Statement of

Cash Flows

Chapter 13

Copyright 2007 by The McGraw-Hill Companies, Inc. All rights reserved.

13-2

Understanding the Business

Positive cash flows permit a company to . . .
Pay
dividends to
owners.
Take advantage
of market
opportunities.

Expand its
operations.
Replace needed
assets.

Wall
Wall Street
Street analysts
analysts consider
consider cash
cash flow
flow an
an
important
important indicator
indicator of
of aa companys
companys financial
financial
health.
health.

13-3

Learning Objectives
Classify
Classify cash
cash flow
flow statement
statement items
items as
as part
part of
of
net
net cash
cash flows
flows from
from operating,
operating, investing,
investing, and
and
financing
financing activities.
activities.

13-4

Classifications of the Statement of Cash

Flows
Cash
Equivalents

Cash
Cash

Short-term,
Short-term,highly
highlyliquid
liquidinvestments.
investments.

Readily convertible into cash.

Currency

Readily convertible into cash.

So
Sonear
nearmaturity
maturitythat
that market
marketvalue
value is
isunaffected
unaffected by
by
interest
interest rate
ratechanges
changes(i.e.,
(i.e.,less
lessthan
than33months
monthsto
to
maturity).
maturity).

13-5

Classifications of the Statement of Cash

Flows
Operating
Activities

Cash inflows and outflows

directly related to earnings
from normal operations.

Investing
Activities

Cash inflows and outflows related to

the acquisition or sale of productive
facilities and investments in the
securities of other companies.

Financing
Activities

Cash inflows and outflows related to

external sources of financing
(owners and creditors) for the
enterprise.

13-6

CASH INFLOWS
Operating Activities
Cash received
from revenues

Investing Activities
Sale of operational assets
Sale of investments
Collections of loans

Financing Activities
Issuance of stock
Issuance of bonds
and notes

Business
Cash paid for
expenses

Purchase of operational
assets
Purchase of investments
Loans to others

CASH OUTFLOWS

Payment of dividends
Repurchase of stock
Repayment of debt

13-7

Cash Flows from Operating Activities

Inflows
Inflows
Cash
Cash received
received from:
from:

Customers
Customers

Dividends and

Dividends andinterest
intereston
on
investments
investments

Outflows
Outflows
Cash
Cash paid
paid for:
for:

Purchase
Purchase of
of goods
goods for
forresale
resale

and
andservices
services(electricity,
(electricity,etc.)
etc.)

Salaries
Salariesand
andwages
wages

Income
Incometaxes
taxes

Interest
Intereston
onliabilities
liabilities

Cash
Cash
Flows
Flows
from
from
Operating
Operating
Activities
Activities

13-8

Direct Method vs. Indirect Method

Two Formats for Reporting Operating Activities
Direct Method

Indirect Method

Reports the cash

effects of each
operating activity

Starts with
accrual net
income and
converts to cash
basis

Note that no matter which format is used, the same amount of net
cash flows from operating activities is generated.

13-9

Cash Flows from Investing Activities

Inflows
Inflows
Cash
Cash received
received from:
from:

Sale
Saleor
ordisposal
disposalof
of property,
property,
plant
plantand
andequipment
equipment

Sale
Saleor
ormaturity
maturity of
of investments
investments
in
insecurities
securities

Outflows
Outflows
Cash
Cash paid
paid for:
for:

Purchase
Purchaseof
of property,
property,plant
plant and
and

equipment
equipment

Purchase
Purchaseof
of investments
investmentsin
in
securities
securities

Cash
Cash
Flows
Flows
from
from
Investing
Investing
Activities
Activities

13-10

Cash Flows from Financing Activities

Inflows
Inflows
Cash
Cash received
received from:
from:

Borrowings
Borrowingson
onnotes,
notes,
mortgages,
mortgages,bonds,
bonds,etc.
etc.from
from
creditors
creditors

Issuing
Issuingstock
stockto
toowners
owners

Outflows
Outflows
Cash
Cash paid
paid for:
for:

Repayment
Repaymentof
ofprincipal
principalto
to

creditors
creditors(excluding
(excluding interest,
interest,
which
whichisisan
anoperating
operatingactivity)
activity)

Repurchasing
Repurchasingstock
stock from
from
owners
owners

Dividends
Dividendsto
toowners
owners

Cash
Cash
Flows
Flows
from
from
Financing
Financing
Activities
Activities

Boston
Boston
Beer
Beer uses
uses
the
theindirect
indirect
method.
method.

