Page 502 - SBR Integrated Workbook STUDENT S18-J19

Chapter 25

Example 3

Cash flow analysis

Although Swan’s overall cash balance has decreased year-on-year, it
generated a healthy surplus from its trading operations. This is important and
would be looked at favourably by investors.

Swan made a significant loss on the disposal of PPE. It may be that
depreciation rates are too lenient, or that Swan has a significant amount of
surplus or idle assets. The impairment of goodwill suggests that business
combinations were overpaid for. These factors may point towards a future
decline in Swan’s performance.

Inventories and receivables have increased year-on-year. There may be valid
reasons for this, but it could suggest poor inventory management and
deterioration in credit control. These negative impacts on cash flow have been
offset by an increase in payables year-on-year. However, if the business is
taking longer to pay its suppliers then it might not be taking advantage of
prompt payment discounts. There may also be a risk that suppliers will
shorten or withdraw Swan’s credit facilities.

Swan has purchased PPE during the year. However, the amount spent on
PPE during the year is much lower than the annual depreciation charge.
Swan’s investment activities may not be sufficient to grow – or sustain – the
business, which may have a negative impact on future cash flows. However, it
might be that further PPE expenditure is not currently required, particularly if
Swan has sold surplus PPE.

In contrast to the relatively low PPE expenditure, Swan has paid a significant
dividend. This seems somewhat short-termist. Dividends are not mandatory,
and a smaller dividend payment would have prevented Swan ending the year
in a net overdraft position. Overdrafts incur high interest charges, and so this
decision demonstrates poor budgeting and cash management.

Conclusion

Swan generates strong net cash flows from its trading operations. However,
the large dividend payment and the negative year-end cash balance raise
questions about cash management and stewardship of assets. Moreover, the
impairments, losses on disposal, and lack of investment may suggest a
decline in future performance.

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