Using accounting equation analysis to teach the statement of cash flows in the first financial accounting course

Understanding the statement of cash flows requires that students have some knowledge of accrual-basis accounting. This means that coverage of the statement of cash flows is deferred until late in the introductory financial accounting course and related textbooks, a time when student motivation and retention may be waning. The timing of statement of cash flow coverage is unfortunate for two reasons. First, the statement of cash flows is an important topic that all business students need to understand. Second, most students understand cash flows at the start of their financial accounting class, so there is no reason to defer coverage of this topic.This paper describes a user-oriented, pedagogical approach to integrating the statement of cash flows throughout the first financial accounting course. The essence of this approach is the use of an expanded accounting equation with temporary cash accounts corresponding to the major categories on the statement of cash flows. Directly capturing cash flow information simplifies the preparation of the statement of cash flows.     

The value relevance of cash flows, current accruals, and non-current accruals in the UK

Cash flow statements have a longstanding history as mandated financial statement disclosures, having replaced funds flow statements. The usefulness of such disclosures with respect to one of the main purposes of financial statements—providing information relevant to the assessment of future cash flows and their uncertainty, and the market value of firms—is still subject to debate. This study investigates whether various partitions of earnings involving combinations of a cash flow measure of performance and measures of current accruals and non-current accruals improve the ability to explain market values in the UK relative to using earnings alone. Using a valuation model-based methodology, and employing a UK sample of non-financial firms for the years 1993 to 2007, our results suggest strong support for the assertion that cash flows can have incremental value relevance relative to either earnings or funds flows. By implication, cash flows can have separate value relevance from total and, in particular, current accruals. There is slightly less consistent evidence that current and non-current accruals can have separate value relevance but, nonetheless, the results are still strongly in favour in this respect. Generally, the main source of increase in explanatory power for market values is the separate inclusion of our cash flow measure in the estimated regressions. As a consequence, we conclude that the statement of cash flows in the UK provides information useful to UK investors in valuing firms. Further, requiring a cash flow statement, as opposed to a funds flow statement, improves the information content of financial statements in the UK.     

Two Different Ways of Treating Corporate Cash in FCF Valuations—and the Importance of Getting the Cost of Capital Right

The methods for calculating free cash flow presented in texts on financial statement analysis and valuation appear to be very different from those in corporate finance texts, causing some confusion among academics as well as practitioners. Financial statement analysis and valuation texts generally begin by valuing just the enterprise operations—that is, the entity that engages in the firm's primary revenue‐generating activities—and then adding back the value of its cash holdings and other financial assets. The corporate finance approach is typically to value all the assets together, including financial assets that are not used in the production of the goods and services provided by the firm. Using a simple example, the authors show that the valuation of the equity ownership of the firm should be the same for both methods of calculating free cash flow, provided the analyst makes the appropriate adjustments to the method for calculating the cost of capital (WACC) used to discount forecasted free cash flows to a present value.     

A cash flow approach to the statement of changes in financial position

Increased emphasis on managing and reporting the cash flows of companies has been articulated by academics, professional organizations, and business managers. However, traditional accounting textbooks and course syllabi have been slow to relinquish a working capital focus for the statement of changes in financial position (SCFP). This article presents a cash flow approach to the SCFP that is ideal for classroom instructional purposes because it is intuitively appealing, managerially oriented, and reflective of a growing number of companies' public disclosures.     

An Empirical Examination of Cash Flow Measures

In recent years in the United States and Canada, there has been an increasing interest in cash flow reporting and a strengthening belief that information on cash flows is valued in the marketplace. However, little research has been devoted to the issue. Regulatory bodies in the U.S. (Financial Accounting Standards Board) and Canada(Canadian Institute of Chartered Accountants) require that an enterprise should disclose separately cash flows from operating, financing and investing activities in their cash flow statements. The data in the cash flow statements are expected to help investors assess the firm's liquidity, financial flexibility and risk. On the other hand, the British Accounting Standards Committee (ASC) does not require a statement of cash flows. This study employs a cross-sectional equity valuation model to examine the association of cash flows from operating, financing and investing activities with security prices. A sample of 403 U.S. firms is used for the ten-year period of 1976–85. The results of this study indicate that there exists a strong association between the various cash flow components included in the cash flow statements and the market value of the firm.     

