IMPORTANCE OF CASH FLOW STATEMENT AS FINANCIAL STATEMENT IN ACCOUNTING FINANCIAL & MANAGEMENT MODULE SUBMITTED BY BORISLAV MRA STUDENT

ID: 0003BDBD1211

Executive Sumerry
In this asignment I will write about the importance of cash flow statement. This paper is divided into several sections, which enabled me to fulfill this task in full. These are: Introduction. This section describes the cash flow statements through several basic questions. What is the cash flow statement? What is the purpose of the cash flow statement? Which are the main objectives of cash flow statement, and which are the main components of cash flow statement? Research In this part of the tasks I have been researching ways how to make a cash-flow statements, which are described in professional literature. Combining statements and quotes from various books I managed to make a model of creating cash flow statement with the help of the basic financial statements, such as balance sheet and income stement. Findings, Analysis and Evaluation In this section, I made an independent analysis cash flow statement company Mc Donald McD. The analysis was performed according to the sections of which are made up the cash flow statements, and finally was given the overall conclusion. Conclusion In this section I have summarized the analysis of cash flow statement, and I also gave suggestions what companies should do in the future, in terms of its investments. Post Report Reflection In this part of the asignment, I wrote what I have learned, what is the benefit for my future company, and which aspects I should consider when I reviewe comapnys financial statements.

Introduction
THE PURPOSE OF CASH FLOW STATEMENT. A cash flow statement is one of the most important financial statements for a project or business. It is a listing of the flows of cash into and out of the business or project, and also it is listing of cash flows that occurred during the past accounting period. A cash
flow statement is not only concerned with the amount of the cash flows but also the timing of the flows. Many cash flows are constructed with multiple time periods.

The cash flow statement provides information about a company s cash receipts and cash payments during an accounting period, showing how these cash flows link the ending cash balance to the beginning balance shown on the company s balance sheet. The cash based information provided by the cash flow statement contrasts with the accrual - based information from the income statement. Wiley, (2009), International Financial Statement Analysis, page 216

OBJECTIVES OF CASH FLOW STATEMENT. There are three main reasons why the profit and loss account along with the balance sheet would not give us. enough information to monitor an entitys cash position: 1. Purchases and sales are often made on credit terms, there may be delays in paying for services provided and some services may be paid for in advance. These factors cause a time lag between when cash is paid and when it is received. 2. A number of items included in the profit and loss account do not affect the cash position, e.g. depreciation, bad debts and provisions for bad debts. 3. Some transactions, such as the issue of shares and the purchase of fixed assets, are not recorded in the profit and loss account. Dyson (2007) Accounting for Non-Accounting Students, page 141

The statement of cash flow serves a number of objectives which are as follows : 1. Cash flow statement aims at highlighting the cash generated from operating activities. 2. Cash flow statement helps in planning the repayment of loan schedule and replacement of fixed assets, etc. 3. Cash is the centre of all financial decisions. It is used as the basis for the projection of future investing and financing plans of the enterprise. 4. Cash flow statement helps to ascertain the liquid position of the firm in a better manner. 5. Cash flow Statement helps in efficient and effective management of cash. 6. The management generally looks into cash flow statements to understand the internally generated cash which is best utilized for payment of dividends. 7. It is very useful in the evaluation of cash position of a firm. COMPONENTS AND METHODES OF A CASH FLOW STATEMENT OPERATING ACTIVITIES This section of the cash flow statement shows how much money company received from its actual business operations. The term net cash provided by operating activities is used to show how net income is adjusted to drive net cash provided. Griffin,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 69.

Operating activities are those which produce either revenue or are the direct cost of producing a product or service. Operating activities which generate cash inflows include customer collections from sales of their primary products or services, receipts of interest and dividends, and other operating cash receipts. Operating activities which create cash outflows include payments to suppliers, payments to employees, interest payments, payment of income taxes and other operating cash payments. There are two acceptable formats for reporting cash flow from operations (also known as cash flow from operating activities or operating cash flow ), defined as the net amount of cash provided from operating activities: the direct and the indirect methods. The direct method shows the specific cash inflows and outflows that result in reported cash flow from operating activities. It shows each cash inflow and outflow related to a company s cash receipts and disbursements, adjusting income statement items to remove the effect of accruals. In other words, the direct method eliminates any impact of accruals and shows only cash receipts and cash payments. The indirect method shows how cash flow from operations can be obtained from reported net income as the result of a series of adjustments. The indirect format begins with net income. To reconcile net income with operating cash flow, adjustments are made for non cash items, for non operating items, and for the net changes in operating accruals. The main argument for the indirect approach is that it shows the reasons for differences between net income and operating cash flows. Wiley, (2009), International Financial Statement Analysis, page 221.

