CCA Cash Flow Analysis 1 — Questions and Answers
Question 1: Which section of the cash flow statement reflects cash generated from a company's primary business operations?
- Investing activities
- Financing activities
- Operating activities (Correct answer)
- Supplemental disclosures
Correct answer: Operating activities
Operating activities capture cash inflows and outflows directly related to the core business, such as receipts from customers and payments to suppliers.
Question 2: A company reports net income of $500,000, depreciation of $80,000, and an increase in accounts receivable of $60,000. What is the approximate cash flow from operations using the indirect method?
- $440,000
- $520,000 (Correct answer)
- $580,000
- $640,000
Correct answer: $520,000
Under the indirect method: $500,000 + $80,000 (add back non-cash depreciation) − $60,000 (increase in AR uses cash) = $520,000.
Question 3: What does a persistently negative operating cash flow combined with positive net income most likely indicate to a credit analyst?
- Strong long-term investment strategy
- Aggressive revenue recognition or collection problems (Correct answer)
- Robust capital expenditure program
- Conservative accounting policies
Correct answer: Aggressive revenue recognition or collection problems
When net income is positive but operating cash flow is consistently negative, it often signals aggressive accrual accounting or deteriorating receivables collection.
Question 4: Free cash flow (FCF) is best defined as:
- Net income minus dividends paid
- Operating cash flow minus capital expenditures (Correct answer)
- EBITDA minus interest expense
- Cash from financing minus debt repayments
Correct answer: Operating cash flow minus capital expenditures
FCF = Operating Cash Flow − Capital Expenditures, representing cash available after maintaining and expanding the asset base.
Question 5: Which of the following is a non-cash item that is added back to net income when preparing the operating section under the indirect method?
- Increase in inventory
- Gain on sale of equipment
- Depreciation and amortization (Correct answer)
- Decrease in accounts payable
Correct answer: Depreciation and amortization
Depreciation and amortization are non-cash charges that reduce net income but do not involve an actual cash outflow, so they are added back.
Question 6: A decline in accounts payable would appear on the indirect-method cash flow statement as:
- An addition to net income
- A subtraction from net income (Correct answer)
- A financing outflow
- An investing inflow
Correct answer: A subtraction from net income
A decline in accounts payable means the company paid suppliers faster, consuming cash, which reduces operating cash flow.
Question 7: Which cash flow metric is most commonly used by credit analysts to measure a borrower's ability to service debt?
- Gross profit margin
- Debt Service Coverage Ratio (DSCR) (Correct answer)
- Current ratio
- Price-to-earnings ratio
Correct answer: Debt Service Coverage Ratio (DSCR)
DSCR compares operating cash flow (or EBITDA) to total debt service obligations, directly measuring whether a borrower generates sufficient cash to cover principal and interest.
CCA Cash Flow Analysis 1
Which section of the cash flow statement reflects cash generated from a company's primary business operations?