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CAPITAL BUDGETING AND ESTIMATING CASH FLOWS  After studying this material you should be able
CAPITAL BUDGETING AND ESTIMATING CASH FLOWS  After studying this material you should be able
CAPITAL BUDGETING AND ESTIMATING CASH FLOWS  After studying this material you should be able
CAPITAL BUDGETING AND ESTIMATING CASH FLOWS
CAPITAL BUDGETING AND
ESTIMATING CASH FLOWS

After studying this material you should be able to

Cash flows from operations is the cash flow generated by business activities, including sales of goods and services. Operating cash flow reflects tax payments, but not financing, capital spending, or changing in net working capital

Capital budgeting -The process of identifying, analyzing, and electing investment projects whose returns (cash flows) are expected to extend beyond one year

ESTIMATING CASH FLOWS  The cash flow statement reflects the movement of cash within an
ESTIMATING CASH FLOWS  The cash flow statement reflects the movement of cash within an
ESTIMATING CASH FLOWS  The cash flow statement reflects the movement of cash within an
ESTIMATING CASH FLOWS
ESTIMATING CASH FLOWS

The cash flow statement reflects the movement of cash within an enterprise during a specific period

The financial health of a firm depends on its ability to generate sufficient amounts of

cash to pay its creditors, employees, suppliers, and owners - only cash can be spent !!!!

Depreciation expense requires no cash outlay - the entire cash outflow related to a depreciable asset occurs at the time the asset is purchased

The difference between current assets and current liabilities is known as net working capital, but financial managers often refer to the difference simply (but imprecisely) as working capital

The value of a firm’s assets is always equal to the combined value of the liabilities and the value of the equity, the cash flows received from the firm’s assets (that is, its operating activities), CF(A) must equal the cash flows to the firm’s creditors, CF(B),

and equity investors, CF(S):

CF(A) = CF(B) + CF(S)

CASH FLOW STATEMENT Cash Flow Statement Cash flows from investing activities Cash flows from operating
CASH FLOW STATEMENT Cash Flow Statement Cash flows from investing activities Cash flows from operating
CASH FLOW STATEMENT Cash Flow Statement Cash flows from investing activities Cash flows from operating
CASH FLOW STATEMENT
CASH FLOW STATEMENT

Cash Flow Statement

CASH FLOW STATEMENT Cash Flow Statement Cash flows from investing activities Cash flows from operating activities

Cash flows from

investing activities

Cash flows from operating

activities

Cash flows from

financing activities

activities Cash flows from financing activities The most common source of cash for a company. It

The most common source of cash

for a company. It involves buying

and selling of inventory, receipts

from debtors, payments to creditors and the paying of expenses

debtors, payments to creditors and the paying of expenses Inflows:  Money received from sales 

Inflows:

Money received from sales

Money received from other incomes

Outflows:

Money paid for expenses

Money paid for tax

Outflows:  Money paid for expenses  Money paid for tax Cash changes as a result

Cash changes as a result of

buying and selling of

tangible/fixed assets and any changes in investments (i.e., fixed deposits)

assets and any changes in investments (i.e., fixed deposits) Inflows:  Money received from the sale

Inflows:

Money received from the

sale of assets

Fixed deposits maturing

Outflows:

Money paid for replacing

tangible/fixed assets

Money paid for buying new assets Investing in fixed deposits

paid for buying new assets  Investing in fixed deposits Cash changes as a result of

Cash changes as a result of

obtaining financing and

paying off loans/issuing of

shares

financing and paying off loans/issuing of shares Inflows:  Money received from issuing shares  Money

Inflows:

Money received from issuing shares

Money received from obtaining loans Proceeds from new stock issue or from long-term debt sales Outflows:

Money used for repaying loans

Repurchase of stock Money paid for dividends

CASH FLOW FROM OPERATING ACTIVITIES  Cash flow results from the firm’s normal activities in
CASH FLOW FROM OPERATING ACTIVITIES  Cash flow results from the firm’s normal activities in
CASH FLOW FROM OPERATING ACTIVITIES  Cash flow results from the firm’s normal activities in
CASH FLOW FROM OPERATING ACTIVITIES
CASH FLOW FROM OPERATING ACTIVITIES

Cash flow results from the firm’s normal activities in producing and selling goods and services

To calculate cash flow from operating activities we start with net income. Then we add back noncash expenses and adjust for

changes in current assets and

liabilities

Notes payable will be included

in the financing activities

section

START COMPANY Cash flow from operating activities [2013] [RON in millions]

START COMPANY Cash flow from operating activities [2013] [RON in millions]

Net income

Depreciation

Change in assets and liabilities

Accounts receivable

Inventories

Accounts payable

Accrued expense

Other

Cash flow from operating activities

86

103

Inventories Accounts payable Accrued expense Other Cash flow from operating activities 86 103 -24 11 16

-24

11

16

18

-8

202

Notes payable the amount of

principal due on a formal written

promise to pay (loans from banks)

CASH FLOW FROM INVESTING AND FINANCING ACTIVITIES START COMPANY Cash flow from investing activities[2013] [RON
CASH FLOW FROM INVESTING AND FINANCING ACTIVITIES START COMPANY Cash flow from investing activities[2013] [RON
CASH FLOW FROM INVESTING AND FINANCING ACTIVITIES START COMPANY Cash flow from investing activities[2013] [RON
CASH FLOW FROM INVESTING AND FINANCING ACTIVITIES
CASH FLOW FROM INVESTING AND FINANCING ACTIVITIES
START COMPANY Cash flow from investing activities[2013] [RON in millions]