INVESTING ACTIVITIES Cash flow from investing activities is the second part of both types of cash flow statements. Investing activities are the changes to the cash position created by the buying or selling of non-current assets. The cash flow from investing activities reports the change in an entity's cash position resulting from any gains (or less) from investments in the financial markets and operating subsidiaries, as well as changes resulting from amounts spent on investments in capital assets such as plant and equipment. Griffin,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 69.

Investing activities include buying and selling noncurrent assets which will be used to generate revenues over a long period of time; or buying and selling securities not classified as cash equivalents. Lending money and receiving loan payments would also be considered investing activities.

A list of investing activities: 1. 2. 3. 4. 5. 6. Sale of property, plant and equipment, Purchase of property, plant and equipment, Sale of debt or equity securities of another entities, Purchase of debt or equity securities of another entities, Collection of loans to other entities, Loans made to other entities.

Griffin,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 70

FINANCING ACTIVITIES Financing activities on a cash flow statement reflect borrowing money and repaying money, issuing stock, and paying dividends. This section of the statement of cash flow measures the flow of cash between the entity and its owners and creditors. The activities include obtaining resources from owners and providing them with a return of investment, as well as return of investment and borrowing money from creditors and repaying the amounts borrowed. Griffin,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 70

A list of financing activities: 1. Issuance of equity securities, 2. Issuance of debt (bonds and notes) 3. Payment of dividends 4. Redemption of debt, 5. Reacquisition of capital stock Griffin,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 70

Research
Cash is an asset. The statement of cash flows ultimately shows the change in cash during an accounting period. The beginning and ending balances of cash are shown on the company s balance sheets for the previous and current years, and the bottom of the cash flow statement reconciles beginning cash with ending cash. Steps in preparing the Cash Flow Statement

The preparation of the cash flow statement uses data from both the income statement and the comparative balance sheets. The first step in preparing the cash flow statement is to determine the total cash flows from operating activities. DIRECT METHOD OPERATING ACTIVITIES: Direct Method We first determine how much cash company received from its customers, followed by how much cash was paid to suppliers and to employees as well as how much cash was paid for other operating expenses, interest, and income taxes. Cash Received from Customers To determine the cash receipts from its customers, it is necessary to adjust this revenue amount by the net change in accounts receivable for the year. If accounts receivable increase during the year, revenue on an accrual basis is higher than cash receipts from customers, and vice versa. Cash received from customers is sometimes referred to as cash collections from customers or cash collections. Cash Paid to Suppliers There are two pieces to this calculation: the amount of inventory purchased and the amount paid for it. To determine purchases from suppliers, cost of goods sold is adjusted for the change in inventory. If inventory increased during the year, then purchases during the year exceeded cost of goods sold, and vice versa. Cash Paid to Employees To determine the cash paid to employees, it is necessary to adjust salary and wage expense by the net change in salary and wage payable for the year. If salary and wage payable increased during the year, then salary and wage expense on an accrual basis is higher than the amount of cash paid for this expense, and vice versa.

Cash Paid for Other Operating Expenses To determine the cash paid for other operating expenses, it is necessary to adjust the other operating expenses amount on the income statement by the net changes in prepaid expenses and accrued expense liabilities for the year. If prepaid expenses increased during the year, other operating expenses on a cash basis were higher than on an accrual basis, and

vice versa. Likewise, if accrued expense liabilities increased during the year, other operating expenses on a cash basis were lower than on an accrual basis, and vice versa. Cash Paid for Interest To determine the cash paid for interest, it is necessary to adjust interest expense by the net change in interest payable for the year. If interest payable increases during the year, then interest expense on an accrual basis is higher than the amount of cash paid for interest, and vice versa. Cash Paid for Income Taxes To determine the cash paid for income taxes, it is necessary to adjust the income tax expense amount on the income statement by the net changes in taxes receivable, taxes payable, and deferred income taxes for the year. If taxes receivable or deferred tax assets increase during the year, income taxes on a cash basis will be higher than on an accrual basis, and vice versa. Likewise, if taxes payable or deferred tax liabilities increase during the year, income tax expense on a cash basis will be lower than on an accrual basis, and vice versa. INVESTING ACTIVITIES The second and third steps in preparing the cash flow statement are to determine the total cash flows from investing activities and from financing activities. The presentation of this information is identical, regardless of whether the direct or indirect method is used for operating cash flows. Investing cash flows are always presented using the direct method. The historical cost information, accumulated depreciation information, and information from the income statement about the gain on the sale of equipment can be used to determine the cash received from the sale. Wiley, (2009), International Financial Statement Analysis, page 236.