Organizational Structure and Performance: Evidence From the Nonlife Insurance Industry in Japan

This study examines the impact of organizational structure on firm performance, incentive problems, and financial decisions in the Japanese nonlife (property‐casualty) insurance industry. Stock companies that belong to one of six horizontal keiretsu groups have lower expenses and lower levels of free cash flow than independent stock and mutual insurance companies. Keiretsu insurers also have higher profitability and higher loss ratios than independent insurers. With a limited sample size, there is some evidence that mutual insurers have higher levels of free cash flows, higher investment incomes, and lower financial leverage than their stock counterparts. Overall, empirical evidence suggests that each structure has its own comparative advantage.     

The Predictive Ability of Direct Method Cash Flow Information

This research examines the predictive ability of direct method cash flow information for firms that use the direct method in their cash flow statements. We use cross sectional and pooled time series regressions to predict operating cash flow data and assess relative predictive ability. Principal findings are: (1) past period direct method cash flow data predict future operating cash flow better than indirect method cash flow data; (2) past period direct method gross operating cash flows predict future net operating cash flow better than past period net operating cash flow; (3) measurement error exists in estimates of direct method operating cash flows from other financial statement data; (4) past operating cash flows predict future operating cash flows better than earnings and accruals.     

Effects of financial constraints on corporate policies in Australia

We jointly study the impact of financial constraints on Australian companies’ investment decisions and demand for liquidity. By examining a large sample of Australian firms over the period 1990–2003, we find that financial constraints not only reduce the sensitivity of investment to the availability of internal funds, but also increase the responsiveness of cash holdings to internally generated cash flows. Further analysis shows that the impact of financial constraints varies across different cash flow states; that is, financial constraints have a small effect on corporate investment and cash policies when cash flows are positive. In contrast, the severity of constraints is high in negative cash flow years in which the cost disadvantage of external finance coincides with deteriorating operating performance.     

The effect of cash flow statement format on lenders' decisions

This study investigates bank loan officers' use of financial information and reports, in particular, cash flow information and the statement of cash flow (SCF), in making lending decisions. Subjects were drawn from four groups of frequent users of financial reports-bank loan officers, auditors, financial analysts and accounting academics. Each subject was presented with the annual reports of two loan applicant companies to make two independent lending decisions based on the information provided. The SCF of one of the companies was presented in the direct format, while the other was presented in the indirect format. The indirect format of SCF was used as a surrogate for the funds flow statement. Results show that, while cash flow was the second most used financial information, the majority of the subjects obtained this information from financial statements other than the SCF, notably, the balance sheet. In terms of financial report usage, notes to the financial statements, rather than the SCF, was most frequently used. No subject made use of the incremental information provided in the SCF presented in the direct format. The results suggest that loan officers do not use the cash flow information provided by the SCF, but rely on the accounting information provided in the FFS and accrual-based financial reports.     

Industry upheaval and valuation: Empirical evidence from the international oil and gas industry

Accounting literature suggests that contemporaneous earnings are more useful than current operating cash flow in predicting future cash flows and, therefore, also more relevant for company valuation. However, recent research indicates that elevated levels of merger and acquisition activity or a changing economic environment may reduce the value relevance of earnings. Using the oil and gas industry as a case, this paper examines how the oil industry upheaval in the late 1990s influenced the value relevance of financial statement information. We extend the literature by testing for a structural shift in the equity market valuation process. Our results provide evidence of a structural break in the value relevance of accounting information. In contrast to prior research, we find that the value relevance of cash flows actually decreased in the recent oil industry upheaval. On the other hand, the value relevance of book equity increased. Furthermore, we find that accounting-method choice (full cost versus successful efforts) affects the value relevance of accounting information.     

