Financial Terms Flow-through method

# Definition of Flow-through method

## Flow-through method

The practice of reporting to shareholders using straight-line depreciation and
accelerated depreciation for tax purposes and "flowing through" the lower income taxes actually paid to the
financial statement prepared for shareholders.

# Related Terms:

## NPV (net present value of cash flows)

Same as PV, but usually includes a subtraction for an initial cash outlay.

## PV (present value of cash flows)

the value in todayâ€™s dollars of cash flows that occur in different time periods.
present value factor equal to the formula 1/(1 - r)n, where n is the number of years from the valuation date to the cash flow and r is the discount rate.
For business valuation, n should usually be midyear, i.e., n = 0.5, 1.5, . . .

## Agency pass-throughs

Mortgage pass-through securities whose principal and interest payments are
guaranteed by government agencies, such as the Government National Mortgage Association ("Ginnie Mae"), Federal Home Loan Mortgage Corporation ("Freddie Mac") and Federal National Mortgage Association ("Fannie Mae").

## Capitalization method

A method of constructing a replicating portfolio in which the manager purchases a
number of the largest-capitalized names in the index stock in proportion to their capitalization.

## Cash flow

In investments, it represents earnings before depreciation , amortization and non-cash charges.
Sometimes called cash earnings. Cash flow from operations (called funds from operations ) by real estate and
other investment trusts is important because it indicates the ability to pay dividends.

## Cash flow after interest and taxes

Net income plus depreciation.

## Cash flow coverage ratio

The number of times that financial obligations (for interest, principal payments,
preferred stock dividends, and rental payments) are covered by earnings before interest, taxes, rental
payments, and depreciation.

## Cash flow from operations

A firm's net cash inflow resulting directly from its regular operations
(disregarding extraordinary items such as the sale of fixed assets or transaction costs associated with issuing
securities), calculated as the sum of net income plus non-cash expenses that were deducted in calculating net
income.

## Cash flow matching

Also called dedicating a portfolio, this is an alternative to multiperiod immunization in
which the manager matches the maturity of each element in the liability stream, working backward from the
last liability to assure all required cash flows.

## Cash flow per common share

Cash flow from operations minus preferred stock dividends, divided by the
number of common shares outstanding.

## Cash flow time-line

Line depicting the operating activities and cash flows for a firm over a particular period.

## Cash-flow break-even point

The point below which the firm will need either to obtain additional financing
or to liquidate some of its assets to meet its fixed costs.

## Conventional pass-throughs

Also called private-label pass-throughs, any mortgage pass-through security not
guaranteed by government agencies. Compare agency pass-throughs.

## Current rate method

Under this currency translation method, all foreign currency balance-sheet and income
statement items are translated at the current exchange rate.

## Direct estimate method

A method of cash budgeting based on detailed estimates of cash receipts and cash
disbursements category by category.

## Discounted cash flow (DCF)

Future cash flows multiplied by discount factors to obtain present values.

## Discretionary cash flow

Cash flow that is available after the funding of all positive NPV capital investment
projects; it is available for paying cash dividends, repurchasing common stock, retiring debt, and so on.

## Equivalent annual cash flow

Annuity with the same net present value as the company's proposed investment.

## Expected future cash flows

Projected future cash flows associated with an asset of decision.

## Flower bond

Government bonds that are acceptable at par in payment of federal estate taxes when owned by
the decedent at the time of death.

## Flow-through basis

An account for the investment credit to show all income statement benefits of the credit
in the year of acquisition, rather than spreading them over the life of the asset acquired.

## Free cash flows

Cash not required for operations or for reinvestment. Often defined as earnings before
interest (often obtained from operating income line on the income statement) less capital expenditures less the
change in working capital.

## Fully modified pass-throughs

Agency pass-throughs that guarantee the timely payment of both interest and
principal. Related: modified pass-throughs
Functional currency As defined by FASB No. 52, an affiliate's functional currency is the currency of the
primary economic environment in which the affiliate generates and expends cash.

## Incremental cash flows

Difference between the firm's cash flows with and without a project.

## Log-linear least-squares method

A statistical technique for fitting a curve to a set of data points. One of the
variables is transformed by taking its logarithm, and then a straight line is fitted to the transformed set of data
points.

## Modified pass-throughs

Agency pass-throughs that guarantee (1) timely interest payments and (2) principal
payments as collected, but no later than a specified time after they are due. Related: fully modified passthroughs

## Monetary / non-monetary method

Under this translation method, monetary items (e.g. cash, accounts
payable and receivable, and long-term debt) are translated at the current rate while non-monetary items (e.g.
inventory, fixed assets, and long-term investments) are translated at historical rates.

