Cash Flow Statement

Explanations of Numbers Suggestions and Tips

Your company's cash flow statement summarizes the company's cash inflows and outflows during each year of
operations. The notes to the cash flow statement indicate various aspects of the company's accounting system.
This Help page contains explanations of what the cash flow statement numbers mean and how they are calculated.
There's a Tips and Suggestion section to guide you in using the Cash Flow Statement information wisely. A section
describing two other blocks of data presented just below the Cash Flow Statement winds up the contents of this Help
page.

Understanding the Numbers in the Cash Flow Statement

A brief discussion and explanation of each of the cash flow statement entries is presented below. The first grouping is
for the company's annual cash inflows and the second grouping explains the annual cash outflows.
Components of Cash Available and Cash Inflows
Beginning Cash Balance this amount is always equal to the prior-year ending balance in your company's checking
account at the International Bank of Commerce (and the amount always corresponds to the "Cash on Hand" entry
shown on your company's balance sheet for the prior year). The ending cash balance in the prior year plainly translates
into the beginning cash balance for the upcoming year.
Cash Inflows In addition to the beginning cash balance, your company has cash inflows coming from some or all of
6 sources:

Receipts from Sales This is usually your company's biggest cash inflow component in the report year. Receipts
from footwear sales consist of (1) 25 percent of the sales revenues in the previous year (which were not received
from branded and private-label customers until the report year) and (2) 75% of the branded revenues that your
company reported this year. Cash inflows from footwear sales do not correspond to calendar year revenues
because the company does not immediately receive payment for all of the branded and private-label pairs sold in a
given year. As indicated in Note 1 to the Cash Flow Statement, there is an average 90-day delay in receiving the
cash for pairs that have been booked as sold. Revenues are booked when the pairs are shipped from the
distribution warehouses, but, on average, the cash received from these sales does not become available for
company use until 90 days later.

Bank Loans All of the money your company borrowed in the report year via 1-year, 5-year, and 10-year loans
constitutes a cash inflow because the monies are available for funding cash outlays in the year the loans are taken
out.

Stock Issues If you and your co-managers elected to raise additional equity capital by issuing additional shares
of common stock in the report year, then the full amount of the proceeds are available for use in the year the stock
is issued.

Sale of Existing Plant Capacity In the event you and your co-managers opted to sell some of your footwearmaking equipment at certain plants to the merchants of used equipment (such entries would have been made on
the Capacity Sales/Upgrades/Additions screen during the course of making the decisions for the year), then your
company will have cash inflows equal to the amount received from the sale. The cash from such sales in received
immediately and thus is available for funding other aspects of the company's operations during the report year.

Loan to Cover Overdrafts Any time your company overdraws its checking account, the International Bank of
Commerce issue the company an overdraft loan to bring your company's checking account balance up to zero.
Such loans carry a 2% interest rate over and above the normal one-year loan rate. All overdraft loans are for a
period of 1-year and must be repaid in full in the upcoming year. The amount of the overdraft loan is available for
financing company operations during the report year.

Interest Income on Prior-Year Cash Balances Your company earns interest on any positive cash balance in
the company's checking account at the beginning of each year; the interest rate paid on cash balances is always 3
percentage points below the prevailing interest rate for short-term loans carrying an A+ credit rating. All interest
earned on the company's prior-year's beginning cash balance is paid in the report year and thus was available for
the company's use.

Components of Cash Outlays

Explanations of each of the items listed in the Projected Cash Outlays section of the screen are presented below:

Payments to Material Suppliers As indicated in Note 2 to the Cash Flow Statement, the cash outlays for
materials number is based on paying for (1) 25% of the materials used in making branded and private-label
footwear in the prior year and (2) 75% of the materials utilized in making branded and private-label footwear in the
report year. Payments for materials delivered from suppliers are not due and payable for 90 days following receipt
of those materials. So a company's actual cash outlays for materials in any one year always represent 25% of the
costs for standard and superior material used in the prior-year and 75% of the materials costs in the current year.

Production Expenses Cash outlays for non-material production expenses cover worker compensation,
production run set-up costs, expenditures for styling features, expenditures for TQM/Six Sigma and best practices
training, waste due to rejects, and so on. Depreciation costs are not included because the charge for depreciation
is not a cash outlay. Material costs are not included in the production expense category because they are shown as
a separate cash outlay item.

