Statement of Cash Flows Provides liquidity information about a firm. Broken down by firm activity areas: Operating: normal business cash flows Investing:

Statement of Cash Flows

Provides liquidity information about a firm.

Broken down by firm activity areas:

• Operating: normal business cash flows

• Investing: cash flows from collecting loans, buying or selling investments, and buying or selling property, plant, and equipment

• Financing: cash flows to/from creditors (debt) or owners (equity)


To prepare the statement:



1. Compute net cash flows from operations.




(Note: The following method is called the indirect method. It is the most commonly used and intuitive method.)




Net Income

NCF from Ops =

Net Income + Decrease in current non-cash Asset accounts (or)- Increase in current non-cash Asset accounts




NCF from Ops =




If non-cash Assets decrease then we sold them or used them, which provides or saves cash. Therefore, we add any decrease amount to Net Income.

NCF from Ops =





Similarly, if non-cash Asset accounts increase then we must have paid out some cash for asset purchases. Therefore, we subtract any increase amount from Net Income.

NCF from Ops =





+ Increase in Payable accounts (or)- Decrease in Payable accounts

NCF from Ops =





If Payable accounts increase then we avoided having to pay cash (we made purchases on credit). Therefore, we add any increase amount to Net Income.

NCF from Ops =






Similarly, if Payable accounts decrease then we had to pay out cash to our creditors (to settle up our debts). Therefore, we subtract any decrease amount from Net Income.

NCF from Ops =






+ Non-cash write-downs to Net Income

NCF from Ops =






We need to add back depreciation expense, and amortization of intangibles, since these reduced net income, yet did not require a cash outflow.

NCF from Ops =







NCF from Ops =

+ Asset Sales losses (or)- Asset Sales gains







Losses reduce Net Income without any cash outflow. So, we need to add back the amount of any loss.

NCF from Ops =








Similarly, gains increase Net Income without any cash inflow. So, we need to subtract the amount of any gain.

NCF from Ops =







1. Compute net cash flows from operations.2. Compute net cash flows from investing.



1. Compute net cash flows from operations.2. Compute net cash flows from investing.3. Compute net cash flows from financing.



1. Compute net cash flows from operations.2. Compute net cash flows from investing.3. Compute net cash flows from financing.4. Determine net change in cash flows for the period.



1. Compute net cash flows from operations.2. Compute net cash flows from investing.3. Compute net cash flows from financing.4. Determine net change in cash flows for the period.5. Reconcile with beginning and ending cash

balances on the balance sheet.


Example: Paterno Corp. had net income of $500,000 and the following balance sheet information:

Account Beg. Balance

Ending Balance

Change Increase or Decrease

Cash $200,000 $870,000

Accts. Rec. $90,000 $110,000

Accts. Pay. $20,000 $35,000

Inventory $130,000 $125,000

Building* $800,000 $800,000

* Depreciates Straight-Line over 40 years.

Paterno also received $250,000 from stock sales, and paid $100,000 to extinguish long-term debt.


First, compute NCF from Operations.


Ending Balance


Cash $200,000 $870,000

Accts. Rec. $90,000 $110,000 $20,000 Increase

Accts. Pay. $20,000 $35,000 $15,000 Increase

Inventory $130,000 $125,000 $5,000 Decrease

Building* $800,000 $800,000 0




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

Side note: Because this relates to Property, Plant, and Equipment, any non-zero change here would be due to investing, and not operating activity.




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000 – 20,000




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000 – 20,000 + 15,000




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000 – 20,000 + 15,000 + 5,000




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000 – 20,000 + 15,000 + 5,000 + 20,000

Building Depreciation = $800,000 / 40 yrs = $20,000




Ending Balance


Cash $200,000 $870,000




Building* $800,000 $800,000 0

NCF Ops = $500,000 – 20,000 + 15,000 + 5,000 + 20,000 = $520,000


Next, compute NCF from Investing.

None for the year.


Next, compute NCF from Financing.

NCF Financing = $250,000 – 100,000 = $150,000

Stock sales inflows

Debt payment outflows


Finally, compute total Net Cash Flows

NCF Operations + NCF Investing + NCF Financing =

$520,000 + 0 + $150,000 = $670,000


Finally, compute total Net Cash Flows

NCF Operations + NCF Investing + NCF Financing =

$520,000 + 0 + $150,000 = $670,000

Which reconciles with the cash balances on the balance sheet.


Ending Balance


Cash $200,000 $870,000 $670,000




Building* $800,000 $800,000 0

Documents

Statement of Cash Flows Provides liquidity information about a firm. Broken down by firm activity areas: Operating: normal business cash flows Investing: