1. 15 &18 FINANCIAL REPORTING: CHAPTERS
Part 2: The Statement of Changes in Financial Position, or The Cash Flow Statement, or the Statement of Cash Flows, or that statement that Boulton never taught us way back in grade 11 with eighteen versions of a really, really long damn name that I can’t even be bothered to remember so I’ll just call it whatever comes into my head.
CHAPTERS
15 &18

2. Note: we are only going to learn the “indirect method.”
CASH FLOW STATEMENT
Purpose
To provide information about cash receipts and cash payments during the period
Recall that accounting numbers are NOT cash based, they’re accrual based.
The Cash Flow Statement reconciles these two values (i.e. it turns accrual Net Income into real Cash Flow).
Note: we are only going to learn the “indirect method.”

3. CASH FLOW STATEMENT Purpose Achtungen!
Items that affect PROFIT but not cash
Items that affect CASH but not profit
Sales on A/R
Bad Debt Expense
Inventory valuation (FIFO, etc)
Revenue from significant investments
Amortization (all kinds)
LCM write downs
Gains/Losses on sale of assets
Changes in accounting policies
Purchase of assets
Investments in securities
Redemption of investments
Debt acquisition
Debt repayment
Stock issue (corp.)
Dividends (corp.)
Owner’s investment (sole prop.)
Owner’s Drawings (sole prop.)

4. CASH FLOW STATEMENT
What You Need
The cash flow statement is prepared differently from the other financial statements; it is not prepared from the worksheet/trial balance.
Instead, you require the following information:
1. Comparative balance sheets (2 years)
2. Current income statement
3. Any additional information

5. CASH FLOW STATEMENT
What You Need
Know that there are three sections to the Statement:
Operating activities
Investing activities
Financing activities

6. CASH FLOW STATEMENT RULE OF THUMB:
The Process
RULE OF THUMB:
If it was subtracted from profit but didn’t use cash, add it back
If it was added to profit but didn’t generate cash, deduct it.
If it doesn’t affect cash, don’t put it in the Cash Flow Statement!

7. CASH FLOW STATEMENT The Process
Step 1:
Go through the comparative balance sheets and determine the value of all differences
Step 2:
Start the Cash Flow Statement. Begin by listing Net Income. You’ll now convert this number to Net Change in Cash by doing the following:
Step 3:
Place the differences (from Step 1) into the appropriate section (be sure to list properly as an increase/decrease to cash)
Step 4:
Complete the statement by taking any additional information into account. This may require adjustments to Step 3.

8. CASH FLOW STATEMENT Step 2.
Start with your NET INCOME figure.
All changes will be made to this figure.
You’ll be converting it from an ACCRUAL number, into a CASH number.
We do it this way so we have at least something to start with, otherwise we’d have to start at zero and adjust for every transaction for the year.

9. CASH FLOW STATEMENT Step 3: Operating Activities
Operating activities include:
Regular business operations, i.e. the cash effects of transactions that create revenues and expenses
Generally:
From the Balance Sheet
From the Income Statement
Current Assets:
Revenue & Expense:
An increase is a USE of cash, deduct it.
Since we start with the Net Income, revenues and expenses are already accounted for.
Only non-cash revenues and costs are a concern. Examples include:
Example: Accounts Receivable
Why?
Current Liabilities:
An increase is a SOURCE of cash, add it back.
Example: Accounts Payable
Why?
Amortization
Increase: add back
Losses
Increase: add back
Gains
Increase: deduct

10. CASH FLOW STATEMENT Step 3: Investing Activities
Investing activities include:
Purchasing and disposing of investments and capital (L-T) assets using cash, and
Lending others money and collecting on those loans
Generally:
From the Balance Sheet
From the Income Statement
Capital Assets
Generally, items here are not a concern
Additional information should tell you if you need to worry about Dividends Received for significant ownership (>20%), since they’re not recorded as revenue they must be added.
Interest Revenue on money lent is already in Net Income.
An increase in investments or other long-term assets is a USE of cash, deduct it.

11. CASH FLOW STATEMENT Step 3: Financing Activities
Financing activities include:
Borrowing money from others and repaying the amounts borrowed, and
Obtaining cash from owners/shareholders and paying them drawings/dividends
Generally:
From the Balance Sheet
From the Income Statement
Long-Term Debt and Equity
Generally, items here are not a concern.
An increase in debt or equity is a SOURCE of cash, add it.
Dividends are a USE of cash, deduct.
Note: if you’ve issued bonds or shares, you’ve probably used the funds to buy assets, so you’ll have entries under Investing Activities.
Note: Interest paid on bonds is an operating item and is already incorporated in the Net Income figure that you start with.

