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Cash Flows

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Statement of Cash Flows: Three Examples

1. Was cash flow from operating activities greater than or less than net income (income or loss from continuing operations). Explain in detail the major reasons for the difference between these two figures. First Statement – cash flow is greater than loss in all years. 1. Depreciation and Amortization are non-cash expenses, so they are reported on the balance sheet as losses, but are not cash outflows. 2. Inventory and current assets are reversed because they are non-cash assets, so they are reported as positive numbers on the balance sheet, but usually involve cash outflows. 3. A decrease in accounts receivable means an increase in cash. 4. A decrease in accounts payable means a decrease in cash.

Second Statement: cash flow is greater than net income in the first two years, but less in the third. 1. The same principles apply with amortization and depreciation as in the first statement. They are non-cash expenses. 2. In year three (1991), they accounts receivable was an extremely large number, making net income greater than actual cash flow. Third Statement: Cash flows are much greater than net income in all three years. The largest change is in the third year, where net income is negative. 1. The large negative net income in the third year is due to the increase in accounts receivable, the decrease in accounts payable, significant adjustments to income, and increases in reserves and deferrals. 2. As with the previous statements, there are significant amounts of depreciation and amortization as well as asset accounts that are non-cash that need to be reversed to represent cash flows accurately.

2. Did the cash flow from operations cover both the capital expenditures and the company’s dividend payments, if any? If it did, how did the company invest its excess cash? If not, what were the sources of cash the company used to pay for the capital expenditures and/or dividends? Alpha Corporation: No, Investment activities were required to cover the capital expenditures and dividends. Operating activities were not sufficient. The company sold depreciable assets and some discontinued operations to meet these obligations. Beta Corporation: There were no dividends paid. In the first two years, operating revenues were enough to cover capital expenditures. They paid off some of their working capital line of credit. In the third year, they were not able to cover these expenditures with operating revenues, so they issued a lot of company stock. Gamma Corporation: There were no dividends, and the cash flows from operations were enough to cover capital expenditures for all three years. They used proceeds to pay down their debt and to buy treasury shares. 3. What other major items affected cash flow?

Depreciation, accounts receivable and accounts payable.
4. What trends in cash flows over the three year period are most significant? The companies paid down debt and purchased assets when revenues were high, and the companies issued stock and debt to raise capital when revenues were low. Increases in accounts receivable and payable make a significant difference in cash flows. Depreciation and Amortization also made huge difference in cash flows in every statement.

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