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Full disclosure: The statement of cash flows · PwC's accounting podcast

• 0:00
  SPEAKER_00: Thought Leadership from PWC's National Office Studios.
• 0:08
  SPEAKER_02: Welcome to PWC's Accounting Podcast.
• 0:11
  SPEAKER_02: I'm Heather Horn.
• 0:12
  SPEAKER_02: Thanks for tuning in to our full disclosure summer series, to show all about presentation and disclosure from the top of the financial statements down to the last footnote.
• 0:21
  SPEAKER_02: Well, it may sound like accounting 101, I guarantee you'll learn something new each episode.
• 0:27
  SPEAKER_02: Today's episode three, and so no surprise that our topic is the statement of cash flows.
• 0:33
  SPEAKER_01: Well, I think the cash flow statement is underrated, doesn't get a lot of attention in the close process, but I think it's really impactful.
• 0:42
  SPEAKER_01: I think it deserves a good amount of focus, just like the rest of the statements.
• 0:47
  SPEAKER_02: That's my guest, Suzanne Stefani, a director in PWC's national office and the producer of our quarterly webcast series.
• 0:54
  SPEAKER_02: The timing couldn't be better having her on today because now I get a chance to plug our second quarter at County Webcast happening June 16th, with two replays taking place June 24th and 29th.
• 1:06
  SPEAKER_02: Go to feelplant.pwc.com, sign up for that.
• 1:11
  SPEAKER_02: Let's start the show.
• 1:14
  SPEAKER_02: Suzanne, thanks for joining me again on the podcast to talk about one of our favorite topics, the cash flow statement.
• 1:20
  SPEAKER_02: And I thought for today we'd start with the foundation, which I think everyone would agree for the cash flow statement is cash.
• 1:28
  SPEAKER_02: And really cash, cash equivalents, restricted cash, et cetera.
• 1:32
  SPEAKER_02: So let's start there.
• 1:34
  SPEAKER_02: And how should our listeners be thinking about that?
• 1:36
  SPEAKER_01: Yeah, that's a good starting point, right?
• 1:39
  SPEAKER_01: Because the cash flow statement basically captures all movements in and out of cash and cash equivalents during the period.
• 1:45
  SPEAKER_01: So of course, the first thing you'd have to do is make sure you have a full inventory of all your cash and cash equivalent accounts to make sure you're capturing all the changes.
• 1:55
  SPEAKER_01: So of course it's it's pretty clear, right?
• 1:57
  SPEAKER_01: All the accounts that are in the cash line on the balance sheet are gonna get looped in there.
• 2:02
  SPEAKER_01: But cash and cash equivalents, it's not always just kept in that one line on the balance sheet.
• 2:08
  SPEAKER_01: So it's just important to make sure you really have a good full inventory.
• 2:12
  SPEAKER_01: So there's some other line items where cash or cash equivalents might show up.
• 2:16
  SPEAKER_01: For example, investments or other assets.
• 2:19
  SPEAKER_01: Sometimes you see it there.
• 2:21
  SPEAKER_02: Yes, and I know I was just gonna chime in.
• 2:23
  SPEAKER_02: I know from my own experience as an audit partner, things often hide in these other lines.
• 2:28
  SPEAKER_02: So I think that's a great reminder.
• 2:29
  SPEAKER_02: I cannot emphasize enough.
• 2:31
  SPEAKER_01: So, like for investments, you might find cash equivalents in there.
• 2:35
  SPEAKER_01: So cash equivalents are investments that have two characteristics.
• 2:40
  SPEAKER_01: So one, they have to be highly liquid, so readily convertible to known amounts of cash, and they have to be short-term.
• 2:47
  SPEAKER_01: So the maturity of those instruments has to be three months or less from the original purchase date that the company purchased it.
• 2:55
  SPEAKER_01: So some things you might see as cash equivalents could be treasury bills, commercial paper, certain money market funds, you know, really any of those types of investments that meet those two conditions.
• 3:06
  SPEAKER_02: So, Suzanne, you mentioned money market funds.
• 3:09
  SPEAKER_02: And again, I remember this can be a challenge because there's often multiple investments within a fund.
• 3:15
  SPEAKER_02: So, how should companies be thinking about money market funds?
• 3:18
  SPEAKER_01: Yeah, that's true.
• 3:20
  SPEAKER_01: So it's not just one thing you're looking at, right?
• 3:22
  SPEAKER_01: You've got these things underlying in the fund.
• 3:25
  SPEAKER_01: So if the money market fund meets the qualifying criteria that are listed in the 1940 Act for money market funds, it's we would say it's the cash equivalent.
• 3:36
  SPEAKER_01: Now, some of them don't meet that criteria.
• 3:38
  SPEAKER_01: So if you went if you're in that situation, then you really have to kind of dig into the fund's policies to determine if it really meets that definition.
