FINANCIAL STATEMENT ANALYSIS

Faculty of Banking and Finance

Lecturer: MSc. Nghiem Anh Thu
 CHAPTER 4
THE CASH FLOW STATEMENT

01 02 03 04
OVERVIEW ESTABLISHING CASH FREE CASH FLOWS CASH FLOW RATIOS
FLOW STATEMENT
UNDERSTANDING
CASH FLOW
STATEMENT

2
 4.1. CASH FLOW STATEMENT OVERVIEW

4.1.1 Cash flow statement introduction

4.1.2 Cash flow classifications

3 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.1.1. CASH FLOW STATEMENT INTRODUCTION

Definition: Cash flow statement provides information:

▪ Info about company’s cash receipts and payments

▪ Info about company’s operating, investing and

financing activities

▪ Info to assess the firm’s liquidity, solvency and

financial flexibility

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 4.1.1. CASH FLOW STATEMENT INTRODUCTION

Definition: Cash flow statement allows judgement on whether:

o Regular operations generate enough cash to sustain the

business

o Enough cash to pay off existing debts as they mature

o The firm is likely to need additional financing

o Unexpected obligations can be met

o The firm can take advantage of new business opportunities

as they arise (Berkshire Hathaway)

5 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.1.1. CASH FLOW STATEMENT INTRODUCTION

Cash flow categories:

Categories Meaning
CF from operating activities: Inflows and Outflows of cash resulting from transactions
that affect a firm’s net income

CF from investing activities Inflows and Outflows of cash resulting from the acquisition
or disposal of long-term assets and certain investments

CF from financing activities Inflows and Outflows of cash resulting from transactions
affecting a firm’s capital structure

6 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 CHAPTER 4
THE CASH FLOW STATEMENT

01 02 03 04
OVERVIEW ESTABLISHING CASH FREE CASH FLOWS CASH FLOW RATIOS
FLOW STATEMENT
UNDERSTANDING
CASH FLOW
STATEMENT

7
 4.2. APPROACHES OF ESTABLISHING CASH FLOW STATEMENT

4.2.1 Direct method

4.2.2 Indirect method

4.2.3 CFI & CFF

Note: The difference between 2 methods relate to CF

from operating activities while the presentation of CF from
investing and financing activities is The Same under both
methods.

8 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.2.1 DIRECT METHOD

❑ Under the direct method, each line

item of the Accrual-based income
statement is converted into cash
receipts or cash payments.
❑ There are similarities of the Direct
method cash flow presentation and
Income statement.
❑ Starting point is Revenue (adjusted to
show cash received from customers)

9 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.2.2 INDIRECT METHOD

❑ Under the indirect method, net income is

converted to operating CF by making
adjustments for transactions that affect net
income but are not cash transactions
❑ Adjustments include eliminating noncash
expenses (depreciation & amortization),
non-operating items (gains & losses) and
changes in balance sheet accounts resulting
from accrual accounting events.
❑ Starting point is Net income

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 4.2.2 INDIRECT METHOD

❑ 4 steps in
calculating CFO
under the indirect
method: p86

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 4.2.2 INDIRECT METHOD

❑ Example: CFA FSA p86

Use the following balance sheet and income statement to prepare a statement of cash flows under
the indirect method

12 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.2.3 CFI & CFF

❑ Investing cash flows (CFI)

o Cash paid for new asset = Ending gross assets + Gross cost of old assets sold – Beginning gross assets

o Cash from asset sold = Book value of the asset + Gain/ - Loss on sale

❑ Financing cash flows (CFF)

o Net cash flow from creditor = New borrowings – Principal amounts repaid
o Net cash flow from shareholders = New equity issued – Share repurchases – Cash dividends paid

13 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.2.2 DIRECT & INDIRECT METHOD

Which method is better?

o CFO amount is the same under both
methods although it is presented differently
o Direct method provides more information
than the indirect method
o Focus on the difference between net
income and operating cash flow → useful
for forecasting future operating cash flow
➢ Why many companies choose to use in-
direct method

14 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.2. ANALYZE & INTERPRET

❑ Major source and Uses of Cash

❑ Operating Cash flow
❑ Investing Cash flow
❑ Financing Cash flow
❑ Common-size cash flow statement
analysis → chapter 5

15 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 CHAPTER 4
THE CASH FLOW STATEMENT

01 02 03 04
OVERVIEW ESTABLISHING CASH FREE CASH FLOWS CASH FLOW RATIOS
FLOW STATEMENT
UNDERSTANDING
CASH FLOW
STATEMENT

16
 4.3. FREE CASH FLOWS

❑ Definition: A measure of cash that is

available for discretionary purposes once
the firm has covered its capital
expenditures.

