1. Tutorial Chapter III Cash Flow and Financial Planning

2. Cash Flow and Financial Planning - Goals Tax depreciation procedures The firm’s statement of cash flows Financial planning process (short-term and long-term) Cash-planning process (cash budget) The pro forma income statement The pro forma balance sheet

3. Depreciation = systematic charging of a portion of costs of Fixed Assets against revenues over time. -The amount is determined by using Modified Accelerated Cost Recovery System (MACRS) -Depreciable value -Depreciable life

4. Statement of CF -Summarizes the firm‘s CF over a given period of time CF is divided into- operating flows - investment flows - financing flows Inflows – Decrease in A, Increase in Liab., EAT, Depreciation, Sale of stock Outflows – Inc. in A, Dec. in Liab., Net loss, Dividends paid, Repurchase of stock

5. Formulas CF from operations = EAT + Depreciation Operating CF = EBIT*(1-T) + Depreciation = NOPAT + Depreciation FCF = OCF – NFAI – NCAI NFAI = Change in net fixed A + Depreciation NCAI = Change in current A – Change in (accounts payable + accruals)

6. Financial planning process Long-term financial plans – cover a 2 to 10 years period, Strategic decisions Short-term financial plans – cover 1 to 2 years period, Operating financing Cash Budget = a statement of a firm‘s planned inflows and outflows of cash. As a basis is used the sales forecast provided by the marketing department.

7. Financial planning process Profit planning – Pro-Forma Statements Pro-Forma Statements = projected income statements and balance sheets, two inputs are needed - the sales forecast and the financial statements for the preceding year. Preparing Pro-Forma Income Statement – percent-of-sales method Preparing Pro-Forma Balance Sheet – judgmental approach

8. Exercise 3 - 3 Determine OCF Sales of $2,500,000 Cost of goods sold $ 1,800,000 Operating expenses $300,000 Depreciation expenses $200,000 Tax rate 35%

9. Exercise 3 – 3 Solution OCF = [EBIT * (1-t)] + Depreciation EBIT = $2,500,000 - $1,800,000 - $300,000 = $400,000 OCF = [$400,000 * (1 - 0.35)] + $200,000 = $460,000

10. Exercise 3 - 4 Calculate FCF Increase in fixed assets $300,000 Depreciation $200,000 Increase in current assets $150,000 Increase in accounts payable $75,000 OCF was $700,000

11. Exercise 3 – 4 Solution FCF = OCF - NFAI - NCAI NFAI = change in fixed assets + depreciation NFAI = $300,000 + $200,000 = $500,000 NCAI = change in current assets - change in (acc. payable + accruals) NCAI = $150,000 - $75,000 = $75,000 OCF = $700,000 FCF = $700,000 - $500,000 - $75,000 = $125,000

12. Exercise 3 - 5 Estimate net profits before taxes Sales forecast of $650,000 Fixed costs of $250,000 Variable costs 35% of Sales Operating expenses include fixed costs of $28,000 and variable costs 7,5% of sales Interest expenses are $20,000

13. Exercise 3 – 5 Solution

14. Problem 3 - 2 Accounting cash flow Earnings after taxes $50,000 Depreciation $28,000 Amortization $2,000 What was the firms accounting cash flow from operations?

15. Problem 3 – 2 Solution Earnings after taxes $50,000 Plus: Depreciation $28,000 Plus: Amortization $ 2,000 Cash Flow from operations $80,000 Note: Deprec. and Amor. are non-cash charges. Depreciation is charged against tangible assets, amortization is charged against intangible assets.

16. Problem 3 - 4 Depreciation and accounting Cash Flow Asset original cost of $180,000 has a 5-year MACRS recovery period, now in 3rd year (19%) Accruals $15,000 Current assets $120,000 Interest expense $15,000 Sales revenue $400,000 Inventory $70,000 Total cost before deprec., int. and tax $290,000 Tax rate on ordinary income 40%

17. Problem 3 – 4 Solution

18. Problem 3 - 5

19. Problem 3 – 5 Solution

20. Problem 3 - 7 Cash receipts Sales of $65,000 in April, $60,000 in May Sales of $70,000 in June, $100,000 in July and in August Half of sales are for cash and the other half is collected evenly over next 2 months What are firms expected cash receipts for June, July and August? Use Excel sheet (Problem 3-7.xlsx)

21. Problem 3 – 7 Solution

22. Problem 3 - 8 Cash disbursement schedule for April, May and June Sales from February: $500,000 $500,000 $560,000 $610,000 $650,000 $650,000 Purchases: 60% of next month’s sales, 10% in cash, 50% after 1 month, 40% after 2 month Rent: $8,000 per month Wages and Salaries: Fixed $6,000/month + 7% of sales Taxes: $54,500 due in June Fixed asset outlays: New equipment in April for $75,000 Interest payments: A payment of $30,000 is due in June Cash dividends: $12,500 will be paid in April Principal payments and retirements: None Use Excel sheet (Problem 3-8.xlsx)

23. Problem 3 – 8 Solution

24. Problem 3 - 14 Pro forma income statement Use the percent of sales method to prepare a pro forma income statement Use fixed and variable cost data to develop a pro forma income statement Use Excel sheet (Problem 3-14.xlsx)

25. Problem 3 – 14 Solution a)

26. Problem 3 – 14 Solution b) Using fixed and variable costs higher profit is projected Percent of sales method is more conservative, but fixed and variable costs method is more accurate

27. Problem 3 - 17 Pro forma balance sheet Analyze expected performance and financing needs for 2008 - 2yrs ahead Prepare pro forma balance sheet dated Dec. 31. 2008 Discuss the financing changes suggested by the statement prepared Use Excel sheet (Problem 3-17.xlsx)

28. Problem 3 – 17 Solution Company must arrange for additional financing of at least $775,000 over the next two years based on the given constraints and projections