lec7 - Cash Flow Analysis 15.511 Corporate Accounting...

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1 Cash Flow Analysis 15.511 Corporate Accounting Summer 2004 Professor SP Kothari Sloan School of Management Massachusetts Institute of Technology June 16, 2004
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2 Statement of Cash Flows z Reports operating cash flow as well as other cash flow information. z Provides important information to investors and creditors. z In particular, information about differences in the timing of revenue and expense recognition under GAAP and the associated cash inflows and outflows.
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3 Statement of Cash Flows z The cash flow statement separates changes in cash into three categories: z operating cash flow z investing cash flow z financing cash flow. z The statement sums to the actual change in cash during the year z The actual change refers to the difference between the beginning and ending cash balances reported on the balance sheet.
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4 Why focus on a cash flow statement? z Net income reported on the income statement provides an important measure of performance. z However, in the absence of cash flow, income does not pay the bills. z Interest and dividend payments, required principal reductions on debt, and capital expenditures for plant and equipment and for expansion cannot be made without cash. z Cash provided by operating activities, also known as operating cash flow, is a primary source of cash to meet these needs.
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5 Why focus on a cash flow statement? z In the absence of operating cash flow, cash from other sources can be used to cover cash requirements. z For example, cash can be obtained from on-hand balances or nonrecurring asset sales, new debt or equity financing. z These non-operating sources of cash flow can be relied upon only in the short run. z In the long run, operating cash flow is the only reliable source of cash available to meet recurring needs.
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6 1. Emily’s Bakery Emily contributes $10,000 in cash z Assets = Liabilities + Owners’ Equity z Cash Contributed Capital z +$10,000 +$10,000 Journal Entry Dr Cash 10,000 Cr Contributed capital 10,000
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7 2. The company borrows $3,000 from the bank z Assets = Liabilities + Owners’ Equity z Cash Loans Payable z +$3,000 +$3,000 Journal Entry Dr Cash 3,000 Cr Loans payable 3,000
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8 3. Company purchases equipment for $5,000 cash z Assets = L + OE z Cash Equipment z -$5,000 +$5,000 Journal Entry Dr Equipment 5,000 Cr Cash 5,000
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9 4. Company performs service for $12,000. The customer pays $8,000 in cash and promises to pay the balance at a later date. z Assets = L + Owners’ Equity z Cash Receivables Retained Earnings z +$8,000 +$4,000 +$12,000 Journal Entry Dr Cash 8,000 Dr Accounts receivable 4,000 Cr Retained earnings (Revenue) 12,000
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10 5. Company pays $9,000 for expenses (wages, interest, and maintenance) z Assets = Liabilities + Owners’ Equity z Cash Retained Earnings z -$9,000 -$9,000 Journal Entry Dr Retained Earnings (Expenses) 9,000 Cr Cash 9,000
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lec7 - Cash Flow Analysis 15.511 Corporate Accounting...

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