BATAAN PENINSULA STATE UNIVERSITY

MAIN CAMPUS, BALANGA CIY BATAAN

GRADUTE SCHOOL
MASTER IN BUSINESS ADMINISTRATION

Financial Management
MBA 106

Fund Analysis, Cash-flow Analysis and Financial Planning

Elaisa Jerica G. Gonzales

Objectives:

 Explain the difference between the flow of funds (sources and uses of funds) statement and the Statement of
cash flows – and understands the benefits of using each.
 Define “funds,” and identify sources and uses of funds.
 Create a sources and uses of funds statement, make adjustments, and analyze the final results.
 Describe the purpose and content of the statement of cash flows as well as implications that can be drawn from
it.
 Prepare a cash budget from forecasts of sales, receipts, and disbursements – and know why such a budget
should be flexible.
 Develop forecasted balance sheets and income statements. Understand the importance of using probabilistic
information in forecasting financial statements and evaluating a firm’s condition.

Flow of Funds Statement

 A summary of a firm’s changes in financial position from one period to another; it is also called a sources and
uses of funds statement or a statement of changes in financial position.

What do you mean by “funds”?

 The first definition that comes to mind is that funds are cash (and cash equivalents). So defined, we
should be concerned with transactions that affect the cash accounts. These transactions, affecting
inflows and outflows of cash, are extremely important.
 But defining funds as cash is somewhat limiting. A flow of funds analysis in which funds are defined
strictly as cash would fail to consider transactions that did not directly affect “cash,” and these
transactions could be critical to a complete evaluation of a business.
 Broadening our conception of funds to include all of the firm’s investments and claims (against those
investments) allows us to capture all of these transactions as both sources and uses of funds. Accepting
“investments and claims” as our definition of funds, we turn our attention to the firm’s balance sheet.
 The firm’s flow of funds therefore comprises the individual changes in balance sheet items between two
points in time. These points conform to beginning and ending balance sheet dates for whatever period
of examination is relevant – a quarter, a year, or five years.
 We prepare a basic, bare-bones fund statement by:

1. We simply place one balance sheet beside the other, compute the changes in the various accounts,
and note the direction of change – an increase (+) or decrease (−) in amount.

2. Each balance sheet item change is classified as either a source or use of funds.

Sources of Funds Uses of Funds

Any decrease (-) is an asset Any increase (+) in

item an asset item

Any increase (+) in a claim Any decrease (-) in a claim

item (a liability or item (a liability or
shareholder’s equity item) shareholder’s equity)
 3. Consolidating this information in a sources and uses of funds statement format.

Adjustments:

• Although we could begin to analyze our “basic” sources and uses statement right now, a few minor adjustments
will provide us with an even more useful statement with which to work.

Recognize Profits and Dividends

 Change in retained earnings is composed of profits and dividends. Source: Net profit $201
 Profits earned and dividends paid are important funds flows Less Use: Cash Dividends $143
(Net) Source: Increase,
and need to be shown separately.
retained earnings $58

Recognize Depreciation and Gross Changes in Fixed Assets

Therefore, for Aldine we have (in thousands)

Gross additions to fixed assets = $8 + $112 = $104

Fund Statement
Implications of Funds Statement Analysis

• The analysis of funds statements gives us insight into the financial operations of a firm that will be
especially valuable to you if you assume the role of a financial manager examining past and future
expansion plans of the firm and their impact on liquidity.
• Another use of funds statements is in the evaluation of the firm’s financing.
• An analysis of a funds statement for the future will be extremely valuable to you as the financial
manager in planning intermediate- and long-term financing of the firm.

Accounting Statement of Cash Flows

 Statement of Cash Flows- A summary of a firm’s cash receipts and cash payments during a period of time.


 The purpose of the statement of
cash flows is to report a firm’s
cash inflows and outflows, during
a period of time, segregated into
three categories: operating,
investing, and financing
activities.

 Operating activities -
Shows impact of
transactions not defined
as investing or financing
activities. These cash
flows are generally the
cash effects of
transactions that enter
into the determination of
net income. Thus, we see
items that not all
statement users might
think of as “operating”
flows – items such as
dividends and interest
received, as well as
interest paid.
 Investing Activities-
Shows impact of buying
and selling fixed assets
and debt or equity
securities of other entities.
 Financing Activities- Shows impact of all cash transactions with shareholders and the borrowing and
repaying transactions with lenders.
 • The cash flow statement may be presented using either a “direct method” (which is encouraged by the Financial
Accounting Standards Board because it is easier to understand) or an “indirect method” (which is likely to be the
method followed by a good majority of firms because it is easier to prepare).

