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Peter Atrill and Eddie McLaney,Accounting and Finance for Non-Specialists, 6th Edition, Pearson Education Limited 2008

Slide 5.1

Drs. E. J. Galama

LEARNING OUTCOMES

You should be able to

explain the nature of the cash flow statement and

discuss how it can be helpful in identifying cash

flow problems;

discuss the crucial importance of cash

to a business;

interpret a cash flow statement.

prepare a cash flow statement;

Chapter 5 Measuring and reporting cash flows

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Slide 5.2

Drs. E. J. Galama

A definition of cash and cash equivalents (IAS 7)

Notes and coins in hand,

and deposits in banks and

similar institutions that areaccessible on demand

Short-term, highly liquid

investments that are

readily convertible to

known amounts of cash

Cash

Cash equivalents

Definitions:

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Slide 5.3

Drs. E. J. Galama

The relationship between the balance sheet, the

income statement and the cash flow statement

Balance sheet

at the start of

the accounting

period

Owners

claim

Cash andcash

equivalents

Cash flow

statement

Income statement

Balance sheet

at the end of

the accounting

period

Owners

claim

Cash andcash

equivalents

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Slide 5.4

Drs. E. J. Galama

Standard layout of the cash flow statement

equals

plus or

minus

Net increase (or decrease) in

cash and cash equivalents over

the period

Cash flow

from operating activities

Cash flow

from investing activities

Cash flow

from financing activities

plus or

minus

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Slide 5.5

Drs. E. J. Galama

Diagrammatical representation of the cash flow

statement

Investing

activities

Cash and

cash

equivalent

balances

Financingactivities

Operating

activities

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Slide 5.6

Drs. E. J. Galama

Tesco plcSummarised cash flow statement for the year ended 24 February 2007

m

Net cash inflow from operating activities 2,611

Net cash used in investing activities (2,343)

Net cash used in financing activities (533)

Net (decrease)/increase in cash and cash equivalents (265)

Cash and cash equivalents at beginning of year 1,325

Effects of foreign exchange rate changes* (18)

Cash and cash equivalents at end of period 1,042

*This adjustmentis required because transactions are undertaken

by the company in different currencies and movements in

exchange rates can lead to gains or losses arising.

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7/27Peter Atrill and Eddie McLaney,Accounting and Finance for Non-Specialists, 6th Edition, Pearson Education Limited 2008

Slide 5.7

Drs. E. J. Galama

Deducing net cash inflows from operating activities

There are two methods

that can be used such as:

The direct method

The indirect method

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Slide 5.8

Drs. E. J. Galama

The indirect method of deducing the net cash flowsfrom the operating activities

Net cash flows from operating activities

Interest expense

Increase (minus) or decrease (plus) in

inventories

Interest paid

Taxation paid

Dividend paid

plusDepreciation expense

Increase (minus) or decrease (plus) in

receivables

Increase (plus) or decrease (minus) in

payables

Net profit before taxation

plus

plus or minus

less

equals

plus or minus

plus or minus

less

less

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Slide 5.9

Drs. E. J. Galama

Cash flows from operating activities

Profit before taxation (after interest)

193

Adjustments for:

Depreciation 79

Interest receivable (17)

Interest payable

Increase in trade receivables

23

(18)

Decrease in trade payables (1)

Decrease in inventories 3

Cash generated from operations 262

Interest paid (23)

Taxation paid (39)Dividend paid (50)

Example 5.3 Torbryan plc Cash flow statement for the year ended 31 December 2008

m

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Slide 5.10

Drs. E. J. Galama

Example 5.3 Torbryan plc(Continued) Cash flow statement for the year ended 31 December 2008

12

(68)(56)

(60)

90

(150)

(78)

(95)

17

150Net cash from operating activities

Cash flows from investing activities

Payments to acquire tangible non-current assets

Interest received

Net cash used in investing activities

Cash flows from financing activities

Repayments of loan notes

Issue of ordinary shares

Net cash used in financing activities

Net increase in cash and cash equivalents

Cash and cash equivalents at 1 January 2008Cash and cash equivalents at 31 December 2008

m

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Slide 5.11

Drs. E. J. Galama

m

Overdraft balance at 1 January 2008 (68)

