Showing papers on "Cash flow forecasting published in 1999"

Stock Pyramids, Cross-Ownership, and the Dual Class Equity: The Creation and Agency Costs of Seperating Control from Cash Flow Rights

Abstract: This paper examines common arrangements for separating control from cash flow rights: stock pyramids, cross-ownership structures, and dual class equity structures. We describe the ways in which such arrangements enable a controlling shareholder or group to maintain a complete lock on the control of a company while holding less than a majority of the cash flow rights associated with its equity. Next, we analyze the consequences and agency costs of these arrangements. In particular, we show that they have the potential to create very large agency costs—costs that are an order of magnitude larger than those associated with controlling shareholders who hold a majority of the cash flow rights in their companies. The agency costs of these structures, we suggest, are also likely to exceed the agency costs of attending highly leveraged capital structures. Finally, we put forward an agenda for research concerning structures separating control from cash flow rights.

Accruals and the Prediction of Future Cash Flows

Abstract: We compare the predictive abilities of earnings and cash flows for future cash flows. We base our predictions on a model of the relation between future cash flows and past earnings and its components, including cash flows. As predicted, we find that current and past earnings explain significantly more variation in future cash flows than current and past cash flows, but only after permitting the cash and accrual components of earnings to have different multiples. As predicted, disaggregating the accrual component of earnings significantly further enhances the predictive ability of earnings for future cash flows. Contrary to claims in the popular press, the depreciation and amortization components of earnings have significant predictive ability for future cash flows. Our inferences are robust to controlling for operating cycle and industry membership.

Accruals, Cash Flow and Equity Values

Abstract: We find, as predicted, that the differential ability of accrual and cash flow components of earnings to help forecast future abnormal earnings and the persistence of the components results in the components having different valuation implications. We base our tests on Ohlson (1999) applied to fourteen industries. We find: (1) Accruals and cash flows aid in forecasting future abnormal earnings incremental to abnormal earnings and equity book value. (2) Accruals and cash flows provide explanatory power for equity market value incremental to equity book value and abnormal earnings. (3) There is evidence that accruals and cash flows valuation coefficients are consistent with the Ohlson model.

Bank Power and Cash Holdings: Evidence from Japan

Abstract: Using a sample of firm years from the United States, Germany and Japan, we examine the effect of bank power on the cash holdings of industrial firms. We show that firms in Japan have higher cash holdings than those in the US or Germany. We also show that the high cash levels are correlated with power of the banks. During periods of high bank power, firms' cash holdings are consistent with banks extracting rents. We conclude that the Japanese banks persuade firms to hold higher cash balances than firms in the US and Germany. This is contrary to widely held beliefs about the Japanese governance system.

Investment, R&D and Financial Constraints in Britain and Germany

Abstract: This paper tests for the importance of cash flow on investment in fixed capital and R&D using firm-level panel data in two countries between 1985 and 1994. For German firms, cash flow is not informative in simple econometric models of fixed investment or R&D. In identical specifications for British firms, cash flow is informative about investment, although not about the level of R&D spending conditional on the R&D participation decision. In the UK, we also find that investment is less sensitive to cash flow for R&Dperforming firms, and that cash flow predicts whether firms perform R&D or not. We confirm that these differences do not simply reflect a greater role for current cash flow in forecasting future sales. These results suggest that financial constraints are more significant in Britain, that they affect the decision to engage in R&D rather than the level of R&D spending by participants, and that consequently the British firms that do engage in R&D are a self-selected group where financing constraints tend to be less binding.