• 3:48
  SPEAKER_01: And there's several points to consider.
• 3:50
  SPEAKER_01: So we have that listed out in our financial statement presentation guide.
• 3:54
  SPEAKER_01: But one thing I've seen that companies focus on is you have to look at the policy and whether or not the fund requires that it maintains a weighted average maturity of 90 days or less for its investments.
• 4:07
  SPEAKER_01: I've seen sometimes where a fund will say, you know, our weighted average maturity of our of our investments right now is 90 days or less, but there's nothing in the policy that actually requires that.
• 4:19
  SPEAKER_01: And that would likely cause it not to be considered a cash equivalent.
• 4:24
  SPEAKER_01: So it really depends, you know, facts and circumstances.
• 4:27
  SPEAKER_02: Okay, so Suzanne, sounds like this is a place companies definitely need to make sure they know all their facts.
• 4:32
  SPEAKER_02: What other types of cash items do we sometimes find in other assets?
• 4:37
  SPEAKER_01: Um, yeah, it could be a variety of things, but one thing I've I've seen a couple of times is a company might put cash in escrow.
• 4:44
  SPEAKER_01: You know, maybe you have cash in escrow for a construction project or a holdback amount at a bizcom.
• 4:51
  SPEAKER_01: And you have this this money in escrow, but a company might put it in other assets.
• 4:56
  SPEAKER_01: But that, but you know, in that account, if it's truly cash and it's the company's cash, it's probably restricted cash, but it's still cash.
• 5:03
  SPEAKER_01: So it has to be considered for the cash flow statement purposes as well.
• 5:07
  SPEAKER_02: All right.
• 5:08
  SPEAKER_02: So, Suzanne, then I'm gonna scan my general ledger accounts, identify all my cash, including restricted cash.
• 5:16
  SPEAKER_02: So, how then do I think about what do I do with that information?
• 5:19
  SPEAKER_01: Yeah, so if you do have cash and cash equivalents in in multiple line items on the balance sheet, it's required that you show a reconciliation either on the face of the cash flow statement or disclosed in the notes that shows where the cash is on the balance sheet and how it ties back to the totals on the cash flow statement.
• 5:38
  SPEAKER_02: All right, and then Suzanne, I can I I emphasized restricted cash before for a reason.
• 5:43
  SPEAKER_02: And I know this is something where we get questions because there were changes.
• 5:46
  SPEAKER_02: So now restricted cash is included in the cash flow statement, but I know there's still other requirements around restricted cash.
• 5:53
  SPEAKER_02: So can you just remind our listeners?
• 5:55
  SPEAKER_01: Right.
• 5:55
  SPEAKER_01: So it's all all the cash movement for restricted cash is on the cash flow statement now, but there are required disclosures as well.
• 6:03
  SPEAKER_01: So the users, you know, financial statement users want to know basically which cash is restricted.
• 6:08
  SPEAKER_01: So you have to disclose the nature of the restriction.
• 6:12
  SPEAKER_01: So usually it's the expected duration of the restriction, the purpose, the terms, and the amount of cash that's subject to the restriction.
• 6:20
  SPEAKER_02: All right.
• 6:20
  SPEAKER_02: And it definitely makes sense that the financial statement users would want to know what cash is restricted.
• 6:26
  SPEAKER_02: But then if I'm a company, how am I thinking about what is included as restricted cash?
• 6:32
  SPEAKER_01: Yeah, well, there's no definition of restricted cash that you'll find in GAAP.
• 6:37
  SPEAKER_01: But we would say generally anything, any cash that's legally restricted for withdrawal or withdrawal or use should be shown as restricted.
• 6:47
  SPEAKER_01: Anything besides legal restrictions, it's really up to the company and it's you know subject to their established accounting policy on how they define restricted cash.
• 6:57
  SPEAKER_02: All right, great.
• 6:58
  SPEAKER_02: So then, Suzanne, let's move on to the general classification model for the cash flow statement.
• 7:03
  SPEAKER_02: And one thing to highlight is this is the only financial statement that's done on a cash basis, which makes sense since we're talking about cash, uh, but all the other statements are on the accrual method.
• 7:14
  SPEAKER_02: And can you just give us a refresher on how we think about cash basis when it comes to the cash flow statement?
• 7:20
  SPEAKER_01: Yeah, sure.
• 7:21
  SPEAKER_01: So all amounts that leave the company or come into the company through a cash or cash equivalent account, again, including restricted cash, have to be put into one of three buckets.
• 7:31
  SPEAKER_01: So you have investing, financing, or operating.
• 7:34
  SPEAKER_01: So if you think about it like a checkbook register, if anyone still uses those anymore, with I don't think they do with online banking, but if you remember, every time you'd write a check, you'd like you'd write your in your ledger what you wrote, then the amount, and then if you got a deposit, you'd you'd write it in there and kind of keep track of your balance.
