Financial Analysis: Tools and Techniques Phần 3 pot

78 Financial Analysis: Tools and Techniques

familiar management decision context, of the sources and uses of the ultimate

cash flows is given at the bottom of the diagram.

This representation will be a useful reference when we discuss the inter￾pretation of cash flow statements in the next section, as we follow the convention

of the three decisional areas, and the general rules governing cash inflows and

outflows.

Interpreting Funds Flow Data

We’re now ready to examine in more detail the use and implications of a company’s

funds flow information, as normally represented in its cash flow statements. As we

discussed in Chapter 2, companies that are publicly held and publish regular finan￾cial statements are required by the SEC to provide a statement of cash flows along

FIGURE 3–11

Generalized Funds Flow Model

Investment Operations Financing

Management Decision Context

Current

assets

Fixed

assets

Current

liabilities

Other

assets

Long-term

liabilities

Shareholders’

equity

Sales

revenue

Cost of

sales

Operating

expenses Write￾offs

(non￾cash) Net income

or loss

Investments (increases) in

current, fixed, and other

assets are uses of cash;

reductions in any asset are

sources of cash.

Profitable operations are

a source of cash; losses

drain cash from the system.

Note: Accounting write-offs

like depreciation or special

provisions do not represent

cash and must be adjusted

for (reversed) to arrive at

cash flow.

Trade credit, accruals, and

new short- and long-term

financing (increases in

liabilities and stock issues)

are sources of cash;

repayments of debt,

dividends, and repurchases

of stock are uses of cash.

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CHAPTER 3 Managing Operating Funds 79

with balance sheets and income statements. Where such statements aren’t readily

available, however, or in situations where the analyst wishes to project future funds

movements, it’s relatively straightforward to develop meaningful cash flow state￾ments from standard balance sheets and income statements. With the help of the

cash flow statement, we can develop many insights about the actual funds changes

that took place, and also obtain clues for further analysis of the nature and quality of

management decisions in operations, investments, and financing.

In this section, we’ll illustrate how to quickly draw up a basic cash flow

statement from available balance sheets and income statements, and discuss the

major principles involved in transforming this accounting information into the

funds flow pattern in which we are interested. For this purpose, we’ll again use

the 1997 and 1996 TRW Inc. financial statements originally shown in Chapter 2

as Figures 2–9 and 2–11.

We’ll work back from these to develop a derived cash flow statement,

which we can then compare to the more detailed one published by TRW. Not

having access to the detailed records of the company, we’ll find that our own

version of the cash flow statement will approximate, but not be identical to,

the key funds movements shown in TRW’s statement. This is because some

informational details required are not directly represented on the published

statements.

We’ll begin with a look at the differences in the key balance sheet items be￾tween the two dates, and sort these into a listing of funds sources and uses as a

convenient way of identifying positive and negative cash flows. This format is

called a sources and uses statement, mainly distinguished from the formal cash

flow statement by the arrangement of the information, which in the latter case fol￾lows our three familiar decisional areas. Then we’ll turn to the income statement

to obtain additional details necessary to expand our insights in the operational area

of funds movements. The objective is not accounting refinement, but simply an

understanding of the principles involved in transforming data about key changes

into cash flow patterns.

TRW’s consolidated balance sheets are reproduced as Figure 3–12, which

also shows changes in the accounts between the two balance sheet dates. To de￾velop a cash flow statement, these changes must be classified as either funds uses

or sources. We’ve done this in Figure 3–13, where increases and decreases in as￾sets and liabilities are assigned to the appropriate categories, following the rules

we displayed earlier in Figure 3–11. However, some of the balance sheet cate￾gories are too broad for our purpose. As a result, several of the funds flows cannot

be specifically delineated:

• Net profit (or loss) from operations is not recognized as such, but is

part of the net change in retained earnings.

• Cash dividends are also immersed in the net change in retained

earnings.

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80 Financial Analysis: Tools and Techniques

FIGURE 3–12

TRW INC. AND SUBSIDIARIES

Consolidated Balance Sheets at December 31

($ millions)

Source: Adapted from 1997 TRW Inc. annual report.

1997 1996 Change

Assets

Current assets:

Cash and cash equivalents . . . . . . . . . . . . . . $ 70 $ 386 $  316

Accounts receivable . . . . . . . . . . . . . . . . . . . . 1,617 1,378  239

Inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . 573 524  49

Prepaid expenses . . . . . . . . . . . . . . . . . . . . . . 79 69  10

Deferred income taxes . . . . . . . . . . . . . . . . . . 96 424 ______ ______ _______  328

Total current assets . . . . . . . . . . . . . . . . . . . 2,435 2,781 ______ ______ _______  346

Property, plant, and equipment at cost . . . . . . . 6,074 5,880  194

Less: Allowances for depreciation

and amortization . . . . . . . . . . . . . . . . . . . . . 3,453 3,400 ______ ______ _______  53

Total property, plant, and equipment

—net . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,621 2,480  141

Intangible assets:

Intangibles arising from acquisitions . . . . . . . 673 258  415

Other . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 232 31 ______ ______ _______  201

______ ______ _______ 905 289  616

Less: Accumulated amortization . . . . . . . . . . . . 94 78 ______ ______ _______  16

Total intangible assets—net . . . . . . . . . . . . . 811 211  600

Investments in affiliated companies . . . . . . . . . 139 51  88

Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . 404 376 ______ ______ _______  28

Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,410 $5,899 ______ ______ _______  511

Liabilities and Shareholders’ Investment

Current liabilities:

