Why the Statement of Cash Flows Matters

• Monetization of assets can be achieved through disposal of a business, sale of a joint venture, IPO of a subsidiary or sale of assets such as property, a plant or equipment. A recent example of such a transaction is the sale of McDonald's (MCD Quote) Boston Markets unit to a private-equity firm.
• The sale of common stock through a secondary offering or issuance of preferred stock. Preferred stock can be either straight preferred or convertible into common stock. Recently, Bank of America (BAC Quote) purchased a sizable convertible preferred private placement issued by Countrywide Financial (CFC Quote) to help the mortgage company during the recent liquidity crisis.
• Companies can issue debt. Debt comes in two main forms: secured and unsecured. Secured debt is issued against the value of an asset such as real estate, receivables or marketable securities. This may take the form of a mortgage, asset-backed security or "repo" transaction.

  For example, CarMax (KMX Quote) recently closed on a $500 million asset-backed loan that was collateralized with automobile inventory. An unsecured liability is created when a company borrows money against the full faith and credit of that company without pledging any collateral to the lender.

  As an example of this, IHOP (IHP Quote) recently announced its intention to acquire Applebee's (APPB Quote) for $2.1 billion in cash. The cash will be raised from credit facilities that IHOP has recently established or has in place.

  As with preferred stock, unsecured debt can be straight or convertible into stock. Because secured debt grants the lender a security interest in the assets borrowed against, the rates of interest tend to be lower than that of unsecured debt. Convertible debt will have lower coupon rates than straight debt, because the holder will also benefit from the embedded option implicit in the conversion feature.

Your Homework

Review statements of cash flows for several companies that you're interested in. In the process, compare and contrast the companies that are in the process of generating cash and returning value to shareholders vs. the companies that are borrowing money to maintain or expand operations.