Cash Flows From Investing Activities + Proceeds From Sale of Assets - Purchases of Property and Equipment = Total Net Cash Provided (Used) by Investing Activities

For a given period, there may not be much in the way of investing activities. But over time, it is an important consideration for assessing how to choose to use the cash generated by your business.

FINANCING ACTIVITIES This section of the cash flow statement is registering inflows of cash from loans received and loans repaid, and other cash inflows from outsiders and owners. Cash Flows From Financing Activities + Net Borrowing Under Line of Credit Agreement + Proceeds From New Borrowings - Repayment of Loans - Principal Payments Under Capital Lease Obligations - Dividends/Distributions/Withdrawals Paid + Proceeds From Issuance of Stock + Partner/Owner Capital Contributions =Total Net Cash Provided (Used) by Financing Activities INDIRECT METHOD The main argument for the indirect approach is that it shows the reasons for differences between net income and operating cash flows. (It may be noted, however, that the differences between net income and operating cash flows are equally visible on an indirect - format cash flow statement and in the supplementary reconciliation required if the company uses the direct method.) Another argument for the indirect method is that it mirrors a forecasting approach that begins by forecasting future income and then derives cash flows by adjusting for changes in balance sheet accounts that occur due to the timing differences between accrual and cash accounting.

A tabulation of the most common types of adjustments that are made to net income when using the indirect method to determine net cash flow from operating activities. Adjustments to Net Income Using the Indirect Method Noncash Items Depreciation expense of tangible assets Amortization expense of intangible assets Depletion expense of natural resources

Amortization of bond discount Non operating Losses Loss on sale or write down of assets Loss on retirement of debt Loss on investments accounted for under the equity method Increase in Deferred Income Tax Liability Changes in Working Capital Resulting from Accruing Higher Expenses than Cash Payments, or Lower Revenues than Cash Receipts Increase in current operating liabilities (e.g., accounts payable and accrued expense liabilities) Decrease in current operating assets (e.g., accounts receivable, inventory, and prepaid expenses) Noncash Items (e.g., Amortization of Bond Premium) Non operating Items Gain on sale of assets Gain on retirement of debt Income on investments accounted for under the equity method Decrease in Deferred Income Tax Liability Changes in Working Capital Resulting from Accruing Lower Expenses than Cash Payments, or Higher Revenues than Cash Receipts Decrease in current operating liabilities (e.g., accounts payable and accrued expense liabilities) Increase in current operating assets (e.g., accounts receivable, inventory, and prepaid expenses.

Findings, Analysis and Evaluation

The analysis of a company s cash flows can provide useful information for understanding a company s business and earnings and for predicting its future cash flows. Evaluation of the cash flow statement should involve an overall assessment of the sources and uses of cash between the three main categories as well as an assessment of the main drivers of cash flow within each category, as follows:

1. Evaluate where the major sources and uses of cash flow are between operating, investing, and financing activities. 2. Evaluate the primary determinants of operating cash flow. 3. Evaluate the primary determinants of investing cash flow. 4. Evaluate the primary determinants of financing cash flow.

Cash flow statement Mc Donalds Corp. (MCD)

http://finance.yahoo.com/q/cf?s=MCD+Cash+Flow&annual

McDonald's Corp. as a mature company for many years generates cash from operating activities. As we can see from the table below, the total cash flow from operating activities in the last three years is positive and has been growing steadily. This tells us that the company does not need to borrow money, or issue bonds. Cash flow statement Mc Donalds Corp. (MCD) Operating Activities

http://finance.yahoo.com/q/cf?s=MCD+Cash+Flow&annual

In 2010 total cash flow from operating activities was significantly higher in comparison to the previous two years and it amounted to $ 6,341,600. This increase in cash flow of $ 590,600 compared to the year 2009 and $ 424,400 compared to 2008 can be explained by an increased inflow from (depreciation and amortization), as well as adjustments of net income, despite the fact that in 2010 there have been negative changes regarding the liabilities inventories and Account Receivables. From this we can conclude that the company generates money over the previous year. It is useful to compare the cash flow from operating activities to net income. For mature companies, because net income includes non-cash expenses (depreciation and amortization), it is desirable that the operating cash flow exceeds net income. The relationship between net income and operating cash flow is also an indication of the quality of earnings. If a company has a net income but poor operating cash flow, it can be a sign of poor quality earnings. Wiley, (2009), International Financial Statement Analysis, page 244.