The Difference between Earnings and Operating Cash Flow as an Indicator of Financial Reporting Fraud

Abstract: This paper examines the relation between earnings and operating cash flow to derive and test an indicator of financial statement fraud. Accrual measurement concepts indicate that financial statement fraud should be associated with high levels of earnings relative to operating cash flow. We demonstrate that the excess of earnings over operating cash flow is extreme in most fraud cases in years immediately prior to the fraud discovery based on a sample of 56 fraud cases from 1978 to 1991. We compare the distribution of the earnings minus operating cash flow variable for fraud firms with that for a sample of 60,453 firm-years for firms listed on COMPUSTAT. We test a logistic regression model in which the discovery/nondiscovery of fraud is the dependent variable, and earnings minus operating cash flow is the explanatory variable. Other control variables are included in the model based on prior studies. Results are consistent with expectations derived from accrual measurement theory. We then examine the predictive ability of the model using our sample of fraud firms and a sample of nonfraud firms in the same four-digit SIC code industries. Observations for the fraud firms are for the fiscal year prior to the discovery of fraud. Observations for the nonfraud firms are for the same fiscal years as the fraud firms in the same industries. The predictive ability of the model, including the excess of earnings over operating cash flow, is substantially higher than the predictive ability of the model omitting this variable. We conclude that the earnings-operating cash flow relation provides important information for those interested in identifying financial statement fraud, especially when considered in conjunction with other factors associated with fraud risk.

An Analysis of Joint Effects of Investment Opportunity Set, Free Cash Flows and Size on Corporate Debt Policy

Abstract: This study, based on a sample of 1869 observations from 1989 to 1993 for non-regulated U.S. firms, examines the association between investment opportunity set (IOS), free cash flows (FCF) and debt, and also tests whether firm size acts as a moderating variable on this association. The results show that there is a significantly positive association between FCF and debt for low IOS firms, which provide support to Jensen's (1986) “control hypothesis”. The results also show that the positive association between debt and high FCF for low IOS firms is more pronounced for large firms, suggesting that the firm size serves as a moderating variable on the association.

Determinants of Cash Holdings by Property-Liability Insurers

Abstract: This study investigates the differences in cash holdings across property-liability insurers. We conclude that relative cash holdings are less for insurers with better access to cash through capital markets and/or other group members. We also conclude that larger insurers, higher quality insurers, insurers that write longer tail lines of business, and firms with higher degrees of leverage hold less cash. Also, we find that insurers with a higher variance of cash flows tend to hold more cash. Another interesting finding is that, contrary to what managerial discretion arguments might suggest, stock insurers tend to hold more cash than do mutuals. INTRODUCTION This article examines the variation in cash holdings across property-liability insurers during the three-year period from 1993 to 1995. For the property-liability insurer, virtually all business transactions occur in cash. Premiums are received in cash, and claims are paid in cash. As a result, the insurer's decision regarding the amount of cash to hold is critical to its operations and therefore to its overall financial stability. In making that decision, an insurer may choose to hold a large amount of cash; such a strategy affords much flexibility to the insurer, but the flexibility gains are offset by the opportunity costs resulting from the lower returns generated by cash compared to less liquid assets (Amihud and Mendelson, 1986). On the other hand, an insurer may choose to hold a small amount of cash; such a strategy maximizes returns by investing the cash in higher yielding assets but exposes the insurer to transaction costs--and potentially unfavorable economic conditions--when assets must be liquidat ed to meet obligations. Because there are competing costs and benefits of holding cash, the insurer must compare the marginal costs of holding cash to the marginal benefits of holding cash when determining its optimal level of cash (Opler, Pinkowitz, Stulz and Williamson, 1999). Cash holdings vary considerably across insurers. [1] Such differences can be expected for a number of reasons, including the degree of agency conflict among the insurer's management, owners, and policyholders; the ability of the insurer to generate cash from alternative sources; the nature of the insurer's operations; and the composition of the insurer's portfolio of non-cash assets. In order to determine which insurer characteristics affect the extent of cash holdings, we employ regression analysis on a large sample of property-liability insurers over a three-year period. Our examination of cash holdings by property-liability insurers serves several purposes. First, it contributes to the large body of literature investigating corporate cash holdings (Chudson, 1945; Baumol, 1952; Meltzer, 1963; Frazer, 1964; Vogel and Maddala, 1967; Gertler and Gilchrist, 1994; Kim, Mauer and Sherman, 1998; Opler, Pinkowitz, Stulz and Williamson, 1999). Because prior literature has excluded the analysis of financial firms, investigation of insurer cash holdings provides the opportunity to evaluate the extent to which past findings hold for a totally different class of firms. Perhaps more importantly, the unique aspects of the insurance industry, such as the different organizational forms available to insurers and the phenomenon of insurer groups, provide the opportunity to generate additional insights into cash holdings. Additionally, the examination complements previous research investigating other components or aspects of insurer investment portfolios (Colquitt and Hoyt, 1997; Cummins, Philli ps and Smith, 1997; Lee, Mayers and Smith, 1997; Cox, Gayer and Wells, 1998). Finally, the examination demonstrates that insurers choose cash balances systematically based on their organizational and operational characteristics. This information should benefit stakeholders, regulators, and academics in their attempts to understand and predict insurer behavior. …