13-11

The
Theindirect
indirect
method
method isis
used
usedby
by
98.3%
98.3% of
of
companies.
companies.
This
Thisending
endingcash
cash
balance
balanceshould
should
agree
agreewith
withthe
the
balance
balance sheet.
sheet.

13-12

Relationships to the Balance Sheet and the

Income Statement
Information
Information needed
needed to
to prepare
prepare aa
statement
statement of
of cash
cash flows:
flows:

Comparative
Comparative Balance
Balance Sheets.
Sheets.

Income
Income Statement.
Statement.

Additional
Additional details
details concerning
concerning selected
selected
accounts.
accounts.

13-13

Relationships to the Balance Sheet and the

Income Statement

Cash
Cash == Liabilities
Liabilities Stockholders
Stockholders
Equity
Equity Noncash
Noncash Assets
Assets
Derives from . . .

Assets
Assets == Liabilities
Liabilities Stockholders
Stockholders Equity
Equity

13-14

Relationships to the Balance Sheet and the

Income Statement
Selected Cash Transactions and Their Effect on Other Balance Sheet Accounts
Category
Transactions
Cash Effect Other Account Affected
Operating Collect accounts receivable
+Cash
-Accounts Receivable (A)
Pay accounts payable
-Cash
-Accounts Payable (L)
Prepay rent
-Cash
+Prepaid Rent (A)
Pay interest
-Cash
-Retained Earnings (SE)
Sale for cash
+Cash
+Retained Earnings (SE)
Investing Purchase equipment for cash
-Cash
+Equipment (A)
Sell investment securities for cash
+Cash
-Investments (A)
Financing Pay back debt to bank
-Cash
-Notes Payable-Bank (L)
+Common Stock and
Paid-in-Capital (SE)
Issue stock for cash
+Cash

13-15

Learning Objectives

Report
Report and
and interpret
interpret cash
cash flows
flows from
from operating
operating
activities
activities using
using the
the indirect
indirect method.
method.

13-16

Reporting Cash Flows from Operating

ActivitiesIndirect Method
The
Theindirect
indirectmethod
methodadjusts
adjustsnet
netincome
income by
byeliminating
eliminating
noncash
noncashitems.
items.
+/+/-Changes
Changesin
incurrent
current
assets
assetsand
andcurrent
current
liabilities.
liabilities.

Net
Net
Income
Income
++Losses
Lossesand
and
--Gains
Gains

++Noncash
Noncash
expenses
expensessuch
suchas
as
depreciation
depreciationand
and
amortization.
amortization.

Cash
Cash Flows
Flows
from
from Operating
Operating
Activities
Activities -Indirect
Indirect Method
Method

13-17

Reporting Cash Flows from Operating

ActivitiesIndirect Method

Use this table when adjusting Net Income

to Operating Cash Flows using the
indirect method.

13-18

Reporting Cash Flows from Operating

ActivitiesIndirect Method
Use
Use the
the following
following
financial
financial statements
statements for
for
The
The Boston
Boston Beer
Beer
Company
Company and
and prepare
prepare
the
the Statement
Statement of
of Cash
Cash
Flows
Flows for
for the
the quarter
quarter
ended
ended on
on March
March 27,
27,
2004.
2004.

THE BOSTON BEER COMPANY, INC.

CONSOLIDATED BALANCE SHEET
(Unaudited)
In Thousands

ASSETS
Current assets:
Cash & cash equivalents
Short-term investments
Accounts Receivable
Inventories
Prepaid expenses
Total current assets
Equipment, net
Total assets
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable
Accrued expenses
Total current liabilities
Stockholders' Equity:
Contributed capital
Retained earnings
Total stockholders' equity
Total liabs & stockholders' equity

March 27,
2004

13-19

Dec. 27,
2003

Changes

$ 24,746 $ 27,792
19,725
15,098
9,571
10,432
10,467
9,890
1,448
1,126
65,957
64,338
16,889
17,059
$ 82,846 $ 81,397

(3,046)
4,627
(861)
577
322

$ 6,343 $ 6,395
14,550
15,504
20,893
21,899

(52)
(954)

24,107
37,846
61,953
$ 82,846 $

1,184
1,271

22,923
36,575
59,498
81,397

(170)

13-20

The
TheStatement
Statementof
ofCash
CashFlows
Flowswill
willbegin
begin
with
withBoston
BostonBeers
BeersNet
Netincome
incomefrom
fromthe
the
Income
IncomeStatement.
Statement.