• 7:52
  SPEAKER_01: So if you were doing a cash flow statement, you would make sure all those ins and outs got classified, basically.
• 7:58
  SPEAKER_01: Um, so I'm probably dating myself, but it's just a good way for me to think about it.
• 8:03
  SPEAKER_01: Very helpful.
• 8:04
  SPEAKER_01: Um, so when you have to classify cash, you think about it like a waterfall, right?
• 8:08
  SPEAKER_01: So first start with investing.
• 8:10
  SPEAKER_01: So those are cash flows related to when a company invests funds, like they're buying or selling equity securities of another company, or they're buying or selling PPE or even a business.
• 8:24
  SPEAKER_01: Um, another thing could be making or collecting loans.
• 8:27
  SPEAKER_01: So meaning like they're acting as the lender in that case, if the receivable.
• 8:32
  SPEAKER_01: Um, if it's not investing, then next you would think about financing.
• 8:37
  SPEAKER_01: So these are usually cash flows associated with raising capital, like debt or equity.
• 8:42
  SPEAKER_01: So borrowing or repaying debt, issuing their own equity, or paying dividends to shareholders.
• 8:49
  SPEAKER_01: If it's not financing, then you go to operating.
• 8:52
  SPEAKER_01: So that's kind of like the catch-all bucket for everything else.
• 8:55
  SPEAKER_01: But it's usually things that are going to impact net income.
• 8:59
  SPEAKER_01: So, like interest, general expenses, inventory purchases or sales, even.
• 9:05
  SPEAKER_01: So there's two ways to show operating cash flows.
• 9:07
  SPEAKER_01: There's the direct or the indirect method.
• 9:10
  SPEAKER_01: But either way, you do it, either method, you get to the same operating cash flow number at the end.
• 9:16
  SPEAKER_01: It's it's just a difference in how the operating number is arrived at.
• 9:20
  SPEAKER_01: And I have to say, most companies, if not all, I have not seen one that uses the direct method.
• 9:26
  SPEAKER_01: I all I've seen is the indirect method.
• 9:28
  SPEAKER_02: Yeah.
• 9:29
  SPEAKER_02: So I actually did have one client that used the direct method.
• 9:33
  SPEAKER_02: And I will say it's definitely a bit harder.
• 9:35
  SPEAKER_02: So we'll focus here on the indirect method.
• 9:38
  SPEAKER_01: Sounds good.
• 9:39
  SPEAKER_01: So for the indirect method, you start with net income and then you back out non-cash amounts that go through net income.
• 9:45
  SPEAKER_01: So, like depreciation or amortization, for example.
• 9:49
  SPEAKER_01: Um, and then you would have adjustments for changes in accruals and operating assets and liabilities.
• 9:56
  SPEAKER_01: So, like changes in AR, changes in AP.
• 9:59
  SPEAKER_01: And then you'd have adjustments from investing in financing activities that are included in net income that need to be adjusted to arrive at cash flows from operations.
• 10:08
  SPEAKER_01: So, for example, if you had a gain or loss on the sale of a fixed asset, that'd have to be backed out to arrive at your operating cash flows.
• 10:16
  SPEAKER_02: So, Suzanne, you ran through a lot of information there, but I know that operating cash flows are a metric that get a lot of attention.
• 10:23
  SPEAKER_02: And financial statement users often are looking at this number in particular to evaluate a company.
• 10:28
  SPEAKER_02: So, how should companies be thinking about this?
• 10:31
  SPEAKER_01: Yeah, well, there's lots of focus on operating cash flows.
• 10:35
  SPEAKER_01: It's it's really the one that does get the most attention, like you said.
• 10:38
  SPEAKER_01: Um, and and we've heard from you know, investors, analysts, users that, you know, a lot of people are looking at this number.
• 10:46
  SPEAKER_01: Um, so a couple of ways financial statement users kind of use operating cash flows.
• 10:53
  SPEAKER_01: One is a free cash flow metric.
• 10:56
  SPEAKER_01: So that's operating cash flows, less cash paid for capital expenditures.
• 11:01
  SPEAKER_01: So when that's a positive number, that means the company is generating more cash than it's using to run and grow the business.
• 11:08
  SPEAKER_01: So that's always a good thing.
• 11:09
  SPEAKER_01: And stakeholders look at that to assess a company's ability to do things like repay debt and pay dividends.
• 11:16
  SPEAKER_01: Another way some are using it is really as an assessment of earnings growth.
• 11:21
  SPEAKER_01: So when investors or analysts see earnings grow in the PL or sometimes even in a non-gap measure, but operating cash flows aren't growing in the same way or on the same trend, sometimes it causes them to dig into why that is.
• 11:38
  SPEAKER_01: Of course, the numbers aren't going to be the same because, as we said, you know, cash flow statement is on the cash basis and the other statements are on accrual basis.