Additional Evidence on the Incremental Information Content of Cash Flows and Accruals: The Impact of Errors in Measuring Market Expectations

Abstract: This study evaluates the relation between security returns and funds-based earnings components. We document that proxies for market expectations of the components that are based on measures of historical serial- and cross-dependencies are substantially more accurate than random-walk proxies. Moreover, we detect significantly higher valuations of the operating cash flow component of earnings, relative to current accruals when market expectations are represented using the dependency-based predictions. Such differential valuation is not detectable for random-walk representations. Contrary to results in Ali (1994), we find incremental information in unexpected cash flows over the whole spectrum (moderate and extreme) of unexpected cash flow realizations.

Antecedents and Consequences of Newlyweds' Cash Flow Management

Abstract: This study focused on exploring the process and outcomes of cash flow management among randomly-selected newlywed couples. Descriptive data suggested that family cash flow management is much more complex than revealed in previous studies asking whether families have a budget. Three dimensions of family cash flow management --- budgeting, financial record-keeping, and goal-setting and analysis --- were performed with varying frequency by newlyweds. The most consistent antecedents that predict the frequency with which couples perform these tasks were indicators of their willingness to manage, even after their ability and need to manage were controlled. Performing the recommended cash flow management tasks more frequently appears to have few objective benefits, at least in the short term, while one dimension, record-keeping, did predict greater satisfaction with the family's financial situation.

Earnings, Cash Flows and Security Returns Over Long Return Intervals: Analysis and UK Evidence

Abstract: The aim of this paper is to provide a fuller understanding of the process linking security returns and accounting data by focusing on the effect of long return intervals on the association between security returns and earnings and cash flow variables. First, we develop a theoretical basis for empirical analysis of the relationship between security returns and cash flow data over long return intervals. Second, we carry out empirical analysis of both the information content of cash flow variables and the incremental information content of accounting earnings and cash flows using UK data over the period 1985–92 for annual, two year and four year return intervals. Our results provide strong evidence of the valuation relevance of cash flow information for the dataset examined.

The Development of Voluntary Cash Flow Statements in Germany and the Influence of International Reporting Standards

Abstract: This paper studies the incentives of German firms to voluntarily disclose cash flow statements over time. While cash flow statement are mandated under many GAAP regimes, its disclosure has not been mandatory in Germany until recently. Nevertheless, an increasing number of firms provides cash flow statements voluntarily. These firms are likely to be influenced by recommendations of the German accounting profession, IAS 7 as well as the respective standards of other countries. The idea of the paper is to study this influence by looking at the adoption pattern over time and the format of the cash flow statement. It documents the development of voluntary cash flow statement disclosures by German firms with respect to "milestones" in the evolution of German professional recommendations and respective international standards. The cross-sectional determinants of voluntary (international) cash flow statements are analyzed using probit regressions and factor analysis. The results are generally consistent with the idea that capital-market forces drive the disclosure of cash flow statements that are in line with international reporting practice.

The Impact of the Quality of Earnings on the Valuation Relevance of Cash Flow Disclosures

Abstract: This study investigates whether the ‘quality of earnings’, defined as the relationship between profitability and cash generating ability, is a conditioning factor with regard to the valuation relevance of cash flow disclosures. The study is performed on a sample of 197 British firms employing data over a 23-year period. The results of the study support the contention that the valuation relevance of cash flow disclosures is conditional upon the ‘quality of earnings’, as previously defined. Specifically, the decomposition of unexpected earnings into its cash flow and accruals components provides incremental information content to earnings when the firm-specific time-series correlation between earnings and cash flows is low. Furthermore, the cash flow ‘surprise’ is valued more than the accruals ‘surprise’ when the firm-specific time-series correlation between earnings and cash flows is low.

