Financial Accounting: Chapter 12 and 13Ashton Converse

Statement of Cash Flows and Analysis

*Welcome to Week 16!

MERRY CHRISTMAS!!!!

*Objectives/Schedule

*Welcome *Review*End of the Semester Schedule*Final Exam

*A look into Chapter 12*Application of Material and Statement of Cash Flows

*Seeing Chapter 13 through discussions

*Review Time: Don’t Stop Yet

1. What is stockholders’ equity?

2. What does unqualified opinion mean?

3. What does qualified opinion mean?

4. What does earnings per share mean?

5. Why do Americans’ celebrate Christmas?

*End of the Semester Schedule

*Today, we will research through chapter 12 and maybe 13*Thursday, we will finish chapter 13, have an activity, and then discuss more information about the exam if we have time.*Next Week, we will discuss information about the final exam and either have an activity, movie, or get out early depending on our time

* CHPT. 12 - Statement of Cash Flows

Did you all find a statement of cash flows?*What is(are) the purpose(s) of the statement of the cash flows?*See the where and when the cash is moving*Report cash receipts and cash payments*3 parts: operating, financing, and investing activities*Predicts future cash flows*Evaluates management decisions*Determines the ability to pay dividends

*What Does “Cash” Mean?

On the statement of cash flows, “cash” means more than just cash in the bank*It includes cash equivalents (equal to, similar)*High liquid short-term investments that can be converted into cash immediately*Money Market Accounts*Investments in U.S. Government Securities

*THR3E Business ACTIVITIES

Operating Activities*Activities that create revenue or expense in the entity’s

major line of business*Affect the income statement

Investing Activities*Activities that increase or decrease the long-term assets

available to the businessFinancing Activities*Activities that obtain from investors and creditors the

cash needed to launch and sustain the business*Money that people invest into the company

* Two Formats for Operating Activities

*Indirect Method*The more commonly used method*Is made from net income reconciled to net cash provided by operating activities, (minus any depreciation adjustments)

* Direct Method* Lists the major categories of operating cash

receipts (collections from customers receipts of interest and dividends) and cash disbursements (payments to suppliers, to employees, for interest and income taxes)

Example given for each in the book

*Statement Template

Exhibit 12-3 Part 1 and Part 2 reports the template that should be followed to make a statement of cash flows for any company.*Read through the template and notice at the least the main areas*OA: net income, adjustments, and net cash*IA: sales, liabilities, and purchases of assets*FA: Stock, borrowing, payments, and net*NI or NL: beginning cash + net increase = end cash balance

*Lets Practice Categorizing

*I will state an event and I want you to discuss with in small groups which activity you think it is part of. *I will call on someone randomly and we will see if your team is correct*So tell me if the event is part of operating activities, investing activities, or financing activities*Which of the 3 does the event belong to?

*Mid-Chapter Summary Problem

*Take time now to read through the summary problem*Do NOT read the answer right away!*Work together in teams to see if you can create the statement of cash flows using the indirect method with what is given.*Write it on a separate page or paper

*Then check your answer and see if you did it correctly*If not, look for the mistake and learn from it!

*Look: You see the Differences?

Read through Exhibit 12-11 Part 1 and 2 and see if you can find the differences between indirect method and direct method. *Read through the direct method to understand the differences (FASB requires it)*You do not need to memorize though. *We will focus mainly on the indirect method.*Feel welcome to discuss with people around you after you have read through and found one difference

*Free Cash Flow

Investors may want to know how much cash a company can “free up” for new opportunities

Free Cash Flow:*The amount of cash available from operations after paying for planned investments in plant, equipment, and other long-term assets

*Free Cash Flow Equation

*Free Cash Flow is found by taking the net cash provided by operating activities and subtracting (-) cash payments marked for investments in plant assets

FCF = Net cash provided by OA – Cash payments for investments in plant assets

*If a company has a net cash inflow of 2.3 billion from operations and plans to spend 1.9 billion for better technology, they will have .4 billion leftover as free cash flow to invest in an opportunity.