• 11:48
  SPEAKER_01: But when the trend of growth is off between the two, it can cause, you know, investors to look hard at those differences and put some increased scrutiny over earnings sometimes.
• 11:58
  SPEAKER_01: And one other thing I'd say is I we've heard that investors, analysts kind of use operating cash flows to understand how a company compares to its peers.
• 12:08
  SPEAKER_01: Because if you think about it, operating cash flows kind of strips out the impact of estimates and an accounting policy election.
• 12:15
  SPEAKER_01: So it's maybe a little bit of an easier comparison when you're looking at two different companies.
• 12:20
  SPEAKER_02: So, Suzanne, another topic that you and I have talked about previously, but I feel like we'd be remiss if we didn't cover again, which is gross versus net, because I know this is an area where we get a lot of questions, um, particularly on the cash flow statement, although really in all parts of the financial statements.
• 12:36
  SPEAKER_02: So let's just hit it here, at least quickly, and then people can go back to our um January podcast for more information if they would like.
• 12:45
  SPEAKER_02: But if I'm a company and I have transactions where I have inflows and outflows in sort of the same area, how do I think about whether those should go in one line item in the cash flow statement?
• 12:57
  SPEAKER_01: Yeah.
• 12:58
  SPEAKER_01: So this question, it usually comes up when you're talking about investing or financing cash flows.
• 13:03
  SPEAKER_01: So, like you said, ins and outs in the same category.
• 13:06
  SPEAKER_01: So either all in investing or all in financing, because it doesn't come up a lot in operating because companies are using the indirect method, like I said.
• 13:14
  SPEAKER_01: So you're not showing those one-for-one cash flows there.
• 13:18
  SPEAKER_01: Um the guidance says, you know, the cash flow guidance says information about the gross amount of cash receipts and payments during a period is generally more relevant than netting those amounts.
• 13:31
  SPEAKER_01: But the guidance does permit netting in some circumstances.
• 13:35
  SPEAKER_01: So it can be ins and outs can be netted when the cash flows have a quick turnover.
• 13:41
  SPEAKER_01: They occur in large volumes and they have short maturities, so less than 90 days.
• 13:46
  SPEAKER_01: So one area that a lot of companies think about netting is revolver borrowings.
• 13:51
  SPEAKER_01: You know, you constantly borrow and pay off on a revolver.
• 13:54
  SPEAKER_01: There's a lot of turnaround and large volumes.
• 13:57
  SPEAKER_01: So some companies feel that showing the net number is best, right?
• 14:01
  SPEAKER_01: That that would be in financing.
• 14:03
  SPEAKER_01: But a lot of these rarely qualify for net reporting because the contractual maturity of each individual borrowing is typically greater than 90 days.
• 14:13
  SPEAKER_01: So that means the company couldn't net it if they had the maturity that was longer than 90 days.
• 14:18
  SPEAKER_01: So they'd have to show all the borrowings in as one financing inflow and all the repayments out in another line item as a financing outflow.
• 14:28
  SPEAKER_01: Another area where sometimes companies want to net would be when they're collecting cash on behalf of others.
• 14:33
  SPEAKER_01: So they're collecting cash and then paying it out as directed to another party.
• 14:39
  SPEAKER_01: In those cases, if the company has to, if they get the cash and then they have to repay it within the 90 days and it's meeting all those other conditions, you know, quick turnover, et cetera, you know, then those could be netted.
• 14:51
  SPEAKER_01: So it really depends on the facts and circumstances of each transaction.
• 14:56
  SPEAKER_02: Although, Suzanne, one question here, because I think we often like to say there's no bright lines in accounting, but this does seem like a case where the 90 days, you really need to make sure you're under the 90 days or you're not going to qualify for netting.
• 15:09
  SPEAKER_02: So that's kind of the key starting point here.
• 15:11
  SPEAKER_02: Mm-hmm.
• 15:11
  SPEAKER_02: Yep, exactly.
• 15:12
  SPEAKER_02: All right.
• 15:12
  SPEAKER_02: So then, Suzanne, I always find this a little funny because we're talking about the cash flow statement, but a big part of the cash flow statement is actually non-cash activities.
• 15:22
  SPEAKER_02: So if I'm a company, how do I think about non-cash?
• 15:27
  SPEAKER_02: And in particular, how do I make sure I don't miss my non-cash activities?
• 15:31
  SPEAKER_01: The guidance requires separate disclosure for all non-cash investing and financing transactions.
• 15:38
  SPEAKER_01: And it can be on the face of the cash flow statement or in the notes.
• 15:41
  SPEAKER_01: So some examples would be convertible debt, you know, you're settling debt with equity.
• 15:46
  SPEAKER_01: That'd be a non-cash financing transaction.
• 15:49
  SPEAKER_01: Or you're buying PPE and you get a long-term loan directly from the seller.
