Operating activities iii it tends to reveal less

Info icon This preview shows pages 3–4. Sign up to view the full content.

View Full Document Right Arrow Icon
operating activities iii. it tends to reveal less company info to competitors b. net income is adjusted for items that did not affect cash c. why must net income be converted? i. accrual basis required that rev be recorded when earned and that expenses be recorded when incurred and earned rev may include credit sales that have not been collected in cash and exp incurred may include costs that have not been paid in cash ii. therefore net income does not represent net cash provided by operating activities so in the indirect method, net income must be adjusted to convert certain items to the cash basis iii. adjusts net income for items that affected reported net income but did not affect cash *noncash charges in the income statement are added back to net income and noncash credits are deducted *increase in A/R deducted from net income, inc in ppd exp deducted from net income, increase in accum dep added back to net income, increase in A/P added to net income *loss on sale of equip: loss reduced net income but did not reduce cash, so added back to net income 3. direct method a. more consistent with the objective of a statement of cash flow because it shows operating cash receipts and payments b. FASB prefers this method c. net cash flow from op activities as computed using the indirect method must also be reported in a separate sched when the direct method is used II. Using Cash Flow to Evaluate a Company A. Free cash Flow 1. cash provided by op activities is intended to indicate the cash generating capability of the company but analysts have noted that cash provided by op act fails to take into account that a co must invest in new fixed assets just to maintain its current level of operations and companies must maintain dividends at current levels to satisfy investors 2. free cash flow is a measurement that takes these outflows into account while providing insight regarding a co’s cash generating ability 3. free cash flow describes the cash remaining from op after adjusting for capital expenditures and dividends 4. free cash flow = cash provided by operations – capital expenditures – cash dividends B. Assessing Liquidity and Solvency Using Cash Flows 1. advantage of cash based measures is do not take into account adjustments and therefore no management discretion 2. disadvantage of cash based measures is that there are no readily available industry averages for comparison b/c most co use the more commonly employed accrual based 3. liquidity is the ability of a business to meet its immediate obligations a. current ratio: current assets/current liabilities
Image of page 3

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
i. disadvantage: uses yr end balances instead of current asset and current
Image of page 4
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern