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Cash Flow and Financial Planning

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A sales projection based on the relationship observed between the firm's sales ... Collections of accounts receivables. Cash from sources other than sales. 3. ... – PowerPoint PPT presentation

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Title: Cash Flow and Financial Planning


1
Cash Flow and Financial Planning
  • FIL 240
  • Prepared by Keldon Bauer

2
Income versus Cash Flow
  • The goal of the income statement is to report on
    the status of stockholders equity in the firm.
  • Income may have little to do with cash flow.
  • Cash is the lifeblood of the firm.
  • All debts must be paid in cash (or the firm can
    be forced in to bankruptcy).
  • All investors expect to be repaid in cash.

3
Depreciation
  • To adjust reported income to reflect period cash
    flow, financial analysts should adjust for
    non-cash charges.
  • The largest of these non-cash charges is usually
    depreciation.
  • Although depreciation is not paid in cash, it
    usually does have a cash effect, since it acts as
    a tax shield.

4
Depreciation
  • Modified accelerated cost recovery system
    (MACRS).
  • Double declining balance, using the half-year
    convention.

5
Understanding Cash Flow
  • Operating Cash Flows
  • Cash generation and use through regular operation
    of the business.
  • Investment Cash Flows
  • Cash generation and use through purchase and sale
    of company assets.
  • Financing Cash Flows
  • Cash generation and use through financial markets.

6
Operating Cash Flow
  • Net Operating Profit After Taxes (NOPAT)
  • An estimate of profit (not cash flow) to all
    investors, both debt and equity.
  • NOPAT EBIT(1-T)
  • Operating Cash Flow (OCF)
  • An estimate of cash flow to all investors.
  • OCF NOPAT Depreciation
  • OCF EBIT(1-T) Depreciation

7
Free Cash Flow
  • Free Cash Flow (FCF)
  • The amount of cash generated and available for
    all investors after the firm has met all
    operating needs, and investment needs.
  • FCF OCF NFAI NCAI
  • NFAI Net fixed asset investment
  • NCAI Net current asset investment
  • NFAI Change in net fixed assets Depreciation
  • NCAI Change in current assets change in
    accounts payables and accruals

8
Cash Planning
  • Cash budget (forecast)
  • Projection of inflows and outflows used to
    estimate cash needs or surpluses.
  • Forecast Sales
  • Project Cash Receipts
  • Project Cash Disbursements
  • Project Net Cash Flow, Ending Cash, Financing or
    Surplus Cash

9
1. Sales Forecast
  • External Forecast
  • A sales projection based on the relationship
    observed between the firms sales and external
    indicators.
  • Statistics can be very helpful here.
  • However, you may have to make assumptions about
    future market/economic indicators

10
1. Sales Forecast
11
1. Sales Forecast
  • Internal forecast
  • Forecast based on a information generated through
    the firms own channels, and a consensus of
    internal agents.
  • Both internal and external methods should be
    used, and assessed over time for effectiveness.

12
2. Project Cash Receipts
  • Forecasting a firms inflow of cash during a
    particular period.
  • Take into account
  • Forecasted sales
  • Cash advances
  • Cash sales
  • Collections of accounts receivables
  • Cash from sources other than sales

13
3. Cash Disbursements
  • All outlays of cash by the firm over a given
    period.
  • Take into account
  • Cash purchases
  • Payments of AP
  • Rent/lease Payment
  • Wages/salaries
  • Tax Payments
  • Fixed-asset outlays
  • Interest payments
  • Cash dividends
  • Principal payment
  • Stock repurchases

14
4. Summarize
  • Net Cash Flow The difference between cash
    receipts and disbursements.
  • Ending Cash Adding net cash flow to the
    beginning cash balance.
  • If the difference between ending cash and
    necessary cash is negative, then the absolute
    value of that difference is the financing
    required.
  • Otherwise the difference is the surplus.

15
Dealing with Uncertainty
  • The projection we just made may be our best
    guess, but it is almost certainly wrong.
  • Many financial managers will borrow more than is
    indicated by this base estimate.

16
Dealing with Uncertainty
  • Financial managers can deal with uncertainty by
    using
  • Sensitivity analysis
  • Scenario analysis
  • Simulation

17
Pro Forma Statements
  • Pro forma statements project financial statements
    based on the accrual method.
  • They focus on income (profits) not cash flow.
  • It is impossible to hit the correct figures, but
    it is imperative that we plan
  • Assets must be planned,
  • Returns must be forecasted for all investors,
  • Financing for additional needs must be found.

18
Pro Forma Income Statement
  • Consider the past income statement
  • Either use the most recent, an average of the
    past two or three years, or any other period
    which seems representative.
  • Apply a commonsize income statement of the
    representative period.
  • Adjust costs using a fixed versus variable
    cost framework.

19
Pro Forma Balance Sheet
  • Balance Sheet Projections are much more complex.
  • Some accounts will change with sales
  • Accounts receivable,
  • Inventory,
  • Accounts Payable.
  • Some will change with capacity
  • Fixed assets
  • Some accruals (wages payable, etc.)

20
Pro Forma Balance Sheet
  • Start with the assets necessary to achieve the
    income statement projections.
  • Current assets might well be tied to sales.
  • Fixed assets depend on capacity (depreciate).
  • Project the current liabilities
  • Some are tied to sales.
  • Others might be tied to capacity.
  • Others might be tied to contracts.
  • Others might be relatively fixed.

21
Pro Forma Balance Sheet
  • Project long-term liabilities.
  • These are mainly contractual (e.g. bonds, loans)
  • Projections can be amortizations.
  • Others might be based on tax considerations.
  • Others are rather fixed.
  • Project Equity.
  • Except for retained earnings adjustments, you
    should usually hold this constant

22
Pro Forma Balance Sheet
  • The balance sheet should balance (hence the
    name)
  • If your pro forma balance sheet has more assets
    than liabilities and equity, more financing is
    required.
  • If your pr forma balance sheet has more
    liabilities and equity than assets, then you are
    projecting excess cash.

23
Evaluating the Pro Formas
  • It is usually advisable to conduct a reality
    check on the pro forma statements.
  • Ratio analysis
  • How far off recent results are we projecting?
  • Internal and external users of projections.
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