• 15:55
  SPEAKER_01: That'd be a non-cash investing out and a non-cash financing in, um, even entering into a finance lease.
• 16:02
  SPEAKER_01: So you've got a right of use asset and a lease liability, no cash is exchanged.
• 16:07
  SPEAKER_01: So that's non-cash.
• 16:08
  SPEAKER_01: So it's really like, you know, look at all your transactions, the ones without cash.
• 16:13
  SPEAKER_01: Um, and if it pertains to an investing or financing activity, it has to be disclosed.
• 16:19
  SPEAKER_01: And there are actually sometimes transactions where it's like partial non-cash and partial cash, and you you've got to disclose that non-cash piece as well.
• 16:27
  SPEAKER_01: So just anytime you have these transactions, just really keep an eye out for it.
• 16:31
  SPEAKER_02: Those are helpful hints.
• 16:32
  SPEAKER_02: And because I do know non-cash can be a challenge for companies.
• 16:35
  SPEAKER_02: But I do have another question because the situations you described were all two-party arrangements where the transaction was clearly negotiated to be non-cash.
• 16:45
  SPEAKER_02: And I know you mentioned sometimes it can be part cash, part non-cash, but nonetheless between two parties.
• 16:50
  SPEAKER_02: But what about situations where the companies actually left out of the cash flow because they're having an agent make a payment on their behalf?
• 16:58
  SPEAKER_02: So it's actually a three-party arrangement.
• 17:00
  SPEAKER_02: I know we're seeing more of these, and I know there's a lot of cash flow questions.
• 17:04
  SPEAKER_02: So can you give a high level and then if people want more again, they can go back to that January uh podcast?
• 17:10
  SPEAKER_01: Yeah.
• 17:10
  SPEAKER_01: So yeah, it's happening a lot where companies will use an agent to make payments or receive payments on their behalf.
• 17:18
  SPEAKER_01: So we think a company should include any cash flows that are received or paid by an agent on their behalf as though the transaction took place through their own bank account.
• 17:28
  SPEAKER_01: So they should, meaning they're not non-cash transactions, they should be on the cash flow statement.
• 17:34
  SPEAKER_01: So let me give a quick example.
• 17:35
  SPEAKER_01: So I mentioned earlier that we would have just a pure non-cash transaction.
• 17:40
  SPEAKER_01: If I bought PPE and I got long-term debt directly from the seller.
• 17:45
  SPEAKER_01: So in that case, I had two parties, no agent.
• 17:48
  SPEAKER_01: I clearly had a non-cash transaction with the seller and I would just disclose it.
• 17:53
  SPEAKER_01: But if instead of getting seller debt, I went out and got a bank to give me financing and I asked that bank to pay the seller directly, right?
• 18:02
  SPEAKER_01: So I didn't get any cash, but I but the bank is just acting as my agent.
• 18:06
  SPEAKER_01: In that case, I would show an investing outflow for the purchase of PPE and a financing inflow for the financing received on that date when the bank paid the seller of the PPE.
• 18:20
  SPEAKER_01: Then when I pay off the debt, I would have a financing outflow.
• 18:24
  SPEAKER_02: So, Suzanne, then I know that's a good example, but it's involving investing and financing.
• 18:30
  SPEAKER_02: But I know we sometimes see these actually also impacting operating cash flows.
• 18:34
  SPEAKER_02: So, how do we think about that?
• 18:36
  SPEAKER_01: Right.
• 18:36
  SPEAKER_01: So it can happen with operating just the same.
• 18:39
  SPEAKER_01: So if a company goes out and gets financing to buy inventory and the lender pays the vendor directly, that would require an operating outflow and a financing inflow on the date that the bank pays the vendor.
• 18:52
  SPEAKER_01: And that can be surprising to some.
• 18:54
  SPEAKER_01: And like I like we said earlier, operating cash flows gets a lot of attention.
• 19:00
  SPEAKER_01: And so we just want to make sure there's no surprises there if a company um finds themselves in this situation.
• 19:06
  SPEAKER_02: All right.
• 19:06
  SPEAKER_02: So then, Suzanne, we covered a lot of different things related to classification, but I think these were more broad topics.
• 19:13
  SPEAKER_02: But I know from talking to you, you get a lot of very specific questions, and many of them are common that you kind of see over and over.
• 19:20
  SPEAKER_02: So I thought I would just throw a bunch of them at you from a list I have of sort of frequent questions we've received.
• 19:27
  SPEAKER_02: So prepare yourself.
• 19:29
  SPEAKER_02: So here we go.
• 19:30
  SPEAKER_02: So, first question: how are insurance claim proceeds classified?
• 19:34
  SPEAKER_02: So, this is when a company is receiving a payment from an insurance company.