Executive Cash Compensation and Corporate Performance During Different Economic Cycles

Abstract: Current practice of management cash compensation is based on budgeted, financial targets. These financial targets for a year may be above, equal to or below previous year?s publicly available performance measures based in part on the prevailing economic conditions. Accordingly, during economic growth a positive relation is predicted between changes of management cash compensation and corporate performance measures like changes in annual report or return on equity. On the other hand, during economic downturn, a flat relation between changes in management cash compensation and simple changes in corporate performance is predicted. The evidence of this study is based on the period of 1987 - 1995. Pooled, cross sectional results are consistent with the propositions of significant positive relation during economic growth, no relation between changes in management cash compensation and changes in measures of corporate performance during periods of economic downturn.

Cash farming in building and construction: a stochastic analysis

Abstract: Cash flow management is a significant issue in the management of a building or construction firm This paper steps back from the well researched area of poor cash management and its relationship with failure, to focus on the funds which are generated through operations, and the positive benefits which can follow in a well managed organization A stochastic model is developed which illustrates how an average of 16% of turnover can be available for reinvestment This is sufficient to allow investment in non-liquid assets, provided that this is managed carefully and precautions are taken against a severe reduction in turnover This level of funds is sufficient to encourage firms to enter the industry with the motivation of generating funds, rather than a desire to build This has implications for large clients and for government when dealing with the industry

Do Firms Use Dividends to Signal Large Future Cash Flows

Abstract: We find that firms poised to experience large, permanent cash flow increases after four years of flat cash flow tend to boost their dividends before their cash flow jumps. These firms also have a high frequency of relatively large dividend increases prior to the cash flow shock. Investors appear to interpret the dividend changes as signals about future profitability: firms that sharply increase their dividends earn large market-adjusted stock returns in the year before their cash flow rises. This direct link between positive cash flow shocks, dividend decisions, and stock returns supports the hypothesis that dividend changes signal positive information about permanent future cash flow levels. However, our results also suggest that signaling plays a relatively minor role in corporate dividend policy.

Financing Innovations and Capital Structure Choices

Abstract: The last two decades have seen a stream of innovation in financial markets, especially in the corporate bond arena. Some of these innovations were designed to give firms moreflexibility in designing cash flows on borrowings, allowing them to match up cash flows on financing more closely to cash flows on assets, thus increasing their debt capacity. These changes have been for the most part good news for corporate treasurers, but the relentless torrent of innovation has also resulted in some firms issuing these new and more complex securities for the wrong reasons. Some have done so to keep up with other firms in their peer group, and other to take advantage of loopholes in the way ratingsagencies and regulatory agencies define debt and equity. In this context, it is worth noting that as corporate bonds have become more complex, investment bankers oncemore become indispensable to the process, proving both pricing and selling support. It is important that firms recognize when complexity serves their interests, and when it can end up hurting them.

Providing Managerial Incentives: Cash Flows versus Accrual Accounting

Abstract: This paper examines a multi-period agency model in which a manager makes investment decisions in each period. Performance measures based only on realized cash flows are essentially uninformative about value creation at any intermediate point in time. If the principal has access to additional project information which allows for a proper matching of a project's periodic cash flows with a share of the original investment cost, then the value created by the manager can be assessed at intermediate points in time. Such matching can be achieved by means of an accrual accounting system with properly structured depreciation charges. We establish that performance evaluation based on accrual accounting data results in lower agency costs than performance evaluation based on realized cash flows only.

