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Cash flow analysis

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Bachir Jamali
Bachir Jamali

The document discusses cash flow analysis and statements. It explains that cash flow statements show inflows and outflows from operating, financing, and investing activities. It provides examples of analyzing cash flows from these different activities to assess a company's financial health and sustainability. Key things to examine include cash flow from operations, investments, ability to pay debts, and reliance on internal vs external financing.

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CASH FLOWS ANALYSIS
It is the statement that tells about the inflows and outflows of the firm coming from: Operating activities Financing activities Investing activities CASH FLOWS STATETEMENT
THE CASH FLOWS AND THE FIRM’S BUSINESS CYCLE
It is the cash flow generated by the firm from its day to day operations and not from financing or investment operations Normal business activity of the company Operating Cash Flow= EBITDA – change in working capital CASH FLOWS FROM OPERATING ACTIVITIES EBITDA Change in WC Cash flow from operations
EXAMPLE: CASH FLOWS FROM OPERATING ACTIVITIES
Excess of cash that allows the firm to pay its debt, pay dividends, and make investment Growth in cash flows from Operations depends on three variables: Business growth Profitability growth Working capital growth Cash flows of companies having high working capital might decrease in periods of sales growth. Saying that the business does not throw off cash is a wrong conclusion! ANALYSIS OF CASH FLOWS FROM OPERATING ACTIVITIES
Cash flows coming from: - Acquisitions and disposals - R&D Investment in securities … CASH FLOW FROM INVESTING ACTIVITIES
Assess the investment policy of the firm: Define the development strategy of the firm: Organic growth (investment in PP&E); External growth (acquisitions) Analysis of the cash flows from disposals (sale of business units or other assets): Pay long term debt Keep the core business ANALYSIS OF CASH FLOW FROM INVESTING ACTIVITIES
EXAMPLE
Cash flows = Fund raising : Bank loans Issue of stock (capital increase) - Issue of debt CASH FLOW FROM FINANCING ACTIVITIES
Cash flow from financing: result from the firm’s operations and its investment policy Use external ressources if the capacity of the firm to generate internally cash is not adequate Analyze the following: - Is the cash flow from operations adequate to pay Medium and long term debt? To what extent the firm financed its investment from internal resources? Can the firm raise capital and how its shareholding structure is? ANALYSIS OF CASH FLOWS FROM FINANCING ACTIVITIES
EXAMPLE
How strong is the firm's internal cash flow generation? Is the cash flow from operating activities positive or negative? If it is negative, why? Is it because its operations are unprofitable? Or is it having difficulty managing its working capital properly? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
Does the company have the ability to meet its short-term financial obligations, such as interest payments, from its operating cash flow? How much cash did the company invest in growth? - Are these investments consistent with its business strategy? - Did the company use internal cash flow to finance growth, or did it rely on external financing? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
Did the company pay dividends from internal free cash flow, or did it have to rely on external financing? What type of external financing does the company rely on? - Equity, short-term debt, or long-term debt? Is the financing consistent with the company's overall business risk? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
The Quality of Income Ratio is calculated as: Cash Flow from Operations Net Income This ratio should be > 1 for a healthy firm QUALITY OF INCOME RATIO
PROBLEM SOLVING 1-Prepare a cash flow statement starting from year 2 2- Calculate the quality of income ratio of the firm 3- Analyze the growth in cash flows for the firm A start up showed the floowing cash flows during the last 5 years of its business activity: 1 2 3 4 5 Net PP&E 100 110 120 130 140 Working capital 200 225 250 280 315 EBITDA NA 40 44 48 52 Depreciation NA 10 11 12 13 Interest expense NA 15 17 19 22 Tax expense NA 7.5 8 8 8.5 Dividends Source: Vernimmen 5 5 5 5 6

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Cash flow analysis

  • 2. It is the statement that tells about the inflows and outflows of the firm coming from: Operating activities Financing activities Investing activities CASH FLOWS STATETEMENT
  • 3. THE CASH FLOWS AND THE FIRM’S BUSINESS CYCLE
  • 4. It is the cash flow generated by the firm from its day to day operations and not from financing or investment operations Normal business activity of the company Operating Cash Flow= EBITDA – change in working capital CASH FLOWS FROM OPERATING ACTIVITIES EBITDA Change in WC Cash flow from operations
  • 5. EXAMPLE: CASH FLOWS FROM OPERATING ACTIVITIES
  • 6. Excess of cash that allows the firm to pay its debt, pay dividends, and make investment Growth in cash flows from Operations depends on three variables: Business growth Profitability growth Working capital growth Cash flows of companies having high working capital might decrease in periods of sales growth. Saying that the business does not throw off cash is a wrong conclusion! ANALYSIS OF CASH FLOWS FROM OPERATING ACTIVITIES
  • 7. Cash flows coming from: - Acquisitions and disposals - R&D Investment in securities … CASH FLOW FROM INVESTING ACTIVITIES
  • 8. Assess the investment policy of the firm: Define the development strategy of the firm: Organic growth (investment in PP&E); External growth (acquisitions) Analysis of the cash flows from disposals (sale of business units or other assets): Pay long term debt Keep the core business ANALYSIS OF CASH FLOW FROM INVESTING ACTIVITIES
  • 10. Cash flows = Fund raising : Bank loans Issue of stock (capital increase) - Issue of debt CASH FLOW FROM FINANCING ACTIVITIES
  • 11. Cash flow from financing: result from the firm’s operations and its investment policy Use external ressources if the capacity of the firm to generate internally cash is not adequate Analyze the following: - Is the cash flow from operations adequate to pay Medium and long term debt? To what extent the firm financed its investment from internal resources? Can the firm raise capital and how its shareholding structure is? ANALYSIS OF CASH FLOWS FROM FINANCING ACTIVITIES
  • 13. How strong is the firm's internal cash flow generation? Is the cash flow from operating activities positive or negative? If it is negative, why? Is it because its operations are unprofitable? Or is it having difficulty managing its working capital properly? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
  • 14. Does the company have the ability to meet its short-term financial obligations, such as interest payments, from its operating cash flow? How much cash did the company invest in growth? - Are these investments consistent with its business strategy? - Did the company use internal cash flow to finance growth, or did it rely on external financing? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
  • 15. Did the company pay dividends from internal free cash flow, or did it have to rely on external financing? What type of external financing does the company rely on? - Equity, short-term debt, or long-term debt? Is the financing consistent with the company's overall business risk? ANALYSIS OF CASH FLOWS: MAIN QUESTIONS
  • 16. The Quality of Income Ratio is calculated as: Cash Flow from Operations Net Income This ratio should be > 1 for a healthy firm QUALITY OF INCOME RATIO
  • 17. PROBLEM SOLVING 1-Prepare a cash flow statement starting from year 2 2- Calculate the quality of income ratio of the firm 3- Analyze the growth in cash flows for the firm A start up showed the floowing cash flows during the last 5 years of its business activity: 1 2 3 4 5 Net PP&E 100 110 120 130 140 Working capital 200 225 250 280 315 EBITDA NA 40 44 48 52 Depreciation NA 10 11 12 13 Interest expense NA 15 17 19 22 Tax expense NA 7.5 8 8 8.5 Dividends Source: Vernimmen 5 5 5 5 6