquidity Ratios for Target - Working Capital, Current Ratio, Quick Ratio years – 1 paragraph – thoughts, comments - (3/1, 3/4).