融资约束、支付方式与并购绩效的关系研究

本文利用中国A股上市公司2008～2010年在国内并购的数据,实证检验融资约束是否影响并购支付方式以及公司并购绩效。研究结果发现,融资约束程度的提高增加了公司采用现金支付对价的可能性;收购公司规模和交易规模对支付方式选择也具有显著影响;融资约束公司并购绩效好于无融资约束公司并购绩效;现金支付引起公司并购绩效降低,但是,这种作用在不同融资约束程度公司中存在差异。本文研究意味着融资约束公司遵循融资优序理论;自由现金流假说对于融资约束公司可能不成立。     

An Evaluation of the Decision Usefulness of Cash Flow Statements by Australian Reporting Entities

In June 1991, the Australian Accounting Standards Board issued AASB 1026, Statement of Cash Flows. Since replacing the funds flow statement, the new accounting standard has become a compulsory part of Australian corporate financial reporting. In contrast to cash flow developments in the US and UK. the emergence of AASB 1026 has been preceded by almost no significant research attention by Australian academics. This study surveyed the attitudes to cash flow statements of 210 public companies listed on the Australian stock exchange. Findings revealed that there was particularly strong support for the essential provisions of AASB 1026 and the underlying principles of cash flow reporting. The results indicated that the cash flow statement is important for a wide variety of internal and external decision contexts, and appealed to a wide range of users. Furthermore, compared with previous research (e.g. McEnroe, 1989), the present survey demonstrated that operating profit was not considered by a large number of Australian companies to be a superior measure of business performance to operating cash flow.     

基于自由现金流管理视角的创值动因解析模型研究

以创值为目标、(自由)现金流为对象的现金流创值财务学要解决的主要问题是企业如何从(自由)现金流的角度进行财务管理从而实现价值最大化的目标。本文借鉴拉巴波特模型和杜邦分析系统的思想构建自由现金流管理视角的创值动因解析模型,为企业精细化地进行现金流管理提供一个有价值的分析工具。依据创值动因解析模型的分析结果,企业可以有针对性的采取相应的财务管理措施,实现价值创造。     

The Usefulness of Direct and Indirect Cash Flow Disclosures

We investigate the ability of disclosed operating cash flow and indirect accruals components to explain annual returns for a sample of Australian firms. Consistent with claims made by accounting standard setters, we find evidence of significant explanatory power for disclosed operating cash flow components beyond aggregate operating cash flows when they also have significant incremental predictive power for future (one year ahead) operating cash flows. Accrual components also have incremental explanatory power for returns. In addition, we find evidence of significant explanatory power for operating cash flow components beyond estimates of the components (based on other financial statement disclosures) for firms with large differences between disclosed and estimated components.     

Cash Flow Sensitivity of Investment

Investment cash flow sensitivity is associated with both underinvestment when cash flows are low and overinvestment when cash flows are high. The accessibility of external capital is positively correlated with cash flows, intensifying investment cash flow sensitivity. Managers actively counteract the variations in internal and external liquidity by accumulating working capital when liquidity is high and draining it when liquidity is low. These results imply that cash flow sensitive firms face financial constraints, which are binding in low cash flow years. Traditional indicators of financial constraints, such as size and dividend payout, successfully distinguish firms that may potentially face constraints, but are less successful in distinguishing between periods of tight and relaxed constraints. These periods are much more clearly separated by the KZ index, which, on the other hand, is less successful in identifying firms that are likely to face liquidity constraints.     