• 19:39
  SPEAKER_01: Okay, so let's put corporate-owned life insurance and bank-owned life insurance aside, because that's a different model.
• 19:45
  SPEAKER_01: But basically, all general proceeds, insurance proceeds are classified on the basis of the related insurance coverage.
• 19:52
  SPEAKER_01: So, meaning the nature of the loss.
• 19:54
  SPEAKER_01: So if I got proceeds related to damage to a building, it's going to be investing.
• 19:59
  SPEAKER_01: Or if I got proceeds for business interruption, then that would be operating.
• 20:05
  SPEAKER_01: Now I put the corporate owned life insurance and bank-owned insurance aside because for those, the settlement is always investing.
• 20:12
  SPEAKER_01: It's like the life insurance contract is like an investment.
• 20:15
  SPEAKER_02: All right, that's helpful.
• 20:17
  SPEAKER_02: Here's another one.
• 20:18
  SPEAKER_02: And I know this can get tricky.
• 20:20
  SPEAKER_02: So, how are cash flows related to a non-controlling interest holder presented?
• 20:25
  SPEAKER_01: Okay, so I guess I would say as an overarching concept, we kind of think about non-controlling interest holders as owners, right?
• 20:33
  SPEAKER_01: So if you pay a dividend to a non-controlling interest holder, it's financing, just like any other dividend.
• 20:40
  SPEAKER_01: Let me see what other cash flows are.
• 20:42
  SPEAKER_01: If you are buying NCI, it's gonna be financing transaction.
• 20:49
  SPEAKER_01: If you are selling NCI, that depends on whether you maintain control or not.
• 20:56
  SPEAKER_01: So if you maintain control and you sell some NCI, it's gonna be a financing inflow.
• 21:02
  SPEAKER_01: But if you lose control, that's gonna be an investing inflow when you sell.
• 21:08
  SPEAKER_01: You could also have transaction costs for these transactions.
• 21:11
  SPEAKER_01: And that would depend on your accounting policy because there's an accounting policy, I guess, for transaction costs um related to NCI.
• 21:20
  SPEAKER_01: So if your policy is too expense those costs, then it would be operating.
• 21:24
  SPEAKER_01: If it's a direct charge to equity, then those costs would be financing.
• 21:28
  SPEAKER_01: So there's a lot there.
• 21:31
  SPEAKER_02: Definitely a lot to think about.
• 21:32
  SPEAKER_02: And I highly recommend people check out our financial statement presentation guide if they have questions on that one.
• 21:38
  SPEAKER_02: All right.
• 21:38
  SPEAKER_02: So next one is a topic I think you and I both love talking about.
• 21:42
  SPEAKER_02: And that would be the repayment of debt, but specifically debt issued at a discount.
• 21:47
  SPEAKER_01: Okay.
• 21:48
  SPEAKER_01: So we're talking about just pure repaying debt.
• 21:51
  SPEAKER_01: So it's not a debt restructuring, which you hear me talk about a lot.
• 21:54
  SPEAKER_01: Not that.
• 21:54
  SPEAKER_01: So this is just okay, you have debt on your books and you're gonna repay it, and it was issued at a discount.
• 22:00
  SPEAKER_01: So if you think about it, when it was issued, so it's issued at a discount, the discounted proceeds are going to be a financing inflow, just to set it up, right?
• 22:10
  SPEAKER_01: So if I had a hundred dollar par debt issued at 85, then$85 would have been the proceeds that went into financing as an inflow when I issued it.
• 22:21
  SPEAKER_01: Now, when you repay this debt, let's just assume it's it's a balloon payment, you pay it all at maturity.
• 22:28
  SPEAKER_01: When you repay this debt, it depends on how the effective interest rate of the debt compares to the stated coupon rate of the debt.
• 22:36
  SPEAKER_01: So if the coupon rate of the debt is insignificant when compared to the effective rate, it's considered deeply discounted.
• 22:45
  SPEAKER_01: So you see this a lot with zero coupon bonds.
• 22:48
  SPEAKER_01: So if that's the case, then the cash used to repay the debt has to be allocated between financing and operating.
• 22:56
  SPEAKER_01: So operating outflow would be the portion of the cash payment attributable to the accreted interest on the discount.
• 23:03
  SPEAKER_01: So in my example, remember I issued, I had a$100 par debt issued at$85.
• 23:09
  SPEAKER_01: $15 would be the amount that goes into operating, because that's the accreted interest on the discount.
• 23:16
  SPEAKER_01: And then for financing would be the portion of the cash payment attributable to the original proceeds.
• 23:22
  SPEAKER_01: If you remember, that was 85 in my example.
• 23:24
  SPEAKER_01: So I have a 15 in operating, 85 in financing.
• 23:29
  SPEAKER_01: So you're probably wondering how to figure out whether the rate is insignificant and whether you have deeply discounted debt.