Discovering real options in oilfield exploration and development

Abstract: Techniques from the burgeoning area of real options are helping petroleum companies better value and manage their important assets. The real options perspective holds that typical discounted cash flow (DCF) techniques (including typical decision analysis or Monte-Carlo simulation) capture only part of an asset's value; significant value also derives from the management options inherent in the asset. For example, owning an offshore lease not only gives the owner the right to develop the field, it also gives the owner the implicit option to build oversize facilities to process oil from nearby fields. This option may give the lease additional value. The question remains, however, how does one determine all of the real options embedded in an asset? What are the management flexibilities that give rise to real option value in an asset? This paper will discuss a series of practical framing techniques that uncover the managerial flexibility and learning that are the hallmarks of real options. The techniques are fundamentally creative, rather than analytic, and focus on the entire value chain associated with the asset. By focusing on the future, the goal of the framing is to produce the set of key dynamic asset management decisions that must be made over time, and the evolving uncertainties that influence those decisions. Proper structuring of these decisions and uncertainties establishes a blueprint for calculating the value of the asset, providing a key advantage over typical valuation methods such as DCF or decision analysis. We will present examples from oil and gas projects that will illustrate how multi-disciplinary teams have used these techniques to uncover real options that contributed significant value to petroleum assets.

An examination of the information content of Danish earnings and cash flows

Abstract: This study examines the information content of earnings and cash flows on the basis of Danish data. The study is motivated by the recent implementation of the Danish cash flow standard RV 11. No prior studies have examined the information content of Danish cash flows. In addition, the results of non-Danish cash flow studies are not consistent. Thus, there is no clear evidence as to whether cash flows have incremental information content beyond that of earnings. Finally, most cash flow studies focus only on cash flow from operations (CFO). This study also examines the information content of cash flow after investments (CFAI) and net cash flow (NCF). The results of the various tests are generally consistent with the following statements: (1) earnings are relatively more informative than cash flows; (2) the aggregated effect of cash flows has incremental information content beyond that of earnings; (3) after controlling for the effect of earnings, CFO (NCF) is negatively (positively) associated with...

European Cash Management: A Guide to Best Practice

Abstract: What is cash management and why is it important? Trends in cash management. The inflow of funds to the corporation. The outflow of funds from the corporation. Clearing, payments and receipts. Introduction to cash pooling. Efficient international bank account management. Active liquidity management. From vision to contract. Successful implementation. Index.

Project Evaluation in an Inflationary Environment

Abstract: This is a case for teaching. This case shows through several examples that the Net Present Value for project evaluation should be calculated based on estimates at current prices. It has been a widespread practice to evaluate projects at constant prices with a great deal of -today- unnecessary oversimplifications. An example is presented were it is shown that the constant price methodology (zero increase in prices of year 0 and real discount rate) is biased upwards and there is a risk that bad projects in the reality be accepted as good projects. Example Setting: Hypothetical firm in an inflationary environment. In this example it is shown how the usual procedure for evaluating a project (i.e., assuming constant prices or constant dollars and a deflated or real rate of discount) could give an inappropriate investment recommendation. Situation: This is a technical note, useful for supporting a lecture, class discussion, or case analysis. The example of a hypothetical firm illustrates how to construct a free cash flow based on given parameters (inflation rate, real interest rate, risk premiums, prices, price increases, elasticity function, accounts receivable and accounts payable policies, etc.) and then value the firm. This technical note has six objectives: * illustrate how to construct a pro-forma financial statement, such as Balance Sheet, Profit and Loss Statement, and cash flow forecast for the new firm. * show how the financial evaluation of the firm as a project made with constant prices and/or constant dollar and real or deflated interest rates might differ from the evaluation of the same project with current or nominal prices. * suggest the conditions or assumptions that have to be met in order for the two approaches (the constant price approach and the current or nominal price approach) to give equal results (this is, identical NPV). * show which problems in the follow up and monitoring of a project might be present when working with the constant price approach. * illustrate why NPV calculated at constant prices and real or deflated rate of interest is, in general, different to the NPV calculated at current or nominal prices and discounted at nominal rates of interest, contrary to what is written in many financial textbooks. * describe how a spreadsheet might be utilized to make a more sophisticated analysis and avoid unnecessary, but widely-used oversimplifications. An Excel spreadsheet accompanies the note and allows students to conduct sensitivity analysis on the project's NPV and other results.