12. CASH FLOW STATEMENT Step 4: Additional Information
Remember:
You must take additional information into account (provided in question)
Why?
Example: value of Land may change by $10,000 over the course of the year
However, this may be due to a purchase of $20,000 of new land, and a sale of $10,000 of old land.
Both activities need to be shown, not just the net change of $10,000

13. CASH FLOW STATEMENT What’s It Look Like? COMPUTER SERVICES COMPANY
Cash Flow Statement — Indirect Method
For the Year Ended December 31, 2002

14. CASH FLOW STATEMENT A Cash Flow Statement tells you many things
What’s It Mean?
A Cash Flow Statement tells you many things
You need to learn how to spot red flags and understand their significance

15. What’s It Mean? – The Operating Section
CASH FLOW STATEMENT
What’s It Mean? – The Operating Section
Meaning of Significant USE of Cash in:
Accounts Receivable
Giving credit to risky customers – bad debt
Not collecting quickly enough – week credit policies
Poor management of A/R department
Incompetence in A/R department
Inventory & other Short-Term Assets
Purchasing too much inventory
Could be poor sales, bad forecasts, management incompetence
May be a result of lax controls in purchasing, or a sudden change in demand
Building up inventory in anticipation of business expansion

16. CASH FLOW STATEMENT What’s It Mean? – The Operating Section
Meaning of Significant USE of Cash in:
Accounts Payable
You’re paying of debt too quickly
Not taking advantage of credit granted
Not having a good credit rating and not being granted credit
Poor management in A/P department

17. CASH FLOW STATEMENT What’s It Mean? – The Investing Section
Meaning of Significant USE of Cash in:
Capital Assets
May signal a business restructuring
May indicate that many assets are old and need to be replaced
May signal an up-coming change in product lines or business focus
May be an indication of over zealous ambitions: buying far too expensive equipment, unnecessary purchases, etc.
Investments
If investments rise, may be an indication that the company has very healthy cash flows, and can afford to invest in stocks/bonds
Increase in equity investments may indicate an intention of a takeover

18. CASH FLOW STATEMENT What’s It Mean? – The Financing Section
Meaning of Significant USE of Cash in:
Debt & Equity
Looking to purchase new assets or a new business
Indication of intention to expand in some way
Indication of a need to refinance debt (current loans have interest that is too high)…(look to see what’s going on in the investing section)
May be showing that company is short on funds and needs loans to keep itself a float (look at other areas of statement for clues)
Dividends
May be paying out too much in dividends, drain on cash
Could be a result of poor decisions, demands/expectations of shareholders

19. These ratios are cash-based instead of accrual-based
CASH FLOW STATEMENT
What’s It Mean?
Liquidity
Cash current debt coverage ratio
Profitability
Cash return on sales ratio
Cash flow per share
Solvency
Cash total debt coverage
These ratios are cash-based instead of accrual-based

20. CASH CURRENT DEBT COVERAGE
Cash current debt coverage indicates the amount of cash to pay off current debt that is generated from operating activities.
The ratio provides a better picture of liquidity than using the current ratio because it uses cash provided by operating activities rather than the year-end asset balance.
Cash Provided by Operating Activities
Average Current Liabilities
Cash Current Debt Coverage 

21. Cash Provided by Operating Activities
CASH RETURN ON SALES
Cash return on sales indicates how quickly sales are turned into cash.
The company is efficient at turning sales into cash when its cash return on sales is greater than its accrual-based counterpart, the profit margin.
Cash Provided by Operating Activities
Net Sales
Cash Return on Sales 

22. CASH FLOW PER SHARE
Cash flow per share indicates the cash flow generated for each common share.
Cash Flow from Operating, Investing, and Financing Activities
Number of Common Shares
Cash Flow per Share 

23. CASH TOTAL DEBT COVERAGE
Cash total debt coverage indicates the amount of cash to pay off total debt that is generated from operating activities.
The ratio is the cash based counterpart to the debt to total assets ratio.
Cash Provided by Operating Activities
Average Total Liabilities
Cash Total Debt Coverage 