13-21

Step
Step 11
Adjust
Adjust net
net income
income for
for
depreciation
depreciation and
and amortization
amortization
expense.
expense.

13-22

Step
Step 22
Adjust
Adjust net
net income
income for
for changes
changes
in
in current
current assets
assets and
and current
current
liabilities.
liabilities.
(Remember, we showed the comparative balance
sheets a few slides earlier.)

13-23

13-24

Learning Objectives

Report
Report and
and interpret
interpret cash
cash flows
flows from
from operating
operating
activities
activities using
using the
the direct
direct method.
method.

13-25

Reporting Cash Flows from Operating

ActivitiesDirect Method
Sales revenue
+ Decrease in accounts receivable
- Increase in accounts receivable
= Cash collected from customers
Interest/Dividend revenue
+ Decrease in interest/dividends
receivable
- Increase in interest/dividends
receivable
= Collections of interest/dividends
on investments
+
+
=

Cost of goods sold

Increase in inventory
Decrease in inventory
Increase in accounts payable
Decrease in accounts payable
Cash payments to suppliers

+
+
=

Other expenses
Increase in prepaid expenses
Decrease in prepaid expenses
Increase in accrued expenses
Decrease in accrued expenses
Cash paid for expenses

+
+
=

Income tax expense

Increase in prepaid income taxes
Decrease in prepaid income taxes
Increase in income taxes payable
Decrease in income taxes payable
Payments of income taxes

13-26

Reporting Cash Flows from Operating

ActivitiesDirect Method
$ 44,655
861
n/a
$ 45,516

Sales revenue
Decrease in accounts receivable
Increase in accounts receivable
Cash collected from customers

$ 192 Interest/Dividend revenue

n/a Decrease in interest/dividends
receivable
n/a Increase in interest/dividends
receivable
$ 192 Collections of interest/dividends
on investments
$ 18,073
577
n/a
n/a
52
$ 18,702

Cost of goods sold

Increase in inventory
Decrease in inventory
Increase in accounts payable
Decrease in accounts payable
Cash payments to suppliers

$ 22,188
322
n/a
n/a
954
$ 23,464
$ 772
n/a
n/a
n/a
n/a
$ 772

Other expenses
Increase in prepaid expenses
Decrease in prepaid expenses
Increase in accrued expenses
Decrease in accrued expenses
Cash paid for expenses

Income tax expense

Increase in prepaid income taxes
Decrease in prepaid income taxes
Increase in income taxes payable
Decrease in income taxes payable
Payments of income taxes

13-27

Remember that when we prepared the

operating section using the indirect method,
we also arrived at net cash inflow of $2,770.

13-28

Interpreting Cash Flows from Operating

Activities
Accounts
Receivable
Changes

Managers sometimes attempt to

boost declining sales by extending
credit terms or by lowering credit
standards. The resulting increase in
accounts receivable can cause net
income to outpace cash flows from
operations.

Inventory
Changes

Inventory growth can be a sign that

planned sales growth did not
materialize. A decline in inventory
can be a sign that the company is
anticipating lower sales in the next
quarter.

13-29

Learning Objectives

Analyze
Analyze and
and interpret
interpret the
the quality
quality of
of income
income
ratio.
ratio.

13-30

Quality of Income Ratio

Quality of = Cash Flow from Operating Activities
Income Ratio
Net Income
In general, this ratio measures the portion of
income that was generated in cash. All
other things equal, a higher quality of
income ratio indicates greater ability to
finance operating and other cash needs from
operating cash inflows.

13-31

Learning Objectives

Report
Report and
and interpret
interpret cash
cash flows
flows from
from investing
investing
activities.
activities.

THE BOSTON BEER COMPANY, INC.

