FINANCIAL ACCOUNTING A USER PERSPECTIVE

1
FINANCIAL ACCOUNTINGA USER PERSPECTIVE

• Hoskin Fizzell Davidson
• Second Canadian Edition

2
Cash Flow Statement

• Chapter Five

3
Ajax Widget Company

• Product Line
• Ajax Widget company sells widgets
• Supplier Credit
• Widgets cost Ajax 4 each.
• All inventory must be paid in cash when it is
  ordered.

4
Ajax Widget Company

• Sales/Customer Credit
• Ajax sells the widgets for 5 each
• Ajax allows customers up to 30 days to pay
• Assume customers pay 30 days after a sale

5
Ajax Widget Company

• Inventory Policy
• Ajax must maintain sufficient inventory for
  customer purchases
• Ajax inventory at the end of a period is equal
  to 50 of the current months sales

6
Ajax Widget Company
7
Ajax Widget Company
8
Ajax Widget Company

• Net income is growing
• Increased level of sales is shown in
• Accounts receivable
• Inventory

9
Ajax Widget Company
10
Ajax Widget Company
Cash-to-Cash Cycle
Inventory Purchase (cash outflow)
Sale of Widget
Cash
Collection (cash inflow)
11
Cash-to-Cash Cycle

• Lead/lag relationship between
• cash paid out to buy inventory, and
• cash coming in from collections of accounts
  receivable

12
Income Statement

• Income Statement
• measures performance at a point in the cycle
• ignores timing differences between revenues and
  expenses and the related cash flows
• not useful in tracking cash flows

13
Income and Cash Flow Statements

• Income Statement
• summarizes the profitability of the companys
  operations
• Cash Flow Statement
• summarizes the cash flows

14
Ajax Widget Company
15
Ajax Widget Company

• Cash flow has been negative for the first three
  months
• March 31 cash balance 900.
• Will the company run out of cash?
• What will it do to continue doing business?

16
Ajax Widget Company
Net Income, Cash Flow, and Cash Balance Forecast
17
Ajax Widget Company

• Net cash flow will be negative for the next three
  months
• The trend is improving
• What will happen in July?
• Should the company take out a loan, or establish
  a line of credit, with the bank?

18
Cash Flow Solutions

• Capitalization
• the amount of cash the company starts with
• Start-up companies tend to be under-capitalized
• How should start-up companies manage their cash
  flows?

19
Cash Flow Solutions

• Growth
• Slow down the rate of growth of sales
• May be detrimental in the long run
• May divert customers to competitors

20
Cash Flow Solutions

• Capitalization
• Start with a larger amount of cash
• Issue additional shares
• borrow the cash (debt)

21
Cash Flow Solutions

• Lead/Lag Relationships
• change the relationships between cash inflows and
  outflows
• change the policies regarding accounts
  receivable, accounts payable, or inventory

22
Cash Flow Statement

• Cash and Cash Equivalents
• short-term, highly liquid investments that are
  readily convertible into known amounts of cash

23
Cash Flow Statement

• Financing Activities
• Investing Activities
• Operating Activities

24
Cash Flow Statement

• Financing activities
• obtaining and repaying resources from
  shareholders and lenders
• Examples shares, bonds, mortgages, notes,
  dividends

25
Cash Flow Statement

• Investing Activities
• investment, sale or disposal of long-term assets
• Examples property, plant, equipment, long-term
  marketable securities

26
Cash Flow Statement

• Operating Activities
• sale of goods and services to customers
• changes to current assets and current liabilities

27
Cash Flow Statement

• Approaches
• Direct approach
• theoretically informative
• rarely used
• Indirect approach
• normally used in published statements

28
Cash Flow Statement

• Direct and Indirect Approaches
• differ only in format and content of the
  Operating Activities section
• Investing Activities and Financing Activities
  sections are the same

29
Cash Flow Statement

• Indirect approach
• shows only net cash flows from operating
  activities
• then shows adjustments to net income to arrive at
  net cash flows from operations

30
Cash Flow Statement

• Indirect approach
• Adjustments
• Items from the income statement that do not
  involve cash flows
• Amortization, deferred income taxes, loss on sale
  of capital assets
• Net changes in noncash working capital
• current assets and current liabilities

31
Cash Flow Statement
Change in the Current Account
Decrease
Increase
Current Asset
Subtract
Add
Current Liability
Subtract
Add
32
Preparation of the Cash Flow Statement (Indirect
Approach)

• Using T-Accounts
• need balance sheet, income statement, and
  additional information
• objective is to reconstruct all transactions
  affecting cash

33
Preparation of the Cash Flow Statement (Indirect
Approach)
Inflows
Outflows
34
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (1) Net income 12,480
35
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (2) Decrease in A/R 10,000
36
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (3) Increase in Inventory
10,000
37
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (4) Increase in
Prepaid Rent 100
38
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (5) Increase in A/P
5,000
39
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (6) Increase in
Acc.Sal. 100
40
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (7) Amortization
20,000
41
Preparation of the Cash Flow Statement (Indirect
Approach)
Operating (8) Gain on sale of equip. 300
Financing (8) Sale of equipment 500
42
Preparation of the Cash Flow Statement (Indirect
Approach)
Investing(9) Purchase of PPE 60,000
43
Preparation of the Cash Flow Statement (Indirect
Approach)
Financing(10) Proceeds from note 100
44
Preparation of the Cash Flow Statement (Indirect
Approach)
Financing(11) Proceeds from bond 8,000
45
Preparation of the Cash Flow Statement (Indirect
Approach)
Financing(12) Repayment of bond 2,000
46
Preparation of the Cash Flow Statement (Indirect
Approach)
Financing(13) Issue of shares 4,000
47
Preparation of the Cash Flow Statement (Indirect
Approach)
Financing (14) Pmt. of dividends 1,230
Declaration of dividends 1,400
48
Preparation of the Cash Flow Statement (Indirect
Approach)
49
Huskies Industries Ltd.Cash Flow StatementFor
the Year Ended December 31, 2001

• Operating activities
• Net income 12,480
• Add back items not representing cash flows
• Amortization 20,000
• Gain on disposal (300)
• (Continued)

50
Huskies Industries Ltd.Cash Flow StatementFor
the Year Ended December 31, 2001

• Operating activities
• Adjustments for working capital items
• Decrease in Accounts Receivable 10,000
• Increase in Inventory (10,000)
• Increase in Prepaid Rent (100)
• Increase in Accounts Payable 5,000
• Increase in Salaries Payable 100
• Cash from operating activities 37,180

51
Huskies Industries Ltd.Cash Flow StatementFor
the Year Ended December 31, 2001

• Financing activities
• Issue of Notes Payable 100
• Issue of Common Shares 4,000
• Issue of Bonds Payable 8,000
• Payment of Bonds Payable (2,000)
• Payment of Dividends (1,230)
• Cash from operating activities 8,870

52
Huskies Industries Ltd.Cash Flow StatementFor
the Year Ended December 31, 2001

• Investing activities
• Purchase of Property, Plant and
• Equipment (60,000)
• Sale of Property, Plant and
• Equipment 500
• Cash used for operating activities (59,500)

53
Huskies Industries Ltd.Cash Flow StatementFor
the Year Ended December 31, 2001

• Decrease in Cash (13,450)
• Cash - beginning of the year 19,500
• Cash - end of the year 6,050