• 23:35
  SPEAKER_01: So most use a 10% rule of thumb.
• 23:38
  SPEAKER_01: So if the coupon rate is less than 10% of the effective rate, it's insignificant.
• 23:44
  SPEAKER_01: So for example, say I had a coupon, a very tiny coupon of 0.25%, it would be insignificant in comparison to the effective rate.
• 23:56
  SPEAKER_01: If I had an effective rate that was 2.501% or higher.
• 24:01
  SPEAKER_01: So anything over that number and over, I would be considered deeply discounted debt.
• 24:07
  SPEAKER_01: And then when I repaid it, I'd have to kind of bifurcate the cash flows.
• 24:11
  SPEAKER_01: Now, all other debt, if the debt is not considered deeply discounted, then the whole repayment amount would go through financing.
• 24:20
  SPEAKER_02: All right.
• 24:20
  SPEAKER_02: That's a great reminder because I do think this is an area where people might not be looking for this deep discount.
• 24:26
  SPEAKER_02: So thanks for that one.
• 24:27
  SPEAKER_02: All right, let me do another sort of debt-related one.
• 24:30
  SPEAKER_02: And this would be actually repayment on payment and kind notes.
• 24:34
  SPEAKER_02: So that would be a case where the borrower is permitted to satisfy the interest payments on the debt by issuing additional paid-in-kind notes having identical terms as the original debt instead of paying cash.
• 24:47
  SPEAKER_02: So basically, every interest payment, your debt amount keeps getting bigger.
• 24:51
  SPEAKER_02: How do you think about that?
• 24:52
  SPEAKER_01: Yeah, we think the pick note is really in substance the same as a zero coupon bond or, you know, deeply discounted, like we just discussed, right?
• 25:00
  SPEAKER_01: If you think about a pick note and a and a zero, the interest due on the original principal amount of the debt is accrued and added to the debt balance.
• 25:09
  SPEAKER_01: So we think the best approach is to follow the same model I discussed above for the deeply discounted debt.
• 25:15
  SPEAKER_02: So, Suzanne, here it's an easy one.
• 25:16
  SPEAKER_02: How are debt extinguishment costs classified?
• 25:19
  SPEAKER_01: Okay, yeah.
• 25:20
  SPEAKER_01: So again, we're talking about traditional debt extinguishment, not a restructuring.
• 25:24
  SPEAKER_01: So it's you pay off the debt and the lender goes away.
• 25:27
  SPEAKER_01: All those costs are going to be financing.
• 25:30
  SPEAKER_01: So that's everything prepayment penalties, third-party costs, it's all gonna go to financing.
• 25:35
  SPEAKER_02: All right.
• 25:35
  SPEAKER_02: And I know we spoke about debt restructurings in the January podcast.
• 25:38
  SPEAKER_02: So listeners can tune in more for more details on restructured debt.
• 25:43
  SPEAKER_02: Now, the next topic is another one I know you and I have talked about before, but it's also one that continues to get attention and questions.
• 25:50
  SPEAKER_02: And this would be about structured payables.
• 25:53
  SPEAKER_02: And in particular, what are the cash considerations when you have a structured payable plan, supply chain financing, or other paying agent arrangements?
• 26:03
  SPEAKER_01: Yeah, um, there are really popular now and I think keep getting more prevalent as companies are trying to manage liquidity.
• 26:11
  SPEAKER_01: And like you said, they can go by a variety of names, you know, depending on what what you're financing.
• 26:16
  SPEAKER_01: But yeah, structured payable, supply chain, paying agent arrangements.
• 26:20
  SPEAKER_01: And basically, companies are using these arrangements to take advantage of early payment discounts or to push out the maturity of their payables.
• 26:28
  SPEAKER_01: So it's usually done with the establishment of a program with a bank or another financial institution that serves two purposes, right?
• 26:36
  SPEAKER_01: To act as the company's paying agent and pay the company's vendors on its behalf on the date the payables are due, and to provide liquidity to the company's vendors, you know, that are seeking payment before the due date.
• 26:48
  SPEAKER_01: So factoring or discounting programs.
• 26:50
  SPEAKER_01: So if you're a company that has this, so you're the one who has the vendors and you're structuring your payables, then the key accounting determination is to determine whether the economic substance of your payable has changed so much that it's become debt and you're recording it as debt on the balance sheet.
• 27:09
  SPEAKER_01: And it's a really judgmental analysis, and you really have to look at, you know, everything in that program and how it works.
• 27:16
  SPEAKER_01: Depends on your facts and circumstances.
• 27:18
  SPEAKER_01: We do have a good list of considerations in our FSP guide for things to think about, but really you're looking, you know, have your payment terms been significantly extended beyond industry norms?
• 27:31
  SPEAKER_01: Is there some sort of variable fee that you're getting, a big change in the economics that might lean you more towards debt?
