If I finance my accounts payable through a short term debt, what happens to the CFO? The curriculum says two things in the shenanigans chapter - one that CFO reduces, CFF increases and on the next page it says that the CFO is inflated. How is that?
I would expect CFO to be inflated. When you finance it, CFO is unchanged and CFF increases. When you pay back in next quarter, you pay back to the bank using CFF.作者: rgonzalez 时间: 2011-7-13 16:05
In the period when you refinance, CFO will decrease, but CFF will increase. In a later period when you will repay your debt - your CFF will decrease accordingly, but CFO won't be affected by this transaction (now its a financial, not operating CF). So now your CFO will be inflated, because your cash outflow is in CFF instead of CFO.
If you look at the net effect of the two periods, CFO will be unaffected - it's all about timing of CFO.作者: evolsteevol 时间: 2011-7-13 16:05
You are taking a debt to repay your suppliers, so you will use the borrowed cash (increase in CFF) to reduce your accounts payable, which is an operating cash outflow.作者: chetan86 时间: 2011-7-13 16:05
Nice explanations here thanks. Summary in my words, hope I'm right:
-"finance payables" or borrow cash money from the bank in order to pay off your suppliers since you don't have money to pay them.
-So that cash i received increases CFF, and me paying down my A/P decreases CFO, because that's what happens when you pay down A/P
-When you repay the bank later, CFF goes down, but nothing happens to CFO, so therefore CFO is greater than CFF
This overall process makes the company look @#$%& in the short term because they are borrowing money to pay their bills, and CFO decreasing looks bad (analysts focus on CFO cuz that is the cash flow from OPERATIONS, their "core" business supposedly)
But in the future when they pay that loan back they look better since they are paying off debt and CFO is higher.作者: lc26mizzou 时间: 2011-7-13 16:05
AndrewUNH Wrote:
-------------------------------------------------------
> Nice explanations here thanks. Summary in my
> words, hope I'm right:
>
> -"finance payables" or borrow cash money from the
> bank in order to pay off your suppliers since you
> don't have money to pay them.
>
> -So that cash i received increases CFF, and me
> paying down my A/P decreases CFO, because that's
> what happens when you pay down A/P
>
> -When you repay the bank later, CFF goes down, but
> nothing happens to CFO, so therefore CFO is
> greater than CFF
>
> This overall process makes the company look @#$%&
> in the short term because they are borrowing money
> to pay their bills, and CFO decreasing looks bad
> (analysts focus on CFO cuz that is the cash flow
> from OPERATIONS, their "core" business supposedly)
>
> But in the future when they pay that loan back
> they look better since they are paying off debt
> and CFO is higher.
I see! Thanks both of you. Just one little doubt left - why do they say that you 'manage the timing of your CFO this way'
Say if I didn't take the financing, I pay payables out of my CFO. I took the financing, I am still paying payables out of my CFO. I increase CFF in first quarter by taking financing and reduce CFF later by paying back the financing. How did I manage the timing of CFO?作者: dontknow1987 时间: 2011-7-13 16:05
I understand your question here and will try to explain my thinking on it:
Take your 2 scenarios
1) You don't take any financing. Say that your operating cycle (A/R and Inv days) is 120 days and A/P days are 30....if you continue making payments at the same rate as you take on A/P, your A/P days will stay at 30, so your net operating/cash conversion cycle will be 90 days.
2) You finance the entire chunk of A/P. Your operating cycle stays at 120, but now you have completely retired all your A/P with the bank debt. The retiring of A/P is still a CFO outflow. Since you have no A/P anymore, your A/P days are 0 and your cash conversion cycle shoots up because its now 120 - 0 = 120 days.
By financing A/P, you take a take a hit to CFO at the time of refinance, but that is the extent of any CFO activity. Any subsequent paydown goes toward repaying the bank loan (CFF).
Sorry, this probably had nothing to do with what you were asking about.
anish Wrote:
why do they say that you 'manage the timing
> of your CFO this way'
> Say if I didn't take the financing, I pay payables
> out of my CFO. I took the financing, I am still
> paying payables out of my CFO. I increase CFF in
> first quarter by taking financing and reduce CFF
> later by paying back the financing. How did I
> manage the timing of CFO?
Edited 1 time(s). Last edit at Wednesday, May 18, 2011 at 03:15PM by thisisbrianly.作者: Londonrocks 时间: 2011-7-13 16:05
nice explanation brianly- I think we discussed this last week too...you were right.
You're right- you take a hit to CFO at time of financing, which is also why cash conversion cycle goes up to 120 days- this also looks bad cuz it takes longer to collect cash money right?作者: orang3eph 时间: 2011-7-13 16:05
In your last sentence, did you mean CFF is unaffected ? Because for me it looks like it's the CFF which is unaffected (net balance = 0) but just a difference in the timing as you said
Beatnik Wrote:
-------------------------------------------------------
> In the period when you refinance, CFO will
> decrease, but CFF will increase. In a later period
> when you will repay your debt - your CFF will
> decrease accordingly, but CFO won't be affected by
> this transaction (now its a financial, not
> operating CF). So now your CFO will be inflated,
> because your cash outflow is in CFF instead of
> CFO.
>
>
> If you look at the net effect of the two periods,
> CFO will be unaffected - it's all about timing of
> CFO.作者: studyn 时间: 2011-7-13 16:05
Very helpful thread..Thank you all!作者: ishfaque 时间: 2011-7-13 16:05
Ok, so after reading the comments here, I went back to the CFA FRA book and some sanity seems to have been restored. Tell me if I am making sense:
CFO is calculated by adjusting Net Income for Non cash items (adding A/P to Net Income)
When you re-classify your A/P, your A/P = 0, so CFO goes down. Also, your CFF goes up because you re-classified it as a short term loan. You do this when your CFO is seasonally strong so that you don't take a big hit. Now all your A/P is retired and you can start collecting A/P again for a while and boost your CFO up. Then in some other quarter, when CFO is again seasonally strong, you finance your payables. That is how you manage your CFO. And yes, your operating cycle changes as you mentioned.
I hope this thinking is correct. And now, all your comments are making a lot of sense to me!作者: JPSem 时间: 2011-7-13 16:05
That's exactly correct. And that's what I meant by managing the timing of CFO - just didn't manage to put it so clearly. Guess I would make a lousy teacher作者: Bluetick1010 时间: 2011-7-13 16:05
Beatnik Wrote:
-------------------------------------------------------
> That's exactly correct. And that's what I meant by
> managing the timing of CFO - just didn't manage to
> put it so clearly. Guess I would make a lousy
> teacher
I am glad! It was killing me! I just couldn't get the connection. Now it all makes sense. Thanks so much... (and well, I better be able to explain something when I know it myself, considering that I teach for GMAT part-time )作者: amqata 时间: 2011-7-13 16:05
Nice job anish- you got it. Fascinating all the ways that companies can manage earnings (and to a lesser extent, cash flow). Good luck.