Short-term debt . . . . . . . . . . . . . . . . . . . . . . . $ 411 $ 52 $  359

Accrued compensation . . . . . . . . . . . . . . . . . . 338 386  48

Trade accounts payable . . . . . . . . . . . . . . . . . 859 781  78

Other accruals . . . . . . . . . . . . . . . . . . . . . . . . 846 775  71

Dividends payable . . . . . . . . . . . . . . . . . . . . . 38 39  1

Income taxes . . . . . . . . . . . . . . . . . . . . . . . . . 99 52  47

Current portion of long-term debt . . . . . . . . . . . 128 72 ______ ______ _______  56

Total current liabilities . . . . . . . . . . . . . . . . . 2,719 2,157 ______ ______ _______  562

Long-term liabilities . . . . . . . . . . . . . . . . . . . . . . 788 767  21

Long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . 1,117 458  659

Deferred income taxes . . . . . . . . . . . . . . . . . . . 57 272  215

Minority interests in subsidiaries . . . . . . . . . . . . 105 56  49

Shareholders’ investment:

Serial Preference Stock II . . . . . . . . . . . . . . . . 1 1 0

Common stock . . . . . . . . . . . . . . . . . . . . . . . . 78 80  2

Other capital . . . . . . . . . . . . . . . . . . . . . . . . . . 462 437  25

Retained earnings . . . . . . . . . . . . . . . . . . . . . 1,776 1,978  202

Cumulative translation adjustments . . . . . . . . (130) 47  177

Treasury shares—cost in excess of par . . . . . (563) (354) ______ ______ _______  209

Total shareholders’ investment . . . . . . . . . . 1,624 2,189 ______ ______ _______  565

Total liabilities and shareholders’ investment . . $6,410 $5,899 ______ ______ _______  511

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CHAPTER 3 Managing Operating Funds 81

• Depreciation and amortization write-offs are buried in the changes in

the respective accounts for accumulated depreciation and amortization.

• Special items, such as write-offs and adjustments incurred with

acquisitions or restructuring activities, are combined in the net amounts

of affected accounts.

• New investments in facilities, as well as acquisitions, disposals, and

divestments, are similarly netted out in the balance sheet accounts.

FIGURE 3–13

TRW INC. AND SUBSIDIARIES

Statement of Balance Sheet Changes

For the Year Ended December 31, 1997

($ millions)

Sources:

Decrease in cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 316

Decrease in deferred income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 328

Increase in allowances for depreciation . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53

Increase in accumulated amortization . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16

Increase in short-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 359

Increase in trade accounts payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 78

Increase in other accruals . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71

Increase in income taxes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47

Increase in current portion of long-term debt . . . . . . . . . . . . . . . . . . . . . . . . 56

Increase in long-term liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21

Increase in long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 659

Increase in minority interests in subsidiaries . . . . . . . . . . . . . . . . . . . . . . . . 49

Increase in other capital . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25 ______

$2,078

______

Uses:

Increase in accounts receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 239

Increase in inventories . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 49

Increase in prepaid expenses . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10

Increase in property, plant, and equipment . . . . . . . . . . . . . . . . . . . . . . . . . 194

Increase in intangibles arising from acquisitions . . . . . . . . . . . . . . . . . . . . . 415

Increase in other intangibles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 201

Increase in investments in affiliated companies . . . . . . . . . . . . . . . . . . . . . . 88

Increase in other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28

Decrease in accrued compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

Decrease in dividends payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

Decrease in deferred income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 215

Decrease in common stock . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

Decrease in retained earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 202

Decrease in cumulative translation adjustments . . . . . . . . . . . . . . . . . . . . . 177

Increase in treasury shares . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 209 ______

______ $2,078

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82 Financial Analysis: Tools and Techniques

TRW’s statement of earnings, or income statement, reproduced in Figure

3–14, provides us with helpful information on the first four elements, while we

have to rely on additional information from the company about the amount of new

investments, acquisitions, disposals, and divestments. We’ve provided some of

these data in summarized form at the bottom of the income statement.

The simple sources and uses statement in Figure 3–13 is an indication of the

broad financial implications of growth to record sales volume and earnings from

continuing operations, the remaining impact of restructuring activities in 1996,

and the significant effects of two major acquisitions in 1997.

The key net funds sources were:

• A net increase in long-term debt of $659 million, accompanied by an

increase of $59 million in the current portion of long-term debt. This

change occurred in connection with the $1.0 billion acquisition of

BDM International, an information technology company, and the

acquisition of an 80 percent interest in Magna International, an

automotive component company, for approximately $0.5 billion.

• A net increase in short-term debt of $359 million, also part of the

funding of TRW’s growth and of temporary financing needs related to

the acquisitions.

• A significant reduction of cash and cash equivalents of $316 million,

reflecting part of the financing changes put in place during 1997 and

the cash transactions involved in the two acquisitions.

• A reduction in the company’s deferred income tax assets, which

represents a timing shift in actual tax payments, effectively using

accumulated credit and thereby conserving cash. This was, to a large

extent, offset by a reduction in deferred income tax liabilities, and a

reverse shift in the timing of tax payments, effectively requiring the use

of cash to reduce tax obligations. The two opposing cash flows netted

out to a $113 million source.

• Other sources reflect a variety of working capital changes and minor

increases in minority interests and other capital.

• The period’s depreciation and amortization, which we would expect to

be major sources, are so far hidden in the overall changes of the

accumulated allowances shown on the balance sheet.

The major net funds uses during 1997 were:

• Large increases in intangible assets caused by the acquisition ($415

million) and by other investments ($201 million).

• An increase of $239 million in accounts receivable, reflecting volume

growth and the impact of the acquisitions.

• A net increase of $194 million in property, plant, and equipment,

reflecting new capital spending as well as disposals, and the impact of the

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