The comparative cash flow statements from Sears and Wal-Mart are presented above

Question

The comparative cash flow statements from Sears and Wal-Mart are presented above. Amounts presented are in millions. Review both statements considering what you've learned in this chapter about the cash flow statement.

Answer the following questions:

When analyzing a company's cash flow statement, which section of the statement (operating, investing or financing) do you believe is the best predictor of a company's future profitability? Why?

Which company do you believe is healthier based on the cash flow statements presented? Provide at least two specific examples from the statements.

Sears Holding Corporation Statements of Cash Flows (in millions) Year Ended Jan 30, 2016 Jan 31,2015 Feb 1, 2014 Operating activities: Net income (loss) Adjustments to convert to cash basis (1,128) (1,039) (2,167) (1,810) 423 (1,387) 7 (1,109) Net cash from operations Investing activities Sales of property and investments Purchases of PP&E; Other investing activities 424 (270) 173 327 2,730 (211) 995 (329) Net cash used in investing 2,519 664 Financing activities: 1,025 (80) 994 (83) 238 (14) (233) 902 (38) 419 609 1,028 Proceeds from issuance of debt Repayments of debt Other increases (decreases) in debt Dividends paid for Sears Canada Other financing activities (1,405) 1,091 (50) (27) 484 285 (364) Net cash provided(used) by financi Effect of exchange rates Net change in cash Cash, beginning of year Cash, end of year (12) 250 238 (778) 1,028 250

Explanation / Answer

Analysis of multiple financial statements gives a true picture of an organisation's financial health. Cash flow statement represents the cash position of an organisation and in isolation, it cannot give the true picture of an organisation's finances. There was a study done by Messrs Casey and Bartczak for 290 companies of which 60 were declared bankrupt and only their cash flow statement couldn't reveal anything as such. However, if the context is only about the cash flow statements, the following would be the answers to the questions

1. Amongst the three, Cash from Operations would be the best predictor of a company's financial health. This is because Operating cash flow talks about the core business operation of any organisation and a major component of that is Sales(at times, which is also positively correlated to the stock price). As per FASB, the greater the amount of cash flow from operations, the greater is its ability to withstand adverse changes in operating conditions. Financing and Investing activities are support activities that flow and help the operations.

In the analysis of Sears and Wal-Mart above,

Sears has consistent loss making operations (as depicted from its cash from operations). It has positive cash from Investing and Finances predominantly coming from sale of Plant or other assets or from increase in borrowings.

Whereas Wal-Mart has consistent profit making operations and the money is being used in Investing and Financing activities to purchase additional plant (resulting in future earning potential) or to repay debt (reduced cost) or to pay dividend (Keep shareholder's happy).

These basically imply that WalMart may be having better business operations and hence Cash from operations is a better indicator of future profitability.

2. Looking only at the Cash flow statements: Walmart looks healthier than Sears for the following reasons

a. Consistent positive cash from operations (both in accrual and cash basis shown by Net Income or loss in the operating section) implying a steadier business operation as compared to Sears. The Operating Loss % of Sears has increased from 25% to 56%.

b. WalMart is investing in PP&E (shown by purchase or sale of PP&E under Investing section) which is a healthy sign of a growing business whereas Sears is selling its Plant which shows its inability to meet cash flow demands.

c. Under the Financing section, WalMart is able to pay dividends to its common stock holders and is able to reapy its debts. Whereas Sears is borrowing additional debt and is unable to pay any dividends.

Hope this answer helps

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