Net cash inflow 12

Overdraft balance at 31 December 2008 (56)

Example 5.3 Torbryan plc(Continued)

Analysis of cash and cash equivalents during the year ended 31 December 2008

Slid 5 12

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Slide 5.12

Drs. E. J. Galama

LEARNING OUTCOMES

You should be able to

calculate important ratios for accessing the financial

performance and position of a business;

identify the major categories of ratios

that can be used for analysis purposes;

discuss the limitations of ratios as a tool of

financial analysis.

explain the significance of the ratios calculated;

Chapter 6 Analysing and interpreting financial statements

Slid 5 13

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Slide 5.13

Drs. E. J. Galama

Financial ratio classifications

Categories

Profitability

Efficiency

Liquidity

Financial gearing

Investment.

Slide 5 14

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Slide 5.14

Drs. E. J. Galama

Business

organisation

Competitors

Lenders

Managers

Owners Customers

Suppliers Investment

analysis

Community

representatives

Government

Employeesand their

representatives

Main users of financial information

Slide 5 15

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Slide 5.15

Drs. E. J. Galama

similar businesses during

the same period

planned performance.

past periods

Ratios may be compared withthe following:

Ratio benchmarks

Slide 5 16

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Slide 5.16

Drs. E. J. Galama

Profitability ratios

Profit for the year (net profit) any preference dividendOrdinary share capital + Reserves

Return on ordinary shareholders funds

Operating profitShare capital + Reserves + Non-current liabilities

Operating profit

Sales revenue

Operating profit margin

Return on capital employed

Gross profit

Sales revenue

Gross profit margin

x 100

x 100

x 100

x 100

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Slide 5 18

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Slide 5.18

Drs. E. J. Galama

The main elements comprising the ROCE ratio

multiplied

by

equals

Return on capital employed

Sales revenue

Long-term capital employed

Operating profitSales revenue

Slide 5.19

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Slide 5.19

Drs. E. J. Galama

Liquidity ratios

Current ratio

Acid test ratio

Formula:

Current assetsCurrent liabilities

Current assets (excluding inventories)

Current liabilities

=

=

Slide 5.20

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Slide 5.20

Drs. E. J. Galama

Gearing ratios

Long-term (non-current) liabilities

Share capital + Reserves + Long-term (non-current) liabilities

Gearing

ratio

Formula:

Interest cover

ratio

Operating profit

Interest payable

x 100

=

=

Slide 5.21

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Peter Atrill and Eddie McLaney,Accounting and Finance for Non-Specialists, 6th Edition, Pearson Education Limited 2008Drs. E. J. Galama

The effect of financial gearing

Operating profit

Returns

to ordinary

shareholders

Slide 5.22

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The effect of financial gearing at Tesco plc (2000 2007)

Interest cover

(times)

ROSF (%)

ROCE (%)

2000 200320022001 2004 2005 2006

%/times

8

10

12

14

16

18

20

22

24

26

2007

0

Slide 5.23

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Investment ratios

Formula

Dividend payout

ratio

Dividend yield

ratio

Earnings per

share

Price/earnings

ratio (P/E)

Dividends announced for the year

Profit for the year

Dividend per share/(1 t)

Market value per share

Profit for the year

Number of ordinary shares in issue

Market value per share

Earnings per share

x 100

x 100

=

=

=

=

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Slide 5.25

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Average price/earnings ratios for businesses

in a range of industries

Source: Constructed from data appearing in the Financial Times, 6 October 2007

0

5

10

30

25

20

15

Oiland

ga

s

Construction

andmaterials

Chemic

als

Industr

ial

engineering

Pharma

ceuticals

andbio

technology

Tobacc

o

Foodand

drug

retailer

s

Electric

ity

Lifeins

urance

Travelandleisure

Media

Banks

11.67

18.00

25.68

18.15

14.65

17.63

19.8220.42

13.59

9.81

12.1913.09

Averag

efo

rallSE

listedb

usi n

esses

12.87

%

Slide 5.26

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Graph plotting current ratio against time

Curren

tratio

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

2000 200320022001 2004

Tesco plc

J. Sainsbury plc

William Morrison plc

2005 2006

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6 chpt 5&6

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