Corporate Cash Management, Excess Cash, and Acquisitions

Abstract: How much cash should a corporation have and should we worry when they have too much? As corporate coffers burst at the seams, should investors worry about what managers do with the cash when they finally decide to spend it? This book tackles these and other questions related to corporate cash reserves and the choices of acquistions that cash-rich corporations make.

A Corporate Finance Cash Flow Model with Float

Abstract: In this paper we introduce a Cash Flow Model with Float so as to overcome apparent shortcomings that pervade the Standard Cash Flow Model. We deploy the complex structure the float exhibits and this allows not only for strategic financial decision making but a much more sensible use of sources and applications of expected future cash flows, as well. Furthermore, it provides with a method for building up floats. It is a distinguishing feature in this model that uncovers agency problems and costs. Besides, it gives grounds for a quantitative approach to free cash flows analysis. Prior to introducing the model, however, we derive both the Statement of Cash Flows and the Standard Cash Flow Model so as to weigh up their qualifications against the model with float.

Do share prices fully reflect the information about future earnings in accruals and cash flow

Abstract: This article follows the methodology employed by Sloan to evaluate whether share prices fully reflect the information about future earnings contained in the cash flow and accruals components of current earnings. The first hypothesis predicted that the persistence of earnings attributable to the cash flow component of earnings is greater than the persistence of earnings attributable to the accrual component of earnings. The results indicate that this is indeed the case. The second hypothesis predicted that share prices would react as if investors fixate on earnings, and fail to distinguish between the different properties of the cash flow and the accrual components of earnings. In all cases investigated, the null hypothesis of market efficiency was rejected. However, investors did appear to distinguish between the different properties of cash flow and accruals. Market efficiency was rejected as the influence of both components of earnings was underestimated. Thus, although investors were not successful in unscrambling the earnings data, they did not appear to display an earnings fixation.

Project Evaluation in an Inflationary Environment

Abstract: Subject Areas: project evaluation, capital budgeting, investment, constant and nominal prices, valuation analysis, NPV and NPV assumptions, cash flows, cash flows construction, sensitivity analysis, pro-forma financial statements. Example Setting: Hypothetical firm in an inflationary environment. In this example it is shown how the usual procedure for evaluating a project (i.e., assuming constant prices or constant dollars and a deflated or real rate of discount) could give an inappropriate investment recommendation.Situation:This is a technical note, useful for supporting a lecture, class discussion, or case analysis. The example of a hypothetical firm illustrates how to construct a free cash flow based on given parameters (inflation rate, real interest rate, risk premiums, prices, price increases, elasticity function, accounts receivable and accounts payable policies, etc.) and then value the firm.This technical note has six objectives: * illustrate how to construct a pro-forma financial statement, such as Balance Sheet, Profit and Loss Statement, and cash flow forecast for the new firm. * show how the financial evaluation of the firm as a project made with constant prices and/or constant dollar and real or deflated interest rates might differ from the evaluation of the same project with current or nominal prices. * suggest the conditions or assumptions that have to be met in order for the two approaches (the constant price approach and the current or nominal price approach) to give equal results (this is, identical NPV). * show which problems in the follow up and monitoring of a project might be present when working with the constant price approach. * illustrate why NPV calculated at constant prices and real or deflated rate of interest is, in general, different to the NPV calculated at current or nominal prices and discounted at nominal rates of interest, contrary to what is written in many financial textbooks. * describe how a spreadsheet might be utilized to make a more sophisticated analysis and avoid unnecessary, but widely-used oversimplifications. An Excel spreadsheet accompanies the note and allows students to conduct sensitivity analysis on the project's NPV and other results.

Cash Flow Planning in Agriculture

Abstract: Preface. Part I. Introduction to Cash Flow. The Importance of Cash Flow. Relationships between the Financial Statements. A Cash Flow Plan. Part II. Plan Components. Strategic Planning. Market Planning. Production Planning. Purchasing Schedules and Inventory Planning. Investment, Repair, Debt Service, and Other Expenditure Planning. Part III. Compilation and Use of a Total Plan. Putting the Plan Together. Assessing Risk through Cash Flow. Cash Flow Monitoring. Part IV. Limitations and Other Concerns. Cash Flow Deficiencies, Problems, and Long-Run Projections. Index.