Chapter 5: Cash Flow

Question 1

What do companies need to survive?

Answer 1

Cash in a bank account or access to a credit line

Question 2

What happens if a company doesn’t have access to funds?

Answer 2

Suppliers stop shipping, workers stop working, creditors may put the company into receivership

Question 3

What are the logical questions to understand any business?

Answer 3

• How much funds did we get? * Where did we get them from? * What did we use them for?

Question 4

What does cash breakeven measure?

Answer 4

Cash flow from operations = Operating income + Depreciation

Question 5

What do changes in a balance sheet indicate?

Answer 5

Where funds came from and where they go

Question 6

What must sources of funds equal?

Answer 6

Uses of funds over the same time period

Question 7

What does an increase in an asset account represent?

Answer 7

A use of funds

Question 8

What does a decrease in an asset account represent?

Answer 8

A source of funds

Question 9

What does an increase in a liability indicate?

Answer 9

A source of funds

Question 10

What does a decrease in a liability indicate?

Answer 10

A use of funds

Question 11

What is considered a source of funds from a cash flow perspective?

Answer 11

• An increase in equity or retained earnings * Depreciation

Question 12

What does a statement of cash flow (SCF) document?

Answer 12

Changes in a company’s cash position over an accounting period

Question 13

What are the three preset categories in cash flow statements?

Answer 13

• Operating activities * Financing activities * Investing activities

Question 14

What is the balancing entry in a cash flow statement?

Answer 14

Cash

Question 15

What is working capital deficiency?

Answer 15

A major cause of business failure and an ‘above the line’ problem

Question 16

What are potential actions for a company facing working capital deficiency?

Answer 16

• Reducing receivables * Reducing inventory * Stretching payables * Borrowing more long-term debt * Raising more equity

Question 17

What does acting above the line do for working capital deficiencies?

Answer 17

Reduces short-term borrowing but does not change the level of working capital

Question 18

What is a significant factor in the analysis of cash flow?

Answer 18

Comparing two successive balance sheets

Question 19

What is the implication of a company’s cash position?

Answer 19

It includes both positive cash and negative cash

Question 20

What is the consequence of having both positive and negative cash?

Answer 20

They cancel each other out

Question 21

What is the purpose of producing a cash flow statement?

Answer 21

To make the reflection on the sources and uses of funds easier

Question 22

Fill in the blank: An increase in equity or retained earnings is a _______.

Answer 22

source of funds

Question 23

Fill in the blank: A decrease in a liability is a _______.

Answer 23

use of funds

Question 24

True or False: A company’s sources of funds can exceed its uses of funds.

Answer 24

False

Question 25

What do Goodco and Badco have in common regarding their financial statements?

Answer 25

They have the same income statement for a one year period

Question 26

What signifies management decisions in Goodco and Badco?

Answer 26

Their fundamentally different balance sheets this year

Question 27

What is 'positive cash'?

Answer 27

Actual cash in your bank account

Question 28

What is 'negative cash'?

Answer 28

Short term borrowing

Question 29

What happens if a company has both positive and negative cash?

Answer 29

They cancel each other out

Question 30

What is the starting point for Operating Activities (OA) in cash flow statements?

Answer 30

Net income is shown in full, not retained earnings

Question 31

What should be added back in Operating Activities?

Answer 31

Depreciation and any other non-cash charge

Question 32

What is included in Investing Activities (IA) of cash flow statements?

Answer 32

Asset acquisition cost and gain/loss on sale of shares/investments

Question 33

What does Financing Activities (FA) capture?

Answer 33

Equity injection or withdrawal, new long term borrowing or repayment, dividends paid

Question 34

What is the formula for net cash?

Answer 34

Net cash = (Cash - STLCL) end - (Cash - STLCL) start

Question 35

What two financial statements are needed to complete a statement of cash flow?

Answer 35

Two balance sheets (start and end of period) and the income statement for the intervening period

Question 36

What does the cash flow statement answer?

Answer 36

Where did our money come from, and where did it go?

Question 37

What is non-cash working capital?

Answer 37

Year-over-year difference in current assets (except cash) and current liabilities (excluding short term debt)

Question 38

What does a new asset purchase represent in Investing Activities?

Answer 38

A use of funds, typically a negative entry

Question 39

What is the treatment of dividends in Financing Activities?

Answer 39

Dividends are a use of funds, so it’s a negative entry

Question 40

What does OA + FA + IA equal?

Answer 40

Change in net cash

Question 41

How is net cash at a point in time defined?

Answer 41

Cash minus the amount of the STCL found on the balance sheet

Question 42

What is the change in cash position also referred to as?

Answer 42

Funds Flow

Question 43

What does it indicate if non-cash working capital is growing?

Answer 43

It should be justified by sales

Question 44

What is an indicator of a steady dividend?

Answer 44

What fraction of income it represents

Question 45

What does larger investment relative to depreciation indicate?

Answer 45

Growth

Question 46

What does it mean if financing activities show issuing or buying back shares?

Answer 46

It involves common or preferred shares

Question 47

What are the two types of management discussed?

Answer 47

Operational management and financial management

Question 48

Fill in the blank: Net Cash = Cash - _______

Answer 48

STCL

Question 49

True or False: Retained earnings changes are shown explicitly in financing activities.

Answer 49

False

Question 50

What are the two areas that management must address in all businesses?

Answer 50

Operational health and Financial health ## Footnote Operational health assesses whether the business activity creates value independently of financing, while financial health evaluates if money has been raised sustainably.

Question 51

What is the primary source of evidence for operational health?

Answer 51

The income statement ## Footnote The income statement provides insights into the company's operational performance.

Question 52

What critical measure is mentioned as part of operational health?

Answer 52

Contribution margin ## Footnote Contribution margin is vital for understanding profitability after variable costs.

Question 53

What is the primary source of evidence for financial health?

Answer 53

The balance sheet ## Footnote The balance sheet reflects the company's assets, liabilities, and equity at a specific point in time.

Question 54

What is important in assessing financial health?

Answer 54

Working capital ## Footnote Working capital measures the company's short-term liquidity and operational efficiency.

Question 55

What statement links income statements and balance sheets?

Answer 55

The statement of cash flow ## Footnote The statement of cash flow reconciles the income statement and balance sheet by showing cash inflows and outflows.

Question 56

What does the cash flow statement show?

Answer 56

Funds flow in a company, broken down by category ## Footnote This breakdown helps in understanding cash movement within the business.

Question 57

What is the equation for calculating the change in net cash during a reporting period?

Answer 57

Operating Activities plus Investing Activities plus Financing Activities ## Footnote This equation summarizes the sources and uses of cash in the business.

Question 58

What does positive funds flow indicate?

Answer 58

The company is producing more cash from non-cash sources than needed for the period ## Footnote Positive funds flow suggests good operational efficiency and cash management.

Question 59

What does a negative change in cash position on the Statement of Cash Flow indicate?

Answer 59

More funds had to flow into the company ## Footnote A negative change suggests that the company is using more cash than it is generating.

Question 60

True or False: It is always a good thing to have extra cash coming into a company.

Answer 60

False ## Footnote While extra cash can be beneficial, it may also indicate operational inefficiencies if not managed properly.