Cash flow statement: analysis of financing activities

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The statement of cash flows is one of the most important but often overlooked elements of a business’s financial statements. In its entirety, it enables an individual, whether analyst, investor, credit provider or auditor, to learn about the sources and uses of a company’s cash flow.

Without proper cash management, no matter how quickly a company’s sales or profit reported in the income statement increases, a business cannot survive without carefully ensuring that it is taking in more money than it does. ‘she does not send.

When analyzing a company’s cash flow statement, it is important to consider each of the different sections that contribute to the overall change in the cash position. In many cases, a business can have negative overall cash flow for a given quarter, but if the business can generate positive cash flow from its business operations, negative overall cash flow is not necessarily a bad thing.

Below, we’ll cover cash flow from financing activities, one of the three main categories of cash flow statements. The other two sections are cash flow from operations and cash flow from investing activities. The cash flows in the financing section of the cash flow statement generally follow the operating activities and investing activities sections.

Key points to remember

  • The cash flow statement examines the inflows and outflows of cash within a business.
  • While a company’s business operations can generate positive cash flow, negative overall cash flow is not necessarily bad.
  • Cash flows from financing activities are one of the three categories of cash flow statements.
  • The financing activity in the statement of cash flows focuses on how a company raises capital and repays it to investors through the capital markets.
  • The most important items in the statement of cash flows from financing activities are dividends paid, repurchases of common shares and proceeds from debt issuance.
  • Cash flow from financing activities helps investors see how often and how much a business is raising capital and the source of that capital.
  • If a company’s money comes from normal business operations, it is a sign of a good investment. If the company regularly issues new shares or incurs debt, this can be an unattractive investment opportunity.

Cash flow from financing activities

The financing activity in the statement of cash flows focuses on how a company raises capital and repays it to investors through the capital markets. These activities also include paying cash dividends, adding or changing loans, or issuing and selling more shares. This section of the cash flow statement measures the cash flow between a business and its owners and creditors.

A positive number indicates that cash has entered the business, which increases its asset levels. A negative number indicates when the company has paid out capital, for example by pulling out or paying off long-term debt or paying a dividend to shareholders.

The following are examples of current cash flow items arising from a company’s financing activities:

A negative overall cash flow is not always a bad thing if a business can generate positive cash flow from its operations.

Reasons for funding

Fundraising activities show investors exactly how a business finances its activity. If a business needs additional capital to grow or maintain its business, it accesses capital markets through the issuance of debt or equity. The decision between debt financing and equity financing is guided by factors such as cost of capital, existing covenants and financial health ratios.

Large, mature companies with limited growth prospects often decide to maximize shareholder value by returning capital to investors in the form of dividends. Companies that hope to return value to investors may also choose a share buyback program rather than paying dividends. A company can buy its own shares, thereby increasing future income and cash returns per share. If senior management believes stocks are undervalued in the open market, buybacks are an attractive way to maximize shareholder value.

Consider Apple’s 2014 10-K Filing (AAPL). The most important items in the financing section’s cash flow are dividends paid, repurchase of common shares and proceeds from debt issuance. Dividends paid and repurchases of common stock are uses of cash, and the proceeds from debt issuance are a source of cash.

As a mature company, Apple has decided that shareholder value is maximized if cash is returned to shareholders rather than used to repay debt or fund growth initiatives. Although Apple was not in a phase of high growth in 2014, senior management likely identified the low interest rate environment as an opportunity to acquire financing at a cost of capital below the rate of return. expected of these assets.

Likewise, consider Kindred Healthcare’s 10-K filing in 2014. The company engaged in a number of fundraising activities in 2014 after announcing its intention to acquire other businesses. Notable items in the financing cash flow section include proceeds from borrowing under a revolving credit facility, proceeds from the issuance of notes, proceeds from a share offering, repayment of loans under a revolving credit facility, repayment of a term loan and dividends paid.

Although Kindred Healthcare has paid a dividend, equity offering and debt expansion are more important components of fundraising activities. The Kindred Healthcare leadership team had identified growth opportunities requiring additional capital and positioned the company to take advantage of them through fundraising activities.

In 2018, Kindred Healthcare was acquired and became a private company.

Accounting standards: IFRS vs GAAP

Companies based in the United States are required to report in accordance with generally accepted accounting principles (GAAP). International Financial Reporting Standards (IFRS) are used by companies outside of the United States. Below are some of the key distinctions between the two standards, which boil down to different category choices for cash flow items. These are simply class differences that investors should be aware of when analyzing and comparing the cash flow statements of a US based company with a foreign company.

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Understanding the balance sheet

The analysis of the cash flow statement is extremely valuable because it helps to reconcile the beginning and ending liquidities of the balance sheet. This analysis is difficult for most publicly traded companies due to the thousands of items that can go into financial statements, but the theory is important to understand.

A company’s cash flows from financing activities generally relate to the equity and long-term debt sections of the balance sheet. One of the best places to observe changes in the financing section of cash flow is in the Consolidated Statement of Equity. Here are the 2011 figures of Covanta Holding Corporation:

The $ 88 million common share buyback breaks down into a reduction in paid-up capital and accrued earnings, as well as a $ 1 million decrease in treasury stock. In Covanta’s balance sheet, the treasury stock balance declined by $ 1 million, demonstrating the interaction of all major financials.

To summarize other links between a company’s balance sheet and cash flows from financing activities, changes in long-term debt can be found on the balance sheet, as well as in the notes to the financial statements. Dividends paid can be calculated by taking the opening balance of retained earnings from the balance sheet, adding net income and subtracting the final value of retained earnings from the balance sheet. This corresponds to dividends paid during the year, which are shown in the cash flow statement under financing activities.

What to look for

An investor wants to closely analyze how much and how often a company raises capital and the sources of capital. For example, a business that relies heavily on outside investors for large and frequent cash injections might have a problem if capital markets were to crash, as it did during the credit crunch in 2007.

It is also important to determine the timeframe of the debt raised. Raising equity is generally viewed as access to stable, long-term capital. The same can be said for long-term debt, which gives a business the ability to pay off (or pay off) its debt over a longer period of time. Short-term debt can be heavier because it has to be paid off sooner.

The bottom line

A company’s cash flow from financing activities refers to the inflows and outflows of cash resulting from the issuance of debt, the issuance of shares, the payment of dividends and the repurchase of existing shares. It is important to investors and creditors because it describes how much of a company’s cash flow is attributable to debt or equity financing, as well as its history of paying interest, dividends, and cash. other obligations. A company’s cash flow from financing activities is tied to the way it works with capital markets and investors.

Using this section of a cash flow statement, one can learn how often (and in what amounts) a business raises capital from sources of debt and equity, as well as how it repays these items over time. time. Investors are interested in understanding where a company’s money comes from. If it comes from normal business operations, it is a sign of a good investment. If the company regularly issues new shares or incurs debt, this can be an unattractive investment opportunity.

Creditors want to understand a company’s history of paying off debt, as well as how much debt the company has already incurred. If the business is heavily in debt and hasn’t paid monthly interest, a creditor shouldn’t lend money. Alternatively, if a business has low debt and a good history of debt repayment, creditors should consider loaning it money.


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