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Statements of Cash Flows: Three Examples

Executive Summary:
John Stacey is a sales engineer for Aldhus Corporation. He has been taking accounting
classes through the evening MBA program, but he missed last week's class due to a flight delay.
Unfortunately, the class he missed was very important because the lecture topic was on the
statement of cash flows, and he was sure that the information he had missed would be on the
next weekly quiz. In order to prepare, John called Lucille Barnes, the assistant controller at
Aldhus, to ask if she would be willing to help educate him on the information he missed. She
agreed and began discussing the different components that go into the statements of cash flows
such as the operating, investing, and financing sections. John followed along and asked questions
to ensure that he was understanding everything she was saying. In the end, Lucille gave John a
few different statements, Exhibits 1-3, and questions to review that they would discuss the next
day. Her hope was that these questions and examples would help guide and educate John so he
would be prepared for his quiz.

Analysis:
1. What were the firm’s major sources of cash? Its major uses of cash?
- Exhibit 1: Appears to show a strong source of cash over the past 3 years coming
from the proceeds from disposal of depreciable and other assets and proceeds
from long-term debt accounts. On the other hand, investments in depreciable
assets and payments of long-term debt seem to be major users of cash within the
company.
- Exhibit 2: Exhibits a large amount of cash inflow coming from cash received
from customers and proceeds from the issuance of common stock. Major uses of
cash for this company seem to go to paying suppliers, employees, and capital
expenditures for this company. In addition, the large increase in accounts
receivable is also a negative sign for the company. They might want to increase
their collections period, so they’re able to have more cash on hand.
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- Exhibit 3: Shows two major sources of cash for this company to be proceeds
from the issuance of treasury shares, including tax benefits and proceeds from the
issuance of debt. In contrast, major uses of cash appear to be large purchases of
PP&E, payments to retire debt, and purchases of treasury shares.

2. Was cash flow from operations greater than or less than net income? Explain in
detail the major reasons for the difference between these two figures.
- Exhibit 1, which uses the indirect method, shows that cash flow from operations
was much greater than net income because net income was negative while cash
flow from operations was positive for all three years. Net income is shown at the
top and is labeled as loss from continuing operations. A negative net income
could be an indicator that this firm’s business is slowing and the company could
be divesting because of this. This is a possibility because we see in 1989 that the
company was still investing a large amount of capital into depreciable assets, but
they stopped investing nearly as much in the following years. In addition, it
appears that in 1990 and 1991 the company began selling off a large portion of
their assets and their proceeds from the sale of discontinued operations also rose
from 0 to 407.3 in one year.
- Exhibit 2, which uses the direct method, appears to show that net income was
higher for 1991, but the cash flows from operations were higher than net income
for the two previous years. This is because of the large increase in accounts
receivable that only occurred in 1991 which explains why net income was higher
for that year alone.
- Exhibit 3, which uses the indirect method, once again shows that cash flows from
operations were greater than net income for every year. The net cash flows from
operating activities appear to be at a stable, positive level every year which is a
good sign for the operations of the company. On the other hand, we do see a
decrease in cash flows from operating activities in 1991 which can be a sign of
negative growth for the firm and would explain why net income is shrinking. In
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addition, we can also see that in 1991 this firm spent a large amount of capital on
investing activities which included purchasing another company. This could
explain the large decline in net income in 1991 because the firm is spending most
of its capital trying to grow their firm.

3. Was the firm able to generate enough cash from operations to pay for all of its
capital expenditures?
- Exhibit 1: The firm was not able to generate enough cash from operations to pay
for its capital expenses in any of the three years. Once the investments in
depreciable assets and capitalized software is added up, you can see that these
accounts outweigh the cash from operations.
- Exhibit 2: The only year that was unable to generate enough cash from
operations to pay for its capital expenditures was in 1991. You can see that in
1990 it was easily able to cover its capital expenditures while in 1989 the
company produced just enough cash to cover them also.
- Exhibit 3: For all three years, this firm was able to produce enough cash from
operations to cover their capital expenditures.

4. Did the cash flow from operations cover both the capital expenditures and the
firm’s dividend payments, if any?
- Exhibit 1: In all three years, the total capital expenditures added up to be much
more than the net cash provided by operating activities. With the firm not even
being able to cover capital expenditures from operating cash flows, it is
impossible for them to cover dividends with it.
- Exhibit 2: The company was unable to generate enough cash to pay for its capital
expenditures in 1991, although 1990 and 1989 they were fine. Also there are no
dividend payments for this company.
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- Exhibit 3: Since there were no dividends being distributed by this company, the
net cash flow from operations was enough to cover all of this firm’s capital
expenditures.

5. If it did, how did the firm invest its excess cash?

- Exhibit 1: In this exhibit the capital expenditures were more than the net cash
flow provided so there was no excess cash.
- Exhibit 2: For this exhibit, in 1991 the firm spent $8,000 in marketable securities
with its excess cash. There was no more investing done other than that.
- Exhibit 3: This company bought a total of $1,325,908 in treasury shares over a
three year period with their excess cash. They also used their cash to pay back
debt with a total of $286,567 over the three year period. Also, they purchased a
Kienzie business in 1991.

6. If not, what were the sources of cash the firm used to pay for the capital
expenditures and/or dividends?
- Exhibit 1: This company used their disposal of depreciable and other assets of
$157 and also the proceeds of sale of discontinued operations to be able to pay for
their capital expenditures.
- Exhibit 2: This firm was able to use its excess cash to pay for their capital
expenditures.
- Exhibit 3: This firm was also able to use its excess cash.

