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Chapter 4: Statement of Cash Flows

About 45 minutes of reading and working. Read in order, and stop at every Pause and work box. The problems are the point, the prose is the setup.

The question this chapter answers

Costco's net income and its cash from operations are both in the billions, but they are never the same number, and in some years the gap runs to several billion dollars. Both are right. This chapter explains how a company can earn one amount and generate a different amount of cash, and why lenders and investors read the cash number first.

What you'll be able to do

  • LO4.1. Explain the purpose of the statement of cash flows and classify any cash flow as operating, investing, or financing. (we'll spend class time here)
  • LO4.2. Prepare the operating activities section using the indirect method: start from net income, add back noncash expenses, and adjust for changes in current assets and current liabilities. (we'll spend class time here)
  • LO4.3. Prepare the investing and financing sections from changes in long-term asset, liability, and equity accounts, and identify noncash investing and financing activities.
  • LO4.4. Assemble a complete statement of cash flows that reconciles to the change in the cash balance.
  • LO4.5. Prepare the operating section using the direct method and explain how it relates to the indirect method.
  • LO4.6. Interpret cash flow patterns: free cash flow, the relation between net income and operating cash flow, and what the three sections say about a company's stage. (we'll spend class time here)

Sections

  1. Where did the cash go? Three buckets
  2. Operating activities, the indirect way
  3. Investing and financing
  4. Putting the statement together
  5. The direct method
  6. Reading a statement of cash flows
  7. Summary, practice, and an exam-style warm-up

How to read this chapter

  • Check yourself boxes are ungraded. Answer before you reveal, then read the explanation even if you were right.
  • Pause and work boxes come in three flavors: a worked example, a faded example where you finish the last step, and a your turn with fresh numbers. Hit New numbers until it feels routine.
  • Nothing you type here is recorded anywhere. Practice as much as you like.
  • The last section has a practice set and a five-question, closed-book warm-up. Do the warm-up with no notes and a timer. It's the best predictor of how the exam will feel.