The Cash Flow Statement and Decisions - John Wiley & Sons

1 ReviewWhere This Chapter FitsLooking Ahead492 CHAPTER THIRTEENThe Cash Flow Statementand DecisionsReviewPrevious chapters examined the information providedby the income Statement , balance sheet, and Statement ofchanges in owners equity. In addition, a brief introduc-tion to the cash flow Statement was provided in Chapters2 and This Chapter FitsThis chapter examines the cash flow Statement indepth and focuses on how the information provided bythis important Statement is used for financial AheadChapters 14 and 15 complete an in-depth look at thefinancial statements and how the information provided isuseful for decision am I always broke?

2 My job pays a de-cent salary, but somehow I never havecash when I need it. I get paid on the firstof the month, but most of that goes for rentand food. My car payment is due on thetenth, but I don t get paid again until the fif-teenth. Once I make my car payment andpay the late charges, I ve used up most ofthat paycheck. Then come the credit cardbills. Luckily, I can just make the minimumpayments and let the rest go, although theinterest charges are starting to be almostas much as my purchases.

3 Maybe I needto figure out where all of my money PersonalViewThe German company Siemens is a $60billion conglomerate that manufactureseverything from power stations to semi-conductors. The company is known for itsexpert cash management and earns asmuch from interest income as from manu-facturing. It is sometimes regarded as abank with an electronics department at-tached. [T]he company usually has thecashflow to fund even the largest invest-ments, such as this year s $ billion ac-quisition of Westinghouse.

4 11 Laura Covill, Siemens The Financial Engineer, Euromoney (August 1998), p. BusinessViewndividuals make personal Decisions based inpart on the amount of cash they have and theirexpectations about future cash flows . Simi-larly, current cash balances and forecasts of futurecash flows are at the heart of many business , investors, and creditors all need informa-tion about cash and cash flows so they can make important source of information about an orga-nization s cash flows is the Statement of cash Statement , one of the four basic financial state-ments, provides information about the amounts andtypes of an entity s cash flows during the period.

5 Thepurpose of this chapter is to examine the type of infor-mation provided in this Statement and see how it isused in decision making. After completing this chapter,you should be able the type of information included in a cashflow Statement , how it is organized, and how it isuseful for decision the different types of cash flows that areimportant for decision makers and how these cashflows are the cash flow effects of common types oftransactions and describe how they are reported inthe cash flow how decision makers analyze cash sourcesand uses listed in the cash flow Statement .

6 And de-scribe ratios often used in analyzing cash Statement of cash flowsis required by generally accepted accounting principles to be in-cluded in a complete set of financial statements. A cash flow Statement must be included foreach year for which an income or operating Statement is included. Thus, the annual reports ofmost organizations include cash flow statements for either two or three years for purpose of the cash flow Statement is to report how an organization generated andused its cash. Knowing where the cash comes from is important in projecting whether cashwill be generated from those sources in the future.

7 Knowing where the cash goes is importantin assessing the organization s future cash needs. When presenting cash flow statements,most companies combine cash and cash equivalents because short-term investments classi-fied as cash equivalents are used primarily as a substitute for 13 1 shows the Consolidated Statement of Cash flows of The May DepartmentStores Company, which is typical of those of major corporations. May Company reportsearnings for three years and does the same for cash flows .

8 The statements report all of thedifferent sources and uses of cash during each of the three years and show the total change incash and cash equivalents. Each item in May Company s cash flow statements reflects asummary of specific transactions. The organization of the Statement of cash flows is stan-dardized to facilitate understanding the organization s cash OF THE Statement OF CASH FLOWSThe Statement of cash flows , as you can see from May Company s, is divided into three cate-gories: operating, investing, and financing.

9 By categorizing the entity s cash flows in this way,the Statement helps decision makers better understand how the company generates and uses itscash. This is important so that decision makers can better project future cash flows . Some ofthe different types of cash flows that a business might have are listed in Exhibit 13 flows from operationsare generated from the organization s normal cash flows are generally routine and recurring. They are particularly important be-cause most organizations must be capable of generating positive cash flows from operationsover the long run to remain viable.

10 (See In Practice 13-1.) Is May Company, for example,successful in generating cash from its operations?Cash flows related to investingreflect how an organization s cash is used to providefuture benefits, such as through the purchase of new plant and equipment, and investing insecurities. For example, to what extent has May Company been making capital expendituresto acquire property and equipment and to expand?494 Chapter 13 The Cash Flow Statement and DecisionsUNDERSTANDING THE Statement OF CASH FLOWSThe Statement of cash flows reports sources anduses of cash for an entity.