Index investors and the return of stewardship accounting

Passive asset managers, seeking to deliver investment returns that mirror market indices, now control and vote about 30% of all managed U.S. shares. When bad news surfaces, index investors do not sell a company's shares. Instead, these beneficial owners protect the value of equity investments by influencing governance practices to restore long-term value creation. Interviews with stewardship offices at leading index investment firms suggest that passive investors do not use financial accounting information to value securities. The implication of this study is that the current focus of accounting standard setting – predicated on the idea that the purpose of financial reporting is to permit prediction of future cash flows – does not meet the needs of a particular group of financial statement users who have considerable influence over the governance of leading listed companies around the world.     

What Drives Anomaly Returns?

We decompose the returns of five well-known anomalies into cash flow and discount rate news. Common patterns emerge across the five factor portfolios and their mean-variance efficient (MVE) combination. Whereas discount rate news predominates in market returns, systematic cash flow news drives the returns of anomaly portfolios and their MVE combination with the market portfolio. Anomaly cash flow and discount rate shocks are largely uncorrelated with market cash flow and discount rate shocks and with business cycle fluctuations. These rich empirical patterns restrict the joint dynamics of firm cash flows and the pricing kernel, thereby informing models of stocks' expected returns.     

Do core and non-core cash flows from operations persist differentially in predicting future cash flows?

This study investigates the persistence of cash flow components (core and non-core cash flows) using a cash flow prediction model. By extending the Barth, Cram, and Nelson (Account Rev 76(January):27–58, 2001) model, we examine the role of cash flow components in predicting future cash flows beyond that of accrual components. We propose a cash flow prediction model that decomposes cash flows from operations into core and non-core cash flow components that parallel the presentation and format of operating income from the income statement. Consistent with the AICPA and financial analysts’ recommendations, and as predicted, we find that core and non-core cash flows defined in our paper are differentially persistent in predicting future cash flows; and these cash flow components enhance the in-sample predictive ability of cash flow prediction models. We also analyze the association of in-sample prediction errors with earnings, cash flow and accruals variability. We find that disaggregating cash flows improve in-sample prediction, especially for large firms with high cash flows and earnings variability.

基于CFaR模型与Logistic回归的财务困境预警研究

从现金流风险角度出发,对企业财务困境进行预警研究：首先构建一个基于企业内部环境、宏观经济政策、货币政策及财政政策等因素的CFaR模型,识别出期望现金流及风险现金流;然后以这两个指标作为预警变量,构建一个二元Logistic财务困境预警模型;最后选取27家中国证券市场中代表陷入财务困境的ST公司及配对的财务良好的非ST公司作为样本进行实证研究。结果表明,所构建的CFaR模型能较好地度量两类上市公司的现金流状况,且两类公司的期望现金流和风险现金流水平存在显著的差异;二元Logistic预警模型能较好地实现对上市公司财务风险的预警,对两类公司的预警正确率分别达到85.2%和81.5%。     

Articulation in cash flow statements: a resource for financial accounting courses

Recent accounting research (Bahnson, P., Miller, P., & Budge, B. (1996). Nonarticulation in cash flow statements and implications for education, research and practice. Accounting Horizons, 10, 1–15 has shown that firms implementing the indirect method for reporting cash flows under SFAS 95 rarely produce financial statements that articulate cleanly. The purposes of this paper are (1) to provide financial accounting educators with a list of companies for which articulation does exist, (2) to describe the process by which educators can update the list in the future, or modify it to suit their own preferences, and (3) to present an analysis of firms’ reporting practices on the cash flow statement, which may be of interest to more advanced students studying the complexities of the statement of cash flows. This analysis of reporting practices involves an assessment of the articulation of individual COMPUSTAT line items (e.g. inventory) and subsets of line items (e.g. inventory, receivables, deferred taxes, and depreciation) for the 1998 data year. The findings indicate that relatively few firms report consistent values for single line items and that very few firms report consistent values across subsets of line items. Although the rate of articulation decreases as firm size, and hence reporting complexity, increases, 74 large, publicly-traded firms for which clean articulation does exist were identified. This list of firms should prove useful to introductory accounting educators who use real-world examples for classroom purposes.