START COMPANY Cash flow from investing activities[2013] [RON in millions]

Acquisition of fixed assets

Sales of fixed assets

Cash flow from investing activities

-198

25

-173

Cash flow from investing activities involves changes in capital assets:

acquisition of fixed assets and sales of fixed assets (i.e., net capital expenditures)

Cash flow from financing cash

flows to and from creditors and owners include changes in equity and debt

START COMPANY Cash flow from financing activities [2013] [RON in millions]

Retirement of long-term debt

-73

Proceeds from long-term debt sales

86

Change in notes payable

-3

Dividends

-43

Repurchase of stock

-6

Proceeds from new stock issue

43

Cash flow from financing activities

4

STATEMENT OF CONOLIDATED CASH FLOWS START COMPANY Statement of Cash Flows [2013], [RON in millions]
STATEMENT OF CONOLIDATED CASH FLOWS START COMPANY Statement of Cash Flows [2013], [RON in millions]
STATEMENT OF CONOLIDATED CASH FLOWS
STATEMENT OF
CONOLIDATED
CASH FLOWS

START COMPANY

Statement of Cash Flows [2013], [RON in millions]

Operations

 

Net income

86

Depreciation

103

Changes in assets and liabilities

 

Accounts receivable

-24

Inventories

11

Accounts payable

16

Accrued expenses

18

Other

-8

Total cash flow from operations

202

Investing activities

 

Acquisition of fixed assets

-198

Sales of fixed assets

25

Total cash flow from investing activities

-173

Financing activities

 

Change in notes payable

-2

Dividends

-12

Repurchase of stock

-6

Total cash flow from financing activities

-20

Change in cash (on the balance sheet)

9

-20 Change in cash (on the balance sheet) 9 The statement of cash flows in the

The statement of cash flows

in the addition of cash flows from operations, cash flows from investing activities, and cash flows from financing activities. When we add all

the cash flows together, we

get the change in cash on the balance sheet

Interest paid should really go under financing activities. The reason is that interest is deducted as an expense when net

income is computed

THE CASH FLOW PROCESS FOR A FIRM Raise Funds (Cash) 1. External  Owners 
THE CASH FLOW PROCESS FOR A FIRM Raise Funds (Cash) 1. External  Owners 
THE CASH FLOW PROCESS FOR A FIRM
THE CASH FLOW PROCESS FOR A FIRM
THE CASH FLOW PROCESS FOR A FIRM Raise Funds (Cash) 1. External  Owners  Creditors

Raise Funds (Cash)

1.

External

Owners

Creditors

2.

Internal

Cash flow from

operations

Liquidation of assets

Cash flow from operations  Liquidation of assets Used to 1. Funds for reinvestment 2. Funds

Used to

1. Funds for reinvestment

2. Funds to distribute to owners

and creditors

2.

Acquire Assets Long-term Working capital

1.
1.

Used to

2. Acquire Assets Long-term Working capital 1. Used to Used to Product and Sell Products/Services 1.

Used to

Product and Sell Products/Services

1. Services provided or inventories converted to cash sales and accounts receivable

2. Accounts receivable collected and converted to cash

converted to cash sales and accounts receivable 2. Accounts receivable collected and converted to cash Results

Results to

CAPITAL BUDGETING  Capital budgeting – the process of planning for purchases of assets whose
CAPITAL BUDGETING  Capital budgeting – the process of planning for purchases of assets whose
CAPITAL BUDGETING
CAPITAL BUDGETING
CAPITAL BUDGETING  Capital budgeting – the process of planning for purchases of assets whose cash

Capital budgeting the process of planning for purchases of assets whose cash

flows are expected to continue beyond 1 year

A capital expenditure is a cash outlay that is expected to generate a flow of future cash benefits lasting longer than 1 year (e.g., the replacement of an existing capital

asset)

A firm’s cost of capital is the cost of the funds supplied to it.The required rate of return is the minimum necessary rate of return required by the firm’s investors

Depreciation is defined as the systematic allocation of the cost of an asset over more than 1 year. The annual depreciation expenses recorded for a particular asset is an allocation of its original cost and does not represent a cash outlay

of its original cost and does not represent a cash outlay  As a result, a

As a result, a company’s annual depreciation expense is added to earnings after

taxes in calculating after-tax cash flow

CAPITAL BUDGETING  PROJECT TYPES  Independent projects – an independent project is one whose
CAPITAL BUDGETING  PROJECT TYPES  Independent projects – an independent project is one whose
CAPITAL BUDGETING  PROJECT TYPES  Independent projects – an independent project is one whose
CAPITAL BUDGETING
CAPITAL BUDGETING

PROJECT TYPES

Independent projects an independent project is one whose acceptance or rejection

does not directly eliminate other projects from consideration

Example, a firm may want

to install a new communication

system

in

its

headquarters and replace a drill press during approximately the same time.

Mutually exclusive projects is one whose acceptance precludes the acceptance of one or more alternative proposals.

!!! Because two mutually exclusive projects have the capacity to perform the

same function for a firm, only one should be chosen

Contingent projects is one whose acceptance is dependent on the adoption of one or more other projects.

Example, a decision to build a new bakery is contingent investing in suitable air

and water pollution control equipment