• 27:37
  SPEAKER_01: But again, really depends on your facts and circumstances.
• 27:41
  SPEAKER_01: But if the structured payable has become debt on your balance sheet, then how it impacts the cash flow statement is you'd have to apply that kind of constructive receipt and disbursement concept that we spoke about earlier.
• 27:55
  SPEAKER_01: So if we have a payable with a vendor to purchase inventory, and you know, we're in one of these programs and that payable is essentially now being characterized as debt on the balance sheet, we'd have an operating outflow for the purchase of the inventory and a financing inflow when the bank pays the vendor.
• 28:13
  SPEAKER_01: And then when I turn around and pay the bank, I'd have a financing outflow.
• 28:16
  SPEAKER_01: So it's just really important to really look at the what's going on in those programs and what you've really done to your payable.
• 28:23
  SPEAKER_02: All right.
• 28:23
  SPEAKER_02: And then Suzanne, I know there's a lot of focus, even in cases where the structured payable is not considered debt, so that it stays a payable.
• 28:30
  SPEAKER_01: Yeah.
• 28:31
  SPEAKER_01: So even if it stays a payable, then you're not going to have that constructive receipt and disbursement issue that I just spoke about on your cash flow statement.
• 28:39
  SPEAKER_01: But you are still required to have transparent disclosure around the details of these programs.
• 28:45
  SPEAKER_01: Financial statement users have really expressed some concern about these programs and not understanding the company's liquidity position if they if there's not transparent disclosure around these.
• 28:56
  SPEAKER_01: Like if the user doesn't understand that you have one of these programs, then you're not being transparent enough.
• 29:01
  SPEAKER_02: All right.
• 29:02
  SPEAKER_02: So, Suzanne, I think that's some great reminders for today.
• 29:04
  SPEAKER_02: And for our listeners, highly encourage you to check out our prior two cash flow podcasts.
• 29:09
  SPEAKER_02: We did one in each of January of 2020 and 2021 to look for some other specific topics.
• 29:15
  SPEAKER_02: So, Suzanne, though, to wrap things up today, if you were in an elevator with someone, which we all will be soon, then and you had your 30 seconds, what would you tell them about the cash flow statement?
• 29:26
  SPEAKER_01: I think it's a really important statement that is underrated, doesn't get a lot of attention in the close process, but I think it's really impactful.
• 29:37
  SPEAKER_01: Users look at it quite a bit and I think evaluate a company using it.
• 29:42
  SPEAKER_01: So I I think it deserves uh a good amount of focus, just like the rest of the statements.
• 29:47
  SPEAKER_02: All right.
• 29:47
  SPEAKER_02: I love that answer.
• 29:48
  SPEAKER_02: And I'm happy to hear you say that since you do focus on the cash flow statement.
• 29:52
  SPEAKER_02: I'm glad you're a fan.
• 29:53
  SPEAKER_02: I have just one last question for you for today.
• 29:56
  SPEAKER_02: And frequent listeners will be aware that you're the actually also, in addition to frequent podcast guest, the executive producer of our webcast.
• 30:04
  SPEAKER_02: And we do have our second quarter webcast coming up.
• 30:07
  SPEAKER_02: And for listeners who are interested, they can go to viewpoint.pwc.com to register.
• 30:12
  SPEAKER_02: But my question for you is if you were a listener, Soon2Be Viewer, what's the thing that you would be looking out for in that webcast?
• 30:21
  SPEAKER_01: Well, yeah, I'm really excited about that webcast because we're talking all about emerging issues, green accounting, ESG, crypto, so all sorts of hot topics.
• 30:32
  SPEAKER_01: So I'm excited to learn about that and especially excited that we have Paul Monter, who's the acting SEC chief accountant, that's going to join us and give his perspective.
• 30:41
  SPEAKER_01: So I'm really excited to hear from him as well.
• 30:44
  SPEAKER_02: I am as well.
• 30:44
  SPEAKER_02: So definitely encourage all of our listeners to join us.
• 30:47
  SPEAKER_02: So, Suzanne, as always, love having you on.
• 30:49
  SPEAKER_02: Thanks so much for joining me.
• 30:51
  SPEAKER_01: Thank you.
• 30:52
  SPEAKER_02: That does it for today.
• 30:54
  SPEAKER_02: To hear more from Suzanne about the cash flow statement, go check out our other cash flow podcasts wherever you listen to your podcast.
• 31:01
  SPEAKER_02: And while you're there, be sure to follow the PWC Accounting Podcast series so that you never miss an episode.
• 31:08
  SPEAKER_02: To stay up to date on all the latest content, sign up for our newsletter at viewpoint.pwc.com.
• 31:15
  SPEAKER_02: For PWC's National Office Studios, I'm Heather Horn.
• 31:19
  SPEAKER_02: Thanks for tuning in.
• 31:26
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• 31:30
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