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Copyright © 2006 McGraw-Hill Ryerson. 3 Classifications on the Cash Flow Statement The Cash Flow Statement must include the following three sections: Operating Operating Activities Investing Investing Activities Financing Financing Activities The Cash Flow Statement must include the following three sections: Operating Operating Activities Investing Investing Activities Financing Financing Activities
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Copyright © 2006 McGraw-Hill Ryerson . 1
Reporting and Interpreting Cash Flows
Copyright © 2006 McGraw-Hill Ryerson . 2
Business Background
Positive cash flows permit a company to . . .
expand its operations
replace needed assets
take advantage of market
opportunities
pay dividends to
owners
Financial analysts consider cash flow an important indicator of a company’s financial health.
Copyright © 2006 McGraw-Hill Ryerson . 3
Classifications on the Cash Flow Statement
The Cash Flow Statement must include the following three sections:
OperatingOperating ActivitiesInvestingInvesting ActivitiesFinancingFinancing Activities
Copyright © 2006 McGraw-Hill Ryerson . 4
Cash Flow From Operating Activities – 2 Methods
• Direct Method• Use cash received and cash paid• Indirect Method• Start with Net Income• Eliminate all non-cash items to get
“Net Cash Inflow (Outflow) from Operating Activities”
Copyright © 2006 McGraw-Hill Ryerson . 5
Cash Flows from Operating Activities - Indirect Method
Net Income
Cash Flows from Operating
Activities: Indirect Method
Changes in current assets and current liabilities
+ Losses and - Gains
+ Non-cash expenses such as
amortization
The indirect method adjusts net income by eliminating non-cash items, essentially converting it from accrual-
based to cash-based net income.
Copyright © 2006 McGraw-Hill Ryerson . 6
Cash Flows from Operating Activities Changes in Current Assets
• Assume for ABC Co. that: Accounts Receivable increases Typically if A/R increases, Sales also
increases Therefore ABC Co. recorded revenue
that they didn’t collect the cash for Therefore, to convert to cash basis,
reduce revenue (reduce Net Income)
Copyright © 2006 McGraw-Hill Ryerson . 7
Cash Flows from Operating Activities Changes in Current Assets
• Therefore if: Current Assets Increase Reduce Net Income
Copyright © 2006 McGraw-Hill Ryerson . 8
Cash Flows from Operating Activities Changes in Current Liabilities
• Assume for ABC Co. that: Payables increase Typically if payables increase, expenses also
increase (ie wages payable & wages expense) Therefore they recorded the expense, but
haven’t paid for the expense yet in cash (wages)
To convert to cash basis, take out the expense that has not been paid in cash (decrease expenses, increase Net Income)
Copyright © 2006 McGraw-Hill Ryerson . 9
Cash Flows from Operating Activities Changes in Current Liabilities
• Therefore if: Current Liabilities Increase Increase Net Income
Copyright © 2006 McGraw-Hill Ryerson . 10
Cash Flows from Operating Activities Changes in CA & CL
• Increase in an Asset (decrease in a Liability)
SUBTRACT it from Net Income to convert to cash basis
• Decrease in an Asset (increase in a Liability)
• ADD it to Net Income to convert to cash basis
Copyright © 2006 McGraw-Hill Ryerson . 11
Cash Flows from
Investing Activities
+
_
Cash Flows from Investing Activities
Inflows from: Sale or disposal of property,
plant, and equipment. Sale or maturity of investments
in securities.
Outflows to: Purchase property, plant, and
equipment. Purchase investments in
securities.
Copyright © 2006 McGraw-Hill Ryerson . 12
Cash Flows from
Financing Activities
+
_
Cash Flows from Financing Activities
Inflows from: Borrowing on notes,
mortgages, bonds, etc. from creditors
Issuing equity securities to shareholders
Outflows to: Repay principal to creditors
(excluding interest) Repurchase equity securities
from owners Pay dividends to shareholders