In our case this is not an example. MCD corp. as shown in the table, has a good net income, which is last three years increased from $ 4313200 to $ 496300 . We also showed that the cash flow in this company is increasing during the same period, so that we can conclude that the company has a quality earnings. Cash flow statement Mc Donalds Corp. (MCD) Investing Activities

http://finance.yahoo.com/q/cf?s=MCD+Cash+Flow&annual Within the investing section, we should evaluate each line item. Each line item represents either a source or use of cash. This enables us to understand where the cash is being spent (or received). This section will tell us how much cash is being invested for the future in property, plant, and equipment; how much is used to acquire entire companies; and how much is put aside in liquid investments, such as stocks and bonds. It will also tell us how much cash is being raised by selling these types of assets. If the company is making major capital investments, we should consider where the cash is coming from to cover these investments. (Is the cash coming from excess operating cash flow or from the financing activities). Wiley, (2009), International Financial Statement Analysis, page 244.

In our case, we can see that the MCD corp. constantly investing in own future, buying a new fixed assets and upgrading equipment and property. Since net income is positive and increases from year to year.. Since net income is positive and increases from year to year, the money for company investments comes from operating activities. Which is a good way of doing business. We also see that the company in 2008 and in 2009 sold part of the property, which is estimated to cost her too much. In 2010 cash flow and net income were the highest, so according to that the company had the largest investments. Company did not reduce the costs by selling the fixed assets and equipment as in the past 2 years. According to information from investing activities of cash flow, MCD corp. in 2010 had investments worth $ 2,056,000, while in 2009 it was $ 1,655,300, and in 2008, $ 1,624,700.

Cash flow statement Mc Donalds Corp. (MCD) Financing Activities

http://finance.yahoo.com/q/cf?s=MCD+Cash+Flow&annual Within the financing section, you should examine each line item to understand whether the company is raising capital or repaying capital and what the nature of its capital sources are. Wiley, (2009), International Financial Statement Analysis, page 244.

In the financing category of Cash flow statement we can see that, MCD crop is spending cash by repurchasing its own stock, paying dividends, and paying down debt. This could be an indicator that the company lacks investment opportunities and is, therefore, returning cash to the providers of capital. .

Conclusion
From the previous analysis of McDonald's Corp.. MCD, we can conclude the following: 1. MCD crop. is a company which builds its profits on the quality basis. This statement we can claim from the fact that the company's earnings coming from sales of their products as we can see from operating activities, and does not come from the sale of shares or credit. Since the company's earnings are higher than expenses, the company is able to invest in fixed assets and equipment. Reason of these investments is increase of the company production, that would be directly related to increasing the sales and profits of the company. 2. The opportunity to increase sales, this company can achieve through investments in new business related to its core activities, which is manufacturing and selling food. The company could expand the number of potential customers, or existing market, producing and selling healthy - organic food. There are also other ways of investment that the company could do, such as buying shares of other companies that sell fast food, or expand its operations in countries where the company does not have its chain of restaurants.

In short, the company has to ensure that it increases their income from sales of their products (operating activities), on the other hand to carefully use the money in investments counting the the potential risks of new business.

Post Report Reflection

The importance of this work for me means that I have learned the way in which company operates, which are healthy foundations on which companies should be to build itself, and how is important segment of the investment in new business which are increase volume of sales and therefore profits. Since the profit from operations is the only proper way of earnings, it tells us how is important the previous analysis of sales and market as a significant factor that the company is well developing. As a responsible person the company, in this way I will be able to look at cash flow and determine short-and long-term plans of company.

References
Robinson R. Thomas, Greuning van Hennie, Henry Elaine, Broihahn A. Michael , (2009), International Financial Statement Analysis, page 216 to 244 Dyson R. John, seventh edition (2007) Accounting for Non-Accounting Students, page 141 Griffin P. Michael,(2009),MBA Fundamentals Accounting and Finance, chapter 5, page 69 to 70 http://finance.yahoo.com/q/cf?s=MCD+Cash+Flow&annual