Distribution and Warehouse Expenses This number represents freight costs incurred in shipping footwear
from the plants to the four regional distribution centers, any and all tariffs that were paid, shipping and handling
costs for online orders ($10 per pair), shipping costs for branded and private-label footwear delivered to retailers,
and warehouse leasing and maintenance costs.

Marketing and Administration Expenses Cash outlays for this item during the report year included advertising
costs, rebate costs, expenditures for retailer support, on-time delivery expenses (for 1, 2, 3, or 4 week delivery),
celebrity endorsement costs, the costs of Web site operations, general administrative expenses, and other
corporate overhead.

Capital Outlays This item includes all costs for the purchase of used equipment, expenditures for plant
upgrades, the construction of new plants and plant additions, and expenditures for Energy Efficiency Initiatives.

Principal Repayments on Loans All principal payments for 1-year, 5-year, 10-years, and overdraft loans
(overdraft loans are treated as a 1-year loan) must be made as scheduled. The scheduled principal payments on
each of your company's outstanding loans appear in Note 6 on the Balance Sheet Statement.

Interest Payments Cash outlays for interest include the interest paid in the report year for 1-year, 5-year, 10year, and overdraft loans.

Stock Repurchase Any entry here reflects how much cash the company used to buy back shares indicated of
common stock during the report year.

Income Tax Payments The company's tax rate is 30% of pre-tax income pretax income is defined as
companywide operating profit less interest expenses. However, in the event your company loses money in a given
year, then the loss is carried forward for as many as two years in determining taxes owed. Thus, the taxes paid in
any one year will turn out to be less than 30% of current-year pre-tax profits in the event your company lost money
in either or both of the previous two years.

Dividend Payments to Shareholders This outlay is always equal to the dividend declared per share multiplied
by the number of shares outstanding (after the repurchase of any shares). For instance, if your company had 10
million shares of common stock outstanding and paid an annual dividend of $1.00 per share, then the cash outlay
for dividend payments would be $10 million.

Charitable Contributions This number represents the total cash outlays for Charitable Contributions.

Other Information on the Balance Sheet and Cash Flow Report Page
Underneath the Cash Flow Statement are two blocks of data reporting the company's financial performance during the
report year. The first shows the performance on the three credit rating measures; the second shows assorted financial
statistics.
Performance on Credit Rating Measures. Analysts at independent credit rating agencies review the company's
financial statements annually and assign the company a credit rating ranging from A+ to C-. A company's credit rating is
a function of three factors:
1.

The debt-to-assets ratio (defined as all loans outstanding divided by total assets both numbers are shown on the
company's balance sheet). A debt-to-assets ratio of .20 to .35 is considered "good". As a rule of thumb, it will take a
debt-to-assets ratio close to 0.10 to achieve an A+ credit rating and a debt-asset ratio of about 0.25 to achieve an

A- credit rating (unless the interest coverage ratios are in the 5 to 10 range and the default risk ratio is above 3.00).
Debt-to-asset ratios above 0.50 (or 50%) are generally alarming to creditors and signal "too much" use of debt and
creditor financing to operate the business, although such a debt level could still produce a B+ or A- credit rating if a
company can maintain very strong interest coverage ratios (say 8.0 or higher) and default risk ratios above 3.00.
2.

The interest coverage ratio (defined as annual operating profit divided by annual interest payments). Your
company's interest coverage ratio is used by credit analysts to measure the "safety margin" that creditors have in
assuring that company profits from operations are sufficiently high to cover annual interest payments. An interest
coverage ratio of 2.0 is considered "rock-bottom minimum" by credit analysts. A coverage ratio of 5.0 to 10.0 is
considered much more satisfactory for companies in the footwear industry because of earnings volatility over each
year, intense competitive pressures which can produce sudden downturns in a company's profitability, and the
relatively unproven management expertise at each company. It usually takes a double-digit times-interest-earned
ratio to secure an A- or higher credit rating, since this credit measure is strongly weighted in the credit rating
determination.

3.

