Cash flow estimation.pptx.pdf

lesson

1. CASH FLOW
ESTIMATION

2. PRESENTERS
GISELLYN
ENRIQUE
CRISTINA
FERNANDEZ
VERONICA
EMMANUEL JAYME
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3. Overview of Capital
Budgeting and Expenditure
Capital Budgeting
❏The process of identifying, evaluating and selecting
investments whose returns (cash flows) are expected
to extend beyond one year ie Long term investments
Capital Expenditure
❏are those expenses that provide a benefit for more
than one accounting period
Revenue Expenditure
❏are those for which the benefit is realized within a
single accounting period

4. Importance of Cash
Flow/Capital Budgeting
Decisions:
❏Long-term effects
❏Irreversible
❏Substantial outlays

Difficulties:
❏Measurement problems
❏Uncertainty
❏Temporal spread

5. Cash Flow Estimation
Classification of Investment Project Proposals:

❏New products or expansion of existing products
❏Replacement of existing equipment or buildings
❏Infrastructure Projects
❏Research and Development
❏Exploration
❏Mandatory Requirements (e.g. safety or pollution
related)
❏Others – welfare related like Townships etc.

All these could be Independent or Mutually Exclusive.

6. Cash Flow Estimation
Executives/Professionals involved in Capital
Budgeting:

❏Engineering Teams – for outlays
❏Plant Managers – for giving their inputs
❏Production Team of Engineers – for operational
costs
❏Marketing Team – for estimation
❏Finance Team – for working out the financial data
❏Capital Expenditures committee
❏President
❏Board of Directors

7. Capital Budgeting and Estimating
Cash Flows
The Capital Budgeting Process:
❏Generate investment proposals consistent with
the firm’s strategic objectives
❏Estimate after-tax incremental operating cash
flows for the investment projects
❏Evaluate project incremental cash flows
❏Select projects based on a value-maximizing
acceptance criterion.
❏Reevaluate implemented investment projects
continually and perform post audits for completed
projects.

8. Principle of Cash Flow


❏Separation Principle

❏Consistency Principle

❏Post Tax Principle

❏Incremental Principle

9. Principle of Cash Flow
Separation Principle

❏Cash flow associated with the investment side
and financing side of the project should be
separated.

❏While defining the cash flows on the
investment side, financing costs should not be
considered because they will be reflected in
the cost of capital figure against which the rate
of return figure will evaluated.

10. Separation Principle
A firm is considering a one-year project that
requires an investment of Php 1.0 million in
fixed assets and working capital at time 0. The
project is expected to generate a cash inflow of
Php 1.2 million at the end of year 1 and this is
the only cash inflow expected from the project.
The project will be financed entirely by debt
carrying an interest rate of 15% and maturing
after a year. Assume there are no taxes.

11. Separation Principle

12. Principle of Cash Flow
Consistency Principle


❏Cash flow should be consistent as to the
discount rates and estimating the cash flows. If
distorted, then the purpose will be defeated.

❏Investors’ and Inflation factors have to be
factored in the cash flow

13. Consistency Principle

Investor group:
the consistency principle suggests the following match
up:
Cash FlowDiscount rate
Cash flow to all investorsWeighted average cost of capital
Cash flow to equity shareholdersCost of equity

Inflation:
the consistency principle suggests the following match
up:
Cash FlowDiscount rate
Nominal Cash flowNominal discount rate
Real Cash flow Real discount rate

CC

14. Principle of Cash Flow
Post Tax Principle


❏Cash flows should be measured on a post-tax
basis

❏The marginal tax rate of the firm is the relevant
rate for estimating the tax liability of the firm.

❏Non cash charges do affect cash flows.

15. Post Tax Principle
Treatment of Loss:

16. Principle of Cash Flow
Incremental Principle

❏To ascertain a project’s incremental cash flow you
have to look at what happens to the cash flow of
the firm with the project and without the project.

❏Guidelines:
❏consider all incidental effects
❏ignore sunk costs
❏include opportunity costs
❏question the allocation of overhead costs
❏estimate working capital properly

17. Data Required - Identifying
Relevant Cash Flow
1.Cash Flow vs Accounting Profit:

Cash Flow method is a better of measuring
Economic Viability;

❏Accounting Profits/losses include Non Cash
Expenses and will not give an accurate picture of
the economic viability of the Investment proposal.
Cash Flows will describe the Cash Transactions
the company will experience once the Project is
accepted.

18. Data Required - Identifying
Relevant Cash Flow
❏There are Accounting ambiguities in determining
net profits under Accounting profits eg Valuation
of Inventories, allocation of costs, methods of
depreciation, provisions etc. Cash Flow method
provides a near perfect picture of the economic
viability of the Investment proposal
❏Cash Flow method recognizes the Time value of
money whereas Accounting profits are more
historical and on accrual basis.

