Statement of Cash Flows

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STATEMENT OF CASH FLOWS:

Statement of cash flows provides information about the cash receipts and cash payments of an entity. In some cases, it tells more about what is actually happening in a business than either the balance sheet or income statement.

THE ASSIGNMENT

I.

1. Source and uses of cash

Alpha Corporation

1989 – 1991 - The major source of cash would be cash received from customers.

- Major uses of cash is for investment in depreciable assets, payments of long-term and short-term debts, and payment to suppliers.

Beta Corporation

1989 – 1991 - The major source of cash would be cash received from customers.

- The major use is for payment to suppliers and employees.

Gamma Corporation

1989 – 1991 - The major source of cash would be cash received from customers.

- The major uses is for purchase of plant, property, and equipment and also for 1989, purchase of treasury shares. 2. Was cash flow from operations greater than or less than net income? Explain

in detail the major reasons for the difference between these two figures.

Cash from operations is greater than that from net income. The major reason for the difference is that cash from operations applies cash basis

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while net income applies accrual basis. The difference is caused by non-cash items such as:

1989 -1991

Depreciation and Restructuring and other unusual item- This reduces the net income, however it doesn’t affect the net cash

Also in 1989-1990

Inventory and Accounts Receivable–This increases the net cash from operations in comparison to net income.

And in 1990

Account Payable – The decrease in accounts payable account means that there is payment of debt but this value is not deducted in the computation of net income.

1989 – 1990 - Cash flow from operations was greater than that from net income.

1991 - Net income was greater than that from operations. The major reason for the difference is that cash from operations applies cash basis while net income applies accrual basis. The difference is caused by non-cash items such as:

1989 - 1991

Depreciation and amortization - This reduces the net income, however it doesn’t affect the net cash

Decrease in Inventory - The decrease in inventory is not marked in net income as this value was already accounted in a previous financial year. But the cash arising out of this transaction was realized only in this financial year. Hence, it results in an increase in net cash.

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Also in 1991

Increase in accounts receivable - As a major part of the net income is realized as accounts receivable, the net income increases, but cash flow does not change.

Cash from operations is greater than that from net income. The major reason for the difference is that cash from operations applies cash basis while net income applies accrual basis. The difference is caused by non-cash items such as:

1989-1991

Depreciation and amortization - This reduces the net income, however it doesn’t affect the net cash.

1990-1991

Increase in restructuring reserve–these are accrued expenses to cover future cost of closing down a portion of a business. These are only projected cost and do not affect the net cash.

3. Was the firm able to generate enough cash from operations to pay for all of its capital expenditures?

1989 –1991 - Alpha Corporation was not able to generate enough cash from

operations to fund its capital expenditures.

Computation:

Particulars 1989 1990 1991

Net cash from operation 76.5 85.8 120.3

Investment in depreciable assets (303.6) (174.4) (129.7) Investment in capitalized software (59.5) (43.1) (27.8)

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1989 – 1990 - Beta Corporation was able to generate enough cash from

1991 - Beta Corporation was not able to generate enough cash from

Particulars 1989 1990 1991

Net cash from operations 3, 670 7,000 3,919

Less: capital expenditures (3,650) (4600) (6,031)

Total 20 2,400 (2,112)

1989 –1991 - The cash from operating income was sufficient to fund the capital

expenditure.

Particulars 1989 1990 1991

Net cash from operations 1,479,391 1,434,074 1,040,901 Less: capital expenditures (1,223,038) (1,027,625) (737,548)

Total 256,353 406,449 303,353

4. Did the cash flow from operations cover both the capital expenditures and the firm’s dividend payment, if any?

1989 – 1991 - Alpha Corporation was not able to generate enough cash from

operations to fund its capital expenditures and the firm’s dividend payment.

Particulars 1989 1990 1991

Net cash from operation 76.5 85.8 120.3

Investment in depreciable assets (303.6) (174.4) (129.7) Investment in capitalized software (59.5) (43.1) (27.8)

Dividends paid (26.0) (7.2) -

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1989 –1990 - Yes, the cash flow from operations covers both capital

expenditures and firm’s dividend payments.

1991 - No, the cash flow from operations was insufficient to cover capital

expenditures and firm’s dividend payments.

Particulars 1989 1990 1991

Net cash from operations 3, 670 7,000 3,919

Less: capital expenditures (3,650) (4600) (6,031) Dividend payments --- --- ---

Total 20 2,400 (2,112)

1989 - 1991 - The cash from operating income was sufficient to fund the capital

expenditure and dividend payments.