 The only difference between the direct and indirect methods of presentation concerns the reporting of
operating activities; the investing and financing activity sections would be identical under either method.

Analyzing the Statement of cash-flows

 A major benefit of the statement of cash flows (especially under the direct method) is that the user gets a
reasonably detailed picture of a company’s operating, investing, and financing transactions involving cash.

 -This three part breakdown of cash flow aids the user in assessing the company’s current and potential
future strengths and weaknesses. Strong internal generation of operating cash, over time, would be
considered a positive sign. Poor operating cash flow should prompt the analyst to check for unhealthy
growth in receivables and/or inventory.

 Statement users need to see the extent to which operating cash is funding needed investments, debt
reductions, and dividends. Too much reliance on external financing sources to meet recurring needs may be a
danger signal.

Cash-Flow Forecasting
 Cash budget-A forecast of a firm’s future cash flows arising from collections and disbursements, usually on a
monthly basis.

 It reveals the timing and amount of expected cash inflows and outflows over the period studied. With
this information, the financial manager is better able to determine the future cash needs of the firm,
plan for the financing of these needs, and exercise control over the cash and liquidity of the firm.
 Though cash budgets may be prepared for almost any interval of time, monthly projections for a year
are most common. This enables analysis of seasonal variations in cash flows. When cash flows are
volatile, however, weekly projections may be necessary.

 The sales forecast- The key to the accuracy of most cash budgets is the sales forecast. This forecast can be based
on an internal analysis, an external one, or both.
 The product sales managers screen these estimates and consolidate them into sales estimates for
product lines. The estimates for the various product lines are then combined into an overall sales
estimate for the firm. The basic problem with an internal approach is that it can be too myopic. Often,
significant trends in the economy and in the industry are overlooked.
 With an external approach, economic analysts make forecasts of the economy and of industry sales for
several years to come. They may use regression analysis to estimate the association between industry
sales and the economy in general. After these basic predictions of business conditions and industry sales,
the next step is to estimate market share by individual products, prices that are likely to prevail, and the
expected reception of new products. Usually, these estimates are made in conjunction with marketing
managers, even though the ultimate responsibility should lie with the economic forecasting department.
 When the internal sales forecast differs from the external one, as it is likely to do, a compromise must be
reached. In general, the external forecast should serve as a foundation for the final sales forecast, often
modified by the internal forecast.
  A final sales forecast based on both internal and external analyses is usually more accurate than either
an internal or an external forecast by itself.
 Cash receipts may arise from the sale of assets, as well as from product sales.

 Collections and other cash receipts- The next job is to determine the cash receipts from these sales. For cash
sales, cash is received at the time of the sale; for credit sales, the receipts come later. How much later depends
on the billing terms, the type of customer, and the credit and collection policies of the firm.
 Cash receipts may arise from the sale of assets, as well as from product sales.
 In addition, cash receipts may arise from external financing as well as investment income

 Cash Disbursement- Next comes a forecast of cash disbursements. Given the sales forecast, management may
choose to gear production closely to seasonal sales, to produce at a relatively constant rate over time, or to have
mixed production strategy.
 Production Outlays. Once a production schedule has been established, estimates can be made of the
needs for materials, labor, and additional fixed assets.
 Wages are assumed to vary with the amount of production – but not perfectly. Generally, wages are
more stable over time than are purchases.
 Other expenses include general, administrative, and selling costs; property taxes; interest; power, light,
and heat; maintenance; and indirect labor and material. All of these expenses tend to be reasonably
predictable over the short run.
 Other Disbursements. In addition to cash operating expenses, we must take into account capital
expenditures, dividends, federal income taxes, and any other cash outflows not already accounted for.

 Net Cash Flow and Cash Balance- Once we are satisfied that we have taken all foreseeable cash inflows and
outflows into account, we combine the cash receipts and disbursements schedules to obtain the net cash inflow
or outflow for each month.
 Alternative means of meeting the cash deficits are available. The firm may be able to delay its capital
expenditures or its payments for purchases.
 Indeed, one of the principal purposes of a cash budget is to determine the timing and magnitude of
prospective financing needs so that the most appropriate method of financing can be arranged. A
decision to obtain long term financing should be based on long-range funds requirements and on
considerations apart from a cash forecast.
 In addition to helping the financial manager plan for short-term financing, the cash budget is valuable in
managing the firm’s cash position. On the basis of a cash budget, the manager can plan to invest excess
funds in marketable securities. The result is an efficient transfer of funds from cash to marketable
securities and back.