The default risk ratio (defined as free cash flow divided by the combined annual principal payments on all
outstanding loans; free cash flow is defined as net profit plus depreciation minus dividend payments). This credit
measure also carries a high weighting in the credit rating determination. A company with a default risk ratio below
1.0 is automatically assigned "high risk" status (because it is short of cash to meet its principal payments) and
cannot be given a credit rating higher than C+. Companies with a default risk ratio between 1.0 and 3.0 are
designated as "medium risk", and companies with a default ratio of 3.0 and higher are classified as "low risk"
because their free cash flows are 3 or more times the size of their annual principal payments).

The interest coverage ratio and the default risk ratio are the two most important measures in determining a
company's credit rating. Thus, as long as a company is financially strong in its ability to service its debt as
measured by the interest coverage ratio and the default risk ratio, then the company can maintain a higher
debt-to-assets ratio without greatly impairing its credit rating.
Selected Financial Statistics. This section provides you with a solid indication of the strength of the company's
financial performance and financial condition, somewhat apart from its performance on the three credit rating measures.
A brief description of each of the statistics provided in this section follows:

The current ratio (defined as current assets divided by current liabilities) measures the company's ability to pay its
current liabilities as they become due. At the least, the current ratio should be a bit greater than 1.0; a current ratio
in the 1.5 to 2.5 range provides a much healthier cushion for meeting current liabilities.

Operating profit margin is defined as operating profit as a percentage of revenue. A higher operating profit margin
is a sign of competitive strength and cost competitiveness. The bigger the percentage of operating profit to net
revenues, the bigger the company's margin for covering interest payments and taxes and moving dollars to the
bottom-line.

Net profit margin is defined as net profit divided by annual footwear revenues. The bigger a company's net profit
margin, the better the company's profitability in the sense that a bigger percentage of the dollars it collects from
footwear sales flow to the bottom-line. The net profit margin is sometimes called "return on sales" because it
represents the percentage of revenues that end up on the bottom line.

Dividend payout is the percentage of net profits paid out as dividends (or as dividends per share divided by
earnings per share). Generally speaking, a company's dividend payout ratio should be less than 75% of net profits
or EPS, unless the company has paid off most of its loans outstanding and has a comfortable amount of cash on
hand to fund growth and contingencies. If your company's dividend payout exceeds 100% for a year or two, then
you should consider a dividend cut until earnings improve. Dividends in excess of EPS are unsustainable and thus
are viewed with considerable skepticism by investors as a consequence, dividend payouts in excess of 100%
have a negative impact on the company's stock price.

Free cash flow is defined as net profit + depreciation - dividend payments. It is a measure of a company's liquidity
and is a component in calculating the company's default risk ratio. The bigger the free cash flow number the better.
Ideally, free cash flow will be 2-3 or more times higher than total principal payments on loans outstanding. The
bigger the company's free cash flow, the larger the debt that your company can have without weakening the
company's credit rating (assuming that your company also maintains a strong interest coverage ratio say, 5 to
10 times annual interest payments).

Total principal payments equals what amount of the loans previously taken out at the International Bank of
Commerce were repaid in the report year. Bear in mind that total principal payments of loans of a given size will be
smaller the longer the term of the loan. For example, a $10 million loan of 5-years duration entails annual principal
payments of $2 million whereas a 10-year loan of the same size would entail annual principal payments of $1
million.

The default risk ratio in a given year is defined as free cash flow for the year divided by total principal repayments
on loans during the report year. As indicated above, a company with a default risk ratio below 1.0 is short of cash to
meet its principal payments and cannot be given a credit rating higher than C+. If your company has a default risk
ratio between 1.0 and 3.0, it is designated as "medium risk" and had a free cash flow in the report year between 1
and 3 times annual principal payments in the report year. Ideally, your company should have a default risk ratio
above 3.0, which indicates your company's free cash flow in the report year was 3 or more times the size of your
company's annual principal payments in the report year.

Tips and Suggestions

Use the Cash Flow Statement to monitor whether the company had a positive or negative cash flow during the year. A
string of years with negative cash flows signals deterioration in the company's financial condition. A string of years with
strongly positive cash flows, especially when no new stock issues and minimal new loans are involved, is a sign of
financial health and is usually associated with good overall company profitability.
The statistics in the two boxes underneath the Cash Flow Statement are always worth a look. A quick glance will tell
you whether the company's financial pulse is fine or whether there are things that need immediate attention.