❑ Free Cash Flow to the Firm

❑ Free Cash Flow to Equity

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 4.3. FREE CASH FLOWS

❑ Free Cash Flow to the Firm

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 4.3. FREE CASH FLOWS

❑ Free Cash Flow to the Firm

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 4.3. FREE CASH FLOWS

❑ Free Cash Flow to Equity

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 4.3. FREE CASH FLOWS

21 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 CHAPTER 4
THE CASH FLOW STATEMENT

01 02 03 04
OVERVIEW ESTABLISHING CASH FREE CASH FLOWS CASH FLOW RATIOS
FLOW STATEMENT
UNDERSTANDING
CASH FLOW
STATEMENT

22
 4.4. CASH FLOWS RATIOS

❑ Performance Ratios

Ratio Formula Meaning

Cash flow-to-revenue 𝐶𝐹𝑂 Measure the amount of operating cash flow generated for
𝑁𝑒𝑡 𝑟𝑒𝑣𝑒𝑛𝑢𝑒 each dollar of revenue

Cash return-on-assets 𝐶𝐹𝑂 Measure the return of operating cash flow attributed to all
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠 providers of capital

Cash return-on-equity 𝐶𝐹𝑂 Measure the return of operating cash flow attributed to
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑇𝑜𝑡𝑎𝑙 𝐸𝑞𝑢𝑖𝑡𝑦 shareholders

Cash-to-income ratio 𝐶𝐹𝑂 Measure the ability to generate cash from firm operations
𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝑖𝑛𝑐𝑜𝑚𝑒

Cash flow per share 𝐶𝐹𝑂 − 𝑝𝑟𝑒𝑓𝑒𝑟𝑟𝑒𝑑 𝑑𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠 Variation of basic EPS measured by using CFO instead of
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝑎𝑣𝑒𝑟𝑎𝑔𝑒 𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑠ℎ𝑎𝑟𝑒𝑠 net income

23 Lecturer: MSc. Nghiem Anh Thu Faculty of Banking and Finance

 4.4. CASH FLOWS RATIOS
❑ Coverage Ratios
Ratio
Debt coverage ratio
Interest coverage ratio
Reinvestment ratio
Debt payment ratio
Dividend payment ratio
Investing and Financing
ratio
24 Lecturer: MSc. Nghiem Anh Thu
Formula Meaning
𝐶𝐹𝑂 Measure financial risk and leverage
𝑇𝑜𝑡𝑎𝑙 𝑑𝑒𝑏𝑡
𝐶𝐹𝑂 + 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑝𝑎𝑖𝑑 + 𝑡𝑎𝑥𝑒𝑠 𝑝𝑎𝑖𝑑 Measure the firm’s ability to meet its interest
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑝𝑎𝑖𝑑 obligations
𝐶𝐹𝑂 Measure the firm’s ability to satisfy long-term
𝐶𝑎𝑠ℎ 𝑝𝑎𝑖𝑑 𝑓𝑜𝑟 𝑙𝑜𝑛𝑔 − 𝑡𝑒𝑟𝑚 𝑎𝑠𝑠𝑒𝑡𝑠 debt with operating cash flow
𝐶𝐹𝑂 Measure the firm’s ability to satisfy long-term
𝐶𝑎𝑠ℎ 𝑙𝑜𝑛𝑔 − 𝑡𝑒𝑟𝑚 𝑑𝑒𝑏𝑡 𝑟𝑒𝑝𝑎𝑦𝑚𝑒𝑛𝑡 debt with operating cash flow
𝐶𝐹𝑂 Measure the firm’s ability to make dividend
𝐷𝑖𝑣𝑖𝑑𝑒𝑛𝑑𝑠 𝑝𝑎𝑖𝑑 payments from operating cash flow
𝐶𝐹𝑂 Measure the firm’s ability to purchase assets,
𝐶𝑎𝑠ℎ 𝑜𝑢𝑡𝑓𝑙𝑜𝑤𝑠 𝑓𝑟𝑜𝑚 𝑖𝑛𝑣𝑒𝑠𝑡𝑖𝑛𝑔 𝑎𝑛𝑑 𝑓𝑖𝑛𝑎𝑛𝑐𝑖𝑛𝑔 𝑎𝑐𝑡𝑖𝑣𝑖𝑡𝑖𝑒𝑠 satisfy debts and pay dividends
Faculty of Banking and Finance
THANK YOU

Lecturer: MSc. Nghiem Anh Thu

nghiemanhthu@ftu.edu.vn