LDP 5.1 Cash Flow Statements and Their Formats

Question 1

SFAS No. 95 Direct

Answer 1

Starts at the top of the income statement and recasts accrual-based expenses to cash outlays to arrive at net cash income

Is said to cash out the income statement

Question 2

UCA Direct

Answer 2

Developed by the banking industry

Not an allowable format within GAAP

Identifies interest expense and current portion of long-term debt as separate cash flow requirements after it calculates cash from operations

Question 3

SFAS No. 95 Indirect

Answer 3

Starts at the bottom of the income statement with net profit and adjusts it to reconcile with cash charges

Focuses on differences between net income and net cash flow from operating activities

does not explicitly show whether cash interest and principal payments were made from internally generated cash flow, but it does provide supplementary disclosures that support repayment analysis

Question 4

Operating Cash Flow Definition

Answer 4

Operating cash flow is a measure of the cash provided through company operations, or the cash equivalent of the income statement’s profit from core business activities.

Question 5

How is Operating Cash Flow Labeled under SFAS indirect and direct?

Answer 5

Net Cash Provided by Operating Activities

Net Cash provided by Operations.

Question 6

How is Operating Cash Flow Labeled under UCA direct?

Answer 6

UCA direct format displays operating cash flow in four steps:

1. Gross Cash Profit
2. Cash after Operations
3. Net Cash after Operations
4. Net Cash Income

Question 7

How is Operating Cash Flow interpreted?

Answer 7

Sources and uses of operating cash flow are the same regardless of the format, but presentation differences make the UCA format easier to understand when interpreting ability to repay debt

Question 8

Investing Cash Flow Definition

Answer 8

Investing cash flow includes cash flows from investment activities, such as buying or selling plants and equipment, intangible assets, rental properties, and stock in affiliates or subsidiaries.

Question 9

How is Investing Cash Flow Labeled under SFAS indirect and direct?

Answer 9

SFAS direct and indirect:
Net Cash Provided by Investing Activities
Net Cash Used in Investing

UCA direct:Not universal among banks
Possible captions:
Capital Expenditures Cash Paid for Plant and Investments

Question 10

How is Investing Cash Flow interpreted?

Answer 10

Net cash value in this area can be either positive or negative: Negative as companies grow and report capital expenditures and other investment activities Positive when a company is in a declining stage of their life cycle and reinvests less than they dispose of

Question 11

Financing Cash Flow Definition

Answer 11

Financing activities include changes in both debt and equity. Trade payables result in operating flows; short term notes or revolving credit agreements with banks result in financing cash flows.

shows the amount of cash needed to meet any investing cash needs not provided by operating cash flow.

Question 12

How is Financing Cash Flow labeled?

Answer 12

SFAS Direct and Indirect:
Net Cash Provided by Financing Activities
Net Cash Provided by Financing

UCA Direct: Total External Financing + Current Portion of Long term Debt

Question 13

How is Financing Cash Flow interpreted?

Answer 13

Although financing cash flow includes changes in debt and equity, it does not include any change in the company’s retained earnings that is the result of profit or loss.

Financing cash flows show the amount of cash needed to meet investing cash needs not provided by operating cash flow

Question 14

Which section of the cash flow statement includes the cash flow effect of changes in a company’s cash cycle?

Answer 14

Operating Cash Flow

Question 15

Describe the principal difference in how the SFAS direct, the UCA direct, and the SFAS indirect formats present information about cash paid for interest and taxes.

Answer 15

SFAS Direct - Includes cash interest and cash taxes paid with other operating expenses.

UCA Direct - Shows these cash outlays separately, in the interim cash flow steps of ‘net cash after operatons and net cash income’

SFAS Indirect - Does not show these outlays in the body of the statement of cash flows, rather, disclosed at the bottom of the statement as supplemental cash flow info.

Question 16

Which format generally provides the most information about a bank’s position relative to other claims on a company’s cash flow? Why?

Answer 16

UCA Direct Method - it explicitly demonstrates cash payments for taxes, interest and principal reductions in order of in which we expect to companies to pay them.

• Makes it easier to see when a company runs out of cash and clarifies whether principal and interest payments are made from internally generated cash.

Question 17

Describe similarities in how the three cash flow formats help interpret a company’s cash flow. You should be able to identify at least three common characteristics of the various formats.

Answer 17

• Each compensates for the cash flow measurement disadvantages of accrual accounting.
• Each format tells us separately about cash flow from the company’s operating, investing, and financing activities.
• Each format separates internal from external sources and uses of cash, although the UCA considers repayment of external debt at two different points on the cash flow
• Each format allows us to reconcile the net effect of operating and investing cash flow to year-to-year change in cash

Question 18

Benefits of Accrual Accounting

Answer 18

Useful to lenders because they offer two important benefits:

1) they provide a superior presentation of the value of a company’s assets, the extent of its liabilities, and the amount of its earnings.
2) they provide a more accurate allocation of sales and expenses among accounting periods.

Question 19

Drawback of Accrual Accounting

Answer 19

• mislead a credit analyst about a borrower’s ability to repay debt
• Cash tied up in receivables, inventory, prepaid advertising, buildings, equipment, or officer loans is not available to repay bank debt.

Question 20

Which of the following cash transactions are found on the UCA direct cash flow statement but are not found on the income statement?

Answer 20

Capital Expenditures, Term Debt Payments, and Dividends are all found on the UCA direct cash flow statement, but not on the income statement.

Question 21

Cash Coverage Ratio

Answer 21

Net Cash after Operations divided by the Financing Costs plus the Current Portion of Long-term Debt.

Question 22

Two categories of cash that can be used as sources for loan repayment.

Answer 22

Operating-cycle cash

Long-term cash flow

Question 23

Operating-cycle cash

Answer 23

moves from inventory to receivables and back to cash during the normal purchase, production, sales, and collection cycle. The cycle of asset conversion releases cash temporarily and does not depend on any net new cash being injected.

Question 24

Long-term cash flow comes from profits

Answer 24

Long-term cash flow comes from profits, permanent improvements in efficiency, the sale of
noncurrent assets, increases in noncurrent or base-level current liabilities, or additional
investments by owners. Cash-flow cash is available permanently.

Question 25

Operating cash flow

Answer 25

a measure of the cash provided through company operations or, in very broad terms, the cash equivalent of the income statement’s profit from core business activities.

Question 26

Investing cash flow

Answer 26

includes cash flows from investment activities, such as buying or selling plant and equipment, intangible assets, rental properties, and stock in affiliates or subsidiaries. Changes in marketable securities are also classified as investing cash flow when the securities are considered an investment instead of a cash equivalent.

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Question 27

Financing cash flow

Answer 27

includes changes in both debt and equity

Question 28

Companies generate operating cash flow from two sources

Answer 28

• profit

- the cash cycle

Question 29

The key to consistent and sustained operating cash flow

Answer 29

• Profits and a company’s ability to generate profit is often referred to as the company’s cash flow fundamentals.
• Cash generated from fundamental profitability is obviously a more reliable source for loan repayment than cash that can be released by shortening the cash cycle.