* Managerial Questions and Decision Guidelines

Investors*How much in dividends can I expect to receive in stock?*Is the stock price likely to increase or decrease?*What is the future stock prices likely to be?Creditors*Can the company pay the interest and principal at the maturity of a loan?

* CHPT 13 – Financial Statement Analysis

If you were an investor, how would you evaluate a company?*How would the financial statements help you?

*Discuss this with 1-3 other people and be ready to share.

*Different Analysis Tools

Horizontal Analysis*Study of percentage changes in comparative financial statements*Computing a percentage change requires 2 things:1. Calculate the dollar amount of the

change from the base (earlier) period to the later period

2. Divide the dollar amount of change by the base-period amount.

*Example of Horizontal Analysis

Ford Motor Inc. Horizontal Analysis (in millions) 2011 2010 Amount PercentageRevenue...... $8,380 $7,757 $623 8.0%*YUM’s revenues increased by 8% during 2011

Step 1: Compute the dollar amount of change from 2010 to 2011… 8,380 – 7,757 = 623Step 2: Divide the dollar amount of change by the base-period amount… 623/7,757 = 8.0%

*Horizontal Analysis

Trend Percentages*A form of horizontal analysis that indicates the direction a business is taking.*How are things changing over time? (maybe 1, 5, 10, or so years)

Trend % = Any Year $/Base Year$

*Different Analysis Tools

Vertical Analysis*Analysis of a financial statement that reveals the relationship of each statement item to a specified base, which is the 100% figure. * For vertical analysis on the income statement, the base is usually revenue. *If in normal conditions a company’s net income is 12% revenue. Then a drop to 10% may cause the company’s stock price to fall.

*Vertical AnalysisVertical Analysis Percent is found when you take any income statement item and divide by the total revenue.

VAP % = Each income statement item/total revenue

*Exhibit 13-4 Gives us an example*Notice how the percentages are up and down (vertical) you can then see how each item is a percent of the total. *All percentages should be less than

*Common Size Statements

*A financial statement that reports only percentages (%)

*Each item is a percentage of the revenue amount.

*%’s ONLY…no #’s

*Benchmarking

The comparison of a company to a standard set by other companies, with a view toward improvement. *When comparing statements of other companies, one may be larger than the other.*Example: Starbucks is bigger than Bridge Café

*A direct comparison of their statements would not be meaningful.*The statements need to be converted to a common size and their percentages compared

*Use the Statement of

Cash Flows

*Analysts find the statement of cash flows more helpful for spotting weakness than for gauging success. *WHY is this usually true?

*A Shortage of cash can throw a company into bankruptcy, but lots of cash does not ensure success.

*Ratios, Ratios, and more Ratios!

The ratios we discuss may be classified in the following ways:*Ability to pay current liabilities*Ability to sell inventory and collect receivables*Ability to pay long-term debt*Profitability*Analyze stock as an investment*Usually companies use computer software and programs to help match up statements and analyze outcomes.

*Working Capital

*Measures a business’s ability to meet its short-term obligations with its current assets

*Current assets minus current liabilities

Working capital = Current assets – current liabilities

*Generally, the larger the working capital, the better the ability to pay debts.

*Old Measures

All measures that we have discussed are recalled in this chapter.*There is a chart in the back of this chapter that shows all of the main ratios, their equation, and their brief information.

*For the Edition 6 book, it is on page 630

*For Edition 7 book, it is on page …

*Capital Charge*Measure whether a company’s operations have increased stockholders’ wealth.

Capital Charge = (notes payable + current maturities of long term debt + long-term debt + stockholders’ equity) * Cost of capital

CC = (Beginning balances) x Cost of Capital

*Cost of Capital:*A weighted average of the returns demanded by the company’s stockholders and lenders.

*Ending Thoughts

*Come to Class on Thursday, as we have an applicable activity and may either discuss the final exam…or may next week.*Thank you for a good semester and for the ones that tried to work hard through the whole semester. *I am thrilled to see what you do next in your life. Have fun and keep me informed on where you are going and what you are doing!