Particulars 1989 1990 1991

Net cash from operations 1,479,391 1,434,074 1,040,901 Less: capital expenditures (1,223,038) (1,027,625) (737,548) Dividend payments --- --- ---

Total 256,353 406,449 303,353

5. If it did, how did the firm invest its excess cash?

1989-1990 - The excess cash can be used for payments towards working

capital line and equipment line of credit and also for principal payments under capital lease obligations.

1989 – 1991 - The excess cash could be used for funding a portion of payments

of increase of other assets, payments to retire debt or purchase of treasury shares.

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6. If not, what were the sources of cash the firm used to pay for the capital expenditures and/or dividends?

1989 - Sources of cash the firm used to pay for capital expenditures and/or

dividends are proceeds from long-term debt and short term borrowings.

dividends are proceeds from discontinued operations, proceeds from long-term debt and that of sales of depreciable assets.

dividends are proceeds from disposal of depreciable and other assets.

1991 -The capital expenditures were funded bythe proceeds from the issuances

of common stock.

7. Were the working capital (current asset and current liability) accounts other than cash and cash equivalents primarily sources of cash, or users of cash?

1989 - Net working capital account is primarily use of cash.

1990-1991 - Net working capital account is primarily a source of cash.

1989 –1991 - The working capital accounts other than that of cash and cash equivalents are primarily users of cash.

1989-1990 - The working capital was primarily users of cash.

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8. What other major items affected cash flow?

1989-1991 - Other major items that affected cash flows would be purchase of

treasury stock, dividends payment, sale of common stock and investment in capitalized software

1989-1990 - The other items that affected cash flows would be proceeds

from issuance of common stock and exchange rate changes on cash.

1989-1990 -The other major items that affected cash flows would be proceeds

from issuance of debt and issuance of treasury shares.

II. TREND

1. Net income

Alpha Corporation - We can see that the net income is showing an increasing trend after the dip in the previous year (1990).

Beta Corporation - The net income is showing a consistent

increasing trend as the income increasing from 1989 to 1991 (from $417 to $6,323).

Gamma Corporation - We can see that the net income is continuously decreasing from 1989-1991(from $1,072,610 to $617,427)

2. Cash Flow from (continuing) operation

Alpha Corporation - The cash flow from operations is continuously increasing from 1989-1991(from $76.5 to $120.3).

Beta Corporation - The cash flow from operations is showing a decreasing trend after an increasing trend in the previous year(1990)

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Gamma Corporation - The cash flow from operations is continuously decreasing from 1989-1991.

3. Capital Expenditure

Alpha Corporation - The capital expenditure of the company is decreasing from 1989-1991(from $363.1 to $157.5).

Beta Corporation - The capital expenditure of the firm is increasing from 1989-1991 (from $3,650to $6,031).

Gamma Corporation - The capital expenditure of the company is decreasing from 1989-1991(from $1,223,038 to $737,548).

4. Dividend

Alpha Corporation - The dividend has been decreasing continuously for the previous three years.

Beta Corporation - As the company has not provided any

dividends till now, it is not possible to assess the trend for dividends.

Gamma Corporation - As the company has not provided any

dividends till now, it is not possible to assess the trend for dividends.

5. Net Borrowing

Alpha Corporation - The net borrowing of the company is increasing from a dip in the previous year.

Beta Corporation - The net borrowing of the company is decreasing.

Gamma Corporation - The net borrowing of the company is decreasing.

6. Working Capital Account

Alpha Corporation - The working capital of the company is showing an increasing trend.

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Beta Corporation - The working capital of the company is showing a consistent increasing trend.

Gamma Corporation - The working capital of the company is showing a decreasing trend.

III.

As we can see, although Alpha Corporation was incurring losses for the past years; losses are decreasing giving a good indication that the company can still restore the business. But the fact that the cash

generated from operating activities was not enough to cover its capital expenditures and that of dividend payments caused them to resort to borrowings gives us a picture that the company seems to be unhealthy and is in unstable condition.

Beta Corporation’s net income is increasing and they were able to

generate enough cash from operations to fund their capital expenditures. In fact, they were able to use the excess cash to settle their obligations. And in cases where they are short of cash like in the year 1991, the company’s capital expenditures were funded by the proceeds from issuance of stocks. In addition, their working capital also shows an increasing trend giving us a picture of a stable and healthy company.

As we can see from the statement of cash flows, the net income is decreasing every year. Also, the cash flow from operating activities and working capital of the company isdecreasing; this is a major cause of concern. The capital expenditure of the company is increasing which is mainly funded by borrowings. This means that the company is going

through a negative cycle as most of the indicators have a negative trend. Hence, the company needs to make a plan in future.