19. Data Required - Identifying
Relevant Cash Flow
Particulars
Accounting
Approach
Cash Flow
Approach
Revenues – Sales (1) 50,000 50,000
Less: Cost of Sales (2)
Materials 20,000 20,000
Labor 6,000 6,000
Other Expenses 4,000 4,000
Depreciation 10,000 0
Total Cost 40,000 30,000
Earnings/Cash Flow before Tax (1-2) 10,000 20,000
Tax (30%) 3,000 6,000
Net Earnings/Cash Flow after Tax 7,000 14,000

20. Data Required - Identifying
Relevant Cash Flow

2. Incremental Cash Flow

❏These are cash flows WITH the Proposed Project
MINUS the company’s cash flow WITHOUT the
Project.
❏Cash Flows (and only those cash flows) which are
directly attributable to the Investment are considered/
❏Eg. Fixed Overhead costs which remain the same
whether the proposal is accepted or rejected are not
considered.
❏If there is an increase in the FO costs due to the new
proposal they may be considered.

21. Relevant and Irrelevant Cash Outflows:
Relevant for Cash Outflows:
❏Cost of the Investment
❏Variable Cost – Material and Labor
❏Additional Fixed overheads
❏Taxes
❏Effects of Inflation
❏Opportunity Costs

Irrelevant for Cash Outflows:
❏Fixed overheads
❏Sunk costs.

22. Ingredients of Cash Flow Streams

❏Tax effect
❏Cash flows are to be considered net of
taxes.
❏If the company is loss making any profit can
be set off against the losses incurred earlier.
❏Effect of Indirect Expenses
❏Depends on whether the amount of
overheads will change as a result of the
decision. If yes, then it should be factored. If
there is going to no change, then they are
not relevant.

23. Ingredients of Cash Streams
❏Effect on Other Projects
❏May have an effect on the proposed project.
Eg. An existing product may suffer due to
the new project. This has to be factored.
The new project evaluation cannot be
isolated and taken as it is.
❏Any reduction in cash flow of the proposed
project.

24. Ingredients of Cash Flow Streams

❏Effect of Depreciation
❏Is a non cash expenditure which does not
have a cash outflow but has to be deducted
while working out the tax on the net cash
flows and evaluation there after.
❏Companies Act prescribes various
depreciation rates
❏Normally two methods are used – Straight
line method or WDV method
❏Income tax Act provides rates which are also
followed by many companies in their books.

25. Ingredients of Cash Streams
❏Effect of Working Capital
❏Constitutes another important ingredient
which directly affects the proposal. It is a
cash outflow in the year there is an increase
in the net Working Capital requirement.

26. STATEMENTS OF CASH FLOWS
Statement of cash flows
provides information about the
cash receipts and cash
payment of an entity during the
period. It is a formal statement
that classifies cash receipts
(inflows) and cash payments
(outflows) into operating,
investing and financing
activities.

28. CASH FLOW FROM OPERATING ACTIVITIES
Cash inflows:
●Receipts from sale of goods and performance of
services
●Receipts from royalties, fees, commission and
other revenues
Cash outflows:
●Payments to supplier of goods and services
●Payments to employees
●Payments of taxes
●payments of interest expense
●payments for other operating
expenses
REVENUE ACCOUNTS EXPENSE ACCOUNTS AR/AP ACCOUNTS

29. CASH FLOW FROM INVESTING ACTIVITIES
Cash inflows:
●Receipts from sale of property & equipment
●Receipts from sale of investments in debt or
equity securities
Cash outflows:
●Payments to acquire property & equipment
●Payments to acquire debts or equity securities
●Payments to make loans to others generally in
the form of notes receivable.
NON-CURRENT ASSETS
NOTES RECEIVABLE
ACCOUNT
DEBT SECURITIES

30. CASH FLOW FROM FINANCING ACTIVITIES
Cash inflows:
●Receipts from investments by owners
●Receipts from issuance of notes payable
Cash outflows:
●Withdrawals of the owner
●Payments to settle notes payable
OWNER’S EQUITY WITHDRAWALS
NOTES PAYABLE
ACCOUNT

32. The following are the various cash flows and
other information of ABC company for 2020
OUTFLOWS
INFLOWS
NON-CASH
OUTFLOWS
INFLOWS
OUTFLOWS
INFLOWS
OUTFLOWS
NON-CASH
OPERATING
INVESTING
FINANCING
NON-CASH
OPERATING
OPERATING
FINANCING
OPERATING
NON-CASH

33. ABC COMPANY
STATEMENT OF CASH FLOWS
For the year ended December 31, 2020

34. THANK YOU AND HAVE A GREAT DAY!!!