CONSOLIDATED BALANCE SHEET
(Unaudited)
In Thousands

ASSETS
Current assets:
Cash & cash equivalents
Short-term investments
Accounts Receivable
Inventories
Prepaid expenses
Total current assets
Equipment, net
Total assets
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable
Accrued expenses
Total current liabilities
Stockholders' Equity:
Contributed capital
Retained earnings
Total stockholders' equity
Total liabs & stockholders' equity

March 27,
2004

13-32

Dec. 27,
2003

$ 24,746 $ 27,792
19,725
15,098
9,571
10,432
10,467
9,890
1,448
1,126
65,957
64,338
16,889
17,059
$ 82,846 $ 81,397

$ 6,343 $ 6,395
14,550
15,504
20,893
21,899
24,107
37,846
61,953
$ 82,846 $

22,923
36,575
59,498
81,397

Changes

(3,046)
4,627
(861)
577
322
(170)

Here is
the
balance
sheet
we
looked
at
earlier.

Lets focus
on the
(52)
(954)
investing
accounts.
1,184
1,271

13-33

The
Thebalance
balancesheet
sheet
indicates
indicatesthat
that
Equipment
Equipment
decreased
decreasedby
by$170
$170
during
duringthe
thequarter.
quarter.
IfIfyou
youhad
hadaccess
accessto
to
additional
additionalcompany
company
information,
information,you
you
would
woulddiscover
discoverthat
that
the
thecompany
company
purchased
purchased$2,373
$2,373of
of
new
newequipment.
equipment.
This
Thisis
isoffset
offsetby
by
$2,543
$2,543in
in
depreciation
depreciation
expense
expense(see
(seethe
the
Cash
CashFlows
Flowsfrom
from
Operating
Operating
Activities).
Activities).

13-34

Short-term
Short-term
investments
investments
increased
increased by
by
$4,627
$4,627during
during
the
thequarter.
quarter.
Although
Although
short-term
short-term
investments
investments is
is
aacurrent
currentasset,
asset,
itit is
isreported
reported in
in
the
theinvesting
investing
section
sectionon
onthe
the
statement
statementof
of
cash
cashflows.
flows.

13-35

Learning Objectives

Analyze
Analyze and
and interpret
interpret the
the capital
capital acquisition
acquisition
ratio.
ratio.

13-36

Capital Acquisition Ratio

Capital
Acquisition
Ratio

= Cash Flow from Operating Activities

Cash Paid for Property, Plant,
and Equipment

In general, this ratio reflects the portion

of purchases of property, plant and
equipment financed from operating
activities. A high ratio indicates less
need for outside financing for current
and future expansions.

13-37

Free Cash Flow

Cash Flow from Operating Activities Dividends
Capital Expenditures
In general, this measures a firms ability
to pursue long-term investment
opportunities.

13-38

Learning Objectives

Report
Report and
and interpret
interpret cash
cash flows
flows from
from financing
financing
activities.
activities.

THE BOSTON BEER COMPANY, INC.

CONSOLIDATED BALANCE SHEET
(Unaudited)
In Thousands

ASSETS
Current assets:
Cash & cash equivalents
Short-term investments
Accounts Receivable
Inventories
Prepaid expenses
Total current assets
Equipment, net
Total assets
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable
Accrued expenses
Total current liabilities
Stockholders' Equity:
Contributed capital
Retained earnings
Total stockholders' equity
Total liabs & stockholders' equity

March 27,
2004

13-39

Dec. 27,
2003

$ 24,746 $ 27,792
19,725
15,098
9,571
10,432
10,467
9,890
1,448
1,126
65,957
64,338
16,889
17,059
$ 82,846 $ 81,397

$ 6,343 $ 6,395
14,550
15,504
20,893
21,899
24,107
37,846
61,953
$ 82,846 $

22,923
36,575
59,498
81,397

Changes

(3,046)
4,627
(861)
577
322
(170)

Here is
the
balance
sheet
we
looked
at
earlier.

