CHAPTER 2CASH FLOWS AND FINANCIAL STATEMENTS AT SUNSET BOARDSBelow are the financial statements that you are asked to prepare.

1. The income statement for each year will look like this:

Income statement2008 2009

  Sales $247,259 $301,392  Cost of goods sold 126,038 159,143  Selling & administrative 24,747 32,352  Depreciation 35,581 40,217  EBIT $60,853 $69,680  Interest 7,735 8,866  EBT $53,118 $60,814  Taxes 10,624 12,163  Net income $42,494 $48,651

  Dividends $21,247 $24,326  Addition to retained earnings 21,247 24,326

2. The balance sheet for each year will be:

  Balance sheet as of Dec. 31, 2008  Cash $18,187     Accounts payable $32,143  Accounts receivable 12,887     Notes payable 14,651  Inventory 27,119     Current liabilities $46,794  Current assets $58,193              Long-term debt $79,235  Net fixed assets $156,975     Owners' equity $89,139  Total assets $215,168     Total liab. & equity $215,168

In the first year, equity is not given. Therefore, we must calculate equity as a plug variable. Since total liabilities & equity is equal to total assets, equity can be calculated as:

Equity = $215,168– 46,794 – 79,235 = $89,139

  Balance sheet as of Dec. 31, 2009  Cash $27,478     Accounts payable $36,404  Accounts receivable 16,717     Notes payable 15,997  Inventory 37,216     Current liabilities $52,401  Current assets $81,411              Long-term debt $91,195  Net fixed assets $191,250     Owners' equity $129,065  Total assets $272,661     Total liab. & equity $272,661

The owner’s equity for 2009 is the beginning of year owner’s equity, plus the addition to retained earnings, plus the new equity, so:

Equity = $89,139 + 24,326 + 15,600Equity = $129,065

3. Using the OCF equation:

OCF = EBIT + Depreciation – Taxes

The OCF for each year is:

OCF2009 = $68,377 + 39,983 – 11,935 OCF2009 = $96,425

OCF2010 = $78,302 + 45,192 – 13,668 OCF2010 = $109,826

4. To calculate the cash flow from assets, we need to find the capital spending and change in net working capital. The capital spending for the year was:

Capital spending  Ending net fixed assets $214,184  – Beginning net fixed assets 176,400  + Depreciation 45,192  Net capital spending $ 82,976

And the change in net working capital was:

  Change in net working capital  Ending NWC $32,602  – Beginning NWC 12,810  Change in NWC $19,792

So, the cash flow from assets was:

  Cash flow from assets  Operating cash flow $109,826  – Net capital spending 82,976  – Change in NWC 19,792  Cash flow from assets $ 7,058

5. The cash flow to creditors was:

  Cash flow to creditors    Interest paid $9,962   – Net new borrowing 13,440  Cash flow to creditors –$3,478

6. The cash flow to stockholders was:

  Cash flow to stockholders    Dividends paid $27,336   – Net new equity raised 16,800   Cash flow to stockholders $10,536

Answers to questions

1. The firm had positive earnings in an accounting sense (NI > 0) and had positive cash flow from operations. The firm invested $19,792 in new net working capital and $82,976 in new fixed assets. The firm gave $7,058 to its stakeholders. It raised $3,478 from bondholders, and paid $10,536 to stockholders.

2. The expansion plans may be a little risky. The company does have a positive cash flow, but a large portion of the operating cash flow is already going to capital spending. The company has had to raise capital from creditors and stockholders for its current operations. So, the expansion plans may be too aggressive at this time. On the other hand, companies do need capital to grow. Before investing or loaning the company money, you would want to know where the current capital spending is going, and why the company is spending so much in this area already.