cash flow statement
The cash flow statement shows the sources of inflows and outflows of an organization for a specific accounting period, often quarterly and annually. As such, the analysis of reports of cash flows helps determine the liquidity and solvency of a firm. Noteworthy, a statement of cash flow uses cash instead of accrual basis accounting, implying that a firm could accrue revenues without actually receiving the money. A company may produce profits and taxes payable but fails to generate the required resources to stay solvent. For this reason, analysis of such statements provides insight into the solvency and liquidity by segmenting inflows and outflows into financing, operations, and investing. It reveals the ability of an entity to meet future obligations for capital and growth.
Analysis of operational cash flows reveals the viability of the business plan and operations. In the long-term, the inflows generated from operations determine the firm’s solvency and its ability to pay the outflows from financing and investing activities. Moreover, the analysis of statements of cash flows helps the management to design a short-term plan based on the available cash. It also helps financial managers to project the flow of the f based on the previous cash inflows and outflows. Cash flow statement to compare actual cash flows with the expected budget aimed to assess the cash requirement of in the future. Overall, the analysis of reports of cash flows helps the management in prioritizing activities because it reveals required changes in a company’s financial position.
Question 2
Financial statement analysis or evaluation of firm financial statements helps assess an entity’s financial health. The primary tools for assessment include the balance sheet, the income statement, and the cash flow statement. The reports provide crucial information on profitability, the financial condition, and sources of cash of a business. Based on this fact, a good analyst should consider the following factors to evaluate adequately the financial statements of an entity: the structure of the financial statements, strategic plans of a firm, and the economic characteristics of the industry, where the firm under review operates. An analyst must consider the value chain of activities that a firm uses to manufacture and distribute its products and services.
Besides, a good analyst should identify company strategies, such as the level of profit margins, the uniqueness of products, and the costs of production. It is essential to consider geographic and industry diversification, as well as supply chain integration. A good financial analyst must assess the quality of such statements based on the relevant accounting standards. He or she must analyze the current risks and profitability of the firm. A good analyst should consider different valuation approaches such as accounting-based measures, discounted cash flow method, and economic value added to value the firm.
Question 3
An American call option gives an investor the right to buy a security at a price within a given period. The lower bound for an American call option is equivalent to the sum of a security’s intrinsic and time value. In other words, an American call option has a lower bound of zero. On the other hand, the upper bound is the price of an asset at any time, usually lower than the cost of the underlying stock at any time. That is, the upper bound of an American call option is the underlying stock price for both dividend and non-dividend paying stocks.
Violation of the upper bound implies that it would be cheaper for an investor to purchase the security directly in the spot market. For this reason, the maximum option price must always be equal to the stock price at that time. Similarly, violation of the lower bound for an American call option would imply a negative value, but an option cannot sell below its intrinsic value.