7. Were the working capital (current assets and current liability) accounts other than
cash and cash equivalents primarily sources of cash, or users of cash?
- Exhibit 1: This company used a lot of cash for investing in depreciable assets
over the three year period. Over the period it seems that this company’s assets and
liabilities were mainly users of cash.
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- Exhibit 2: In the financing activities for this company, they used their cash to pay
off a lot of things including net payments under working capital line of credit, net
payments under equipment line of credit, principal payments, and payment of
subordinated debt. It's safe to say this company mainly used their cash.
- Exhibit 3: This company's assets and liabilities definitely flip flopped from year
to year on users or sources of cash. As you can see, most of the accounts in Net
Cash by Operating Activities, use “(Increase)/Decrease in most columns. For
instance, Accounts Receivable was negative the first two years, and positive for
the last. The other accounts including inventories, prepaid expenses, accounts
payable, ect do the same thing in changing from year to year.

8. What other major items affected cash flows?

- Exhibit 1: In this exhibit, the amortization of capitalized software and also
investment in depreciable assets affect cash flows tremendously. Also in 1990
they spent 222.6m in their short-term borrowings.
- Exhibit 2: The major account that affected the cash flows in this exhibit was their
cash paid to suppliers and employees. Looking at the statement, you can see that
is where the vast majority of their capital is going.
- Exhibit 3: As noted earlier, with so much money going to their purchase of
treasury shares that is the main place their cash flows are going. They also
purchased the Kienzie business in 1991 which was a large bit of their cash flow
for that year.
II. What was the trend in:
9. Net income?
- Exhibit 1: Net income for Alpha Corporation saw a substantial decrease from
1989-1990 and then a slight increase from 1990-1991.
- Exhibit 2: Increasing Steadily. Net income for Beta Corp increased by nearly
$5,000 from ‘89-90 and then another $1,000 from 1990-1991.
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- Exhibit 3: Decreasing substantially. The net income in 1989 was over 1 million
but in 1990 it dropped to just $74,000. Then, in 1991 Gamma Corp reported Net
income of -$617,000.
10. Cash flow from (continuing) operations?
- Exhibit 1: Cash flow from continuing operations for Alpha Corp are steadily
increasing throughout all three years.
- Exhibit 2: Cash flow from operations nearly doubled from 1989-1990 and then
dropped back down to just above the 1989 number in 1991.
- Exhibit 3: Cash flow from operations for Gamma Corp is steadily decreasing
from 1989-1991. Cash flow from operations decreased only slightly from ‘89-90
but then saw a more substantial dropoff in their 1991 cash flow.
11. Capital expenditures?
- Exhibit 1: The capital expenditures for Alpha corp have been steadily decreasing,
meaning they are spending LESS money each year.
- Exhibit 2: Capital expenditures have been steadily increasing (they are spending
more money each year).
- Exhibit 3: Capital expenditures have been steadily decreasing for the Gamma
Corp.
12. Dividends?
- Exhibit 1: Alpha corp paid dividends of 26 million in 1989 followed by 7.2
million the next year and 0 paid in 1991.
- Exhibit 2: No dividends reported
- Exhibit 3: No dividends reported
13. Net borrowing (proceeds less payments of short- and long-term debt)?
- Exhibit 1: Net borrowing for Alpha Corporation started out positive in 1989 but
became negative in 1990 and then saw a slight increase from ‘90-91 but still not
enough to make the net borrowing positive for 1991.
- Exhibit 2: Net borrowing for Beta Corporation started out positive in 1989 but
became negative in 1990 and 1991.
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- Exhibit 3: The net borrowing for Gamma Corporation decreased from 1989-1990
but then increased from 1990-1991.
14. Working capital accounts?
- Exhibit 1: The working capital accounts for Alpha Corporation shows an increase
in each year following 1989.
- Exhibit 2: The working capital accounts for Beta Corporation have increased
over all three years, with a little decrease being shown in 1990.
- Exhibit 3: Gamma Corporation’s working capital accounts increased from ‘89-90
and then saw a decrease from ‘90-91.
As part of your assessment of the financial strength of each business, rank the three
companies from strongest to weakest.
- Based on all of the information that was provided for these three firms, we concluded that
Exhibit 2 appeared to show the greatest financial strength based on their Statement of
Cash Flows. Exhibit 2 shows that this company has continued to provide positive cash
flow from operating activities for the past three years, and the company has also had
negative cash flow for investing activities which is a good sign that they’re continuing to
grow their company by adding more capital expenditures. In addition, we can see that this
firm was able to have a growing positive net income for all three years.
- Exhibit 3 also showed promising signs for a firm which is what led us to believe that this
is the second strongest firm. This company’s operations had positive cash flow for all
three years, and they had negative cash flow for investing activities because the company
is continuing to grow. As an example, this company acquired another business in 1991 to
support their continued growth. Over the years, this firm has been purchasing large
amounts of treasury shares which was most likely done to support their investments.
- Finally, Exhibit 1 appeared to be the weakest company based on the three Statements of
Cash Flow provided. This is due to some signs that this company may be shrinking
operations or even divesting. We see evidence of this in the investing section because the
company appears to have positive cash from this section due to the disposal of a large
amount of assets and the sale of discontinued operations.