Lets focus
on the
(52)
(954) financing
account.
1,184
1,271

13-40

The
Thenet
netincrease
increasein
in
Contributed
ContributedCapital
Capital
of
of$1,184
$1,184was
was
caused
causedby
bytwo
two
transactions.
transactions.
First,
First,Boston
BostonBeer
Beer
repurchased
repurchased$4,409
$4,409
of
ofoutstanding
outstanding
stock,
stock,which
whichis
isaa
cash
cashoutflow.
outflow.
Second,
Second,the
the
company
companyissued
issued
common
commonstock
stockto
to
employees
employeesfor
for
$5,593,
$5,593,which
whichis
isaa
cash
cashinflow.
inflow.

13-41

Interpreting Cash Flows from Financing

Activities
The long-term growth of a company is
normally financed from three sources:
internally generated funds, the issuance
of stock, and money borrowed on a longterm basis.
The statement of cash flows shows how
management has elected to fund its growth.
This information is used by analysts who wish to
evaluate the capital structure and growth
potential of a business.

13-42

Learning Objectives

Explain
Explain the
the impact
impact of
of additional
additional cash
cash flow
flow
disclosures.
disclosures.

13-43

Additional Cash Flow Disclosures

Required
Required Supplemental
Supplemental Information
Information
1.
1. Reconciliation
Reconciliation of
of net
net income
income to
to cash
cash flow
flow
from
from operations.
operations.
2.
2. Cash
Cash paid
paid for
for income
income taxes
taxes and
and interest.
interest.
3.
3. Significant
Significant noncash
noncash investing
investing and
and
financing
financing activities.
activities.
Significant noncash investing and financing
transactions do not involve cash.
Example: Purchase of a building with a mortgage.

13-44

Chapter Supplement A

Adjustment for Gains and Losses:

Indirect Method

13-45

Adjustment for Gains and Losses

Transactions that cause gains and losses should be
classified on the cash flow statement as operating,
investing, or financing activities, depending on their
dominate characteristics. For example, if the sale of
equipment produced a gain, it would be classified as an
investing activity.

Gains

Gains must be subtracted from net

income to avoid double counting the
gain.

Losses

Losses must be added to net income

to avoid double counting the loss.

13-46

Chapter Supplement B

Spreadsheet ApproachStatement of
Cash Flows: Indirect Method

13-47

Spreadsheet Approach
The spreadsheet approach offers a
systematic way to keep track of data. A
spreadsheet is organized as follows:
1. Four columns to record dollar amounts are
established (beginning balance, debit changes,
credit changes, and ending balance).
2. On the far left of the top half of the spreadsheet,
each account name from the balance sheet is
entered.
3. On the far left of the top half of the spreadsheet,
the name of each item that will be reported on
the statement of cash flows is entered.

BOSTON BEER COMPANY

13-48

Changes
Dec. 31,
2003

Debits

Balance Sheet
Assets:
Cash and equivalents
Short-term investments
Accounts receivable
Inventories
Prepaid expenses
Equipment, net

27,792
15,098 (k)
10,432
9,890 (e)
1,126 (f)
17,059 (i)

Accounts payable
Accrued expenses
Contributed capital
Retained earnings

6,395 (g)
15,504 (h)
22,923 (l)
36,575

Statement of Cash Flows

Cash flows from operating activities:
Net income
Adj. to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization
Changes in assets and liabilities:
Accounts receivable
Inventory
Prepaid expense
Accounts payable
Accrued expenses
Net cash provided by operating activities
Cash flows for investing activities:
Purchases of property, plant and equipment
Purchase of short-term investments
Net cash provided by investing activities
Cash flows from financing activities:
Purchase of treasury stock
Proceeds from issuance of stock
Net cash used in financing activities
Net decrease in cash & cash equivalents
Totals

Credits

(n)

3,046

(d)
577
322
2,373 (b)

861

2,543

24,746
19,725
9,571
10,467
1,448
16,889

5,593
1,271

6,343
14,550
24,107
37,846

4,627

52
954
4,409 (m)
(a)
Inflows

(a)

1,271

(b)

2,543

(d)

861

Outflows

(e)
(f)
(g)
(h)

Mar. 27,
2004

Subtotals

577
322
52
954
2,770

(i)
(k)

2,373
4,627
(7,000)

(l)
(m)

5,593

(n)

3,046

4,409
1,184

26,628

26,628

(3,046)

After entering all

the transactions
illustrated in the
textbook, this is
what the
spreadsheet
looks like.

13-49

End of Chapter 13