## Mortgage pass-through security

Also called a passthrough, a security created when one or more mortgage
holders form a collection (pool) of mortgages sells shares or participation certificates in the pool. The cash
flow from the collateral pool is "passed through" to the security holder as monthly payments of principal,
interest, and prepayments. This is the predominant type of MBS traded in the secondary market.

## Nominal cash flow

A cash flow expressed in nominal terms if the actual dollars to be received or paid out are given.

## Normalizing method

The practice of making a charge in the income account equivalent to the tax savings
realized through the use of different depreciation methods for shareholder and income tax purposes, thus
washing out the benefits of the tax savings reported as final net income to shareholders.

## Operating cash flow

Earnings before depreciation minus taxes. It measures the cash generated from
operations, not counting capital spending or working capital requirements.

## Pass-through rate

The net interest rate passed through to investors after deducting servicing, management,
and guarantee fees from the gross mortgage coupon.

## Pass-through securities

A pool of fixed-income securities backed by a package of assets (i.e. mortgages)
where the holder receives the principal and interest payments. Related: mortgage pass-through security

## Pass-through coupon rate

The interest rate paid on a securitized pool of assets, which is less than the rate
paid on the underlying loans by an amount equal to the servicing and guaranteeing fees.

## Payable through drafts

A method of making payment that is used to maintain control over payments made
on behalf of the firm by personnel in noncentral locations. The payer's bank delivers the payable through draft
to the payer, which must approve it and return it to the bank before payment can be received.

## Price-specie-flow mechanism

Adjustment mechanism under the classical gold standard whereby
disturbances in the price level in one country would be wholly or partly offset by a countervailing flow of
specie (gold coins) that would act to equalize prices across countries and automatically bring international
payments back in balance.

## Private-label pass-throughs

Related: Conventional pass-throughs.

## Production-flow commitment

An agreement by the loan purchaser to allow the monthly loan quota to be
delivered in batches.

## Purchase method

Accounting for an acquisition using market value for the consolidation of the two entities'
net assets on the balance sheet. Generally, depreciation/amortization will increase for this method compared
with pooling and will result in lower net income.

## Real cash flow

A cash flow is expressed in real terms if the current, or date 0, purchasing power of the cash
flow is given.

## Residual method

A method of allocating the purchase price for the acquisition of another firm among the
acquired assets.

## Scheduled cash flows

The mortgage principal and interest payments due to be paid under the terms of the
mortgage not including possible prepayments.

## Simple compound growth method

A method of calculating the growth rate by relating the terminal value to
the initial value and assuming a constant percentage annual rate of growth between these two values.

## Statement of cash flows

A financial statement showing a firm's cash receipts and cash payments during a
specified period.

## Statement-of-cash-flows method

A method of cash budgeting that is organized along the lines of the statement of cash flows.

## Temporal method

Under this currency translation method, the choice of exchange rate depends on the
underlying method of valuation. Assets and liabilities valued at historical cost (market cost) are translated at
the historical (current market) rate.

## Throughput agreement

An agreement to put a specified amount of product per period through a particular
facility. For example, an agreement to ship a specified amount of crude oil per period through a particular
pipeline.

## Wallflower

Stock that has fallen out of favor with investors; tends to have a low P/E (price to earnings ratio).

## CASH-FLOW STATEMENT

A statement that shows where a companyâ€™s cash came from and where it went for a period of time, such as a year.

## CASH FLOWS FROM FINANCING ACTIVITIES

A section on the cash-flow statement that shows how much cash a company raised by selling stocks or bonds this year and how much was paid out for cash dividends and other finance-related obligations.

## CASH FLOWS FROM INVESTING ACTIVITIES

A section on the cashflow statement that shows how much cash came in and went out because of various investing activities like purchasing machinery.

## CASH FLOWS FROM OPERATIONS

A section on the cash-flow Stockholdersâ€™ equity statement that shows how much cash came into a company and how much went out during the normal course of business.

## Cash Flow statement

A financial report that shows the movement in cash for a business during an accounting period.

## Discounted cash flow (DCF)

A method of investment appraisal that discounts future cash flows to present value using a discount rate, which is the risk-adjusted cost of capital.

## Throughput contribution

Sales revenue less the cost of materials.

## Allowance method

A method of adjusting accounts receivable to the amount that is expected to be collected based on company experience.

## Direct method

A method of preparing the operating section of the Statement of Cash flows that uses the companyâ€™s actual cash inflows and cash outflows.

## Direct write-off method

A method of adjusting accounts receivable to the amount that is expected to be collected by eliminating the account balances of specific nonpaying customers.

## Indirect method

A method of preparing the operating section of the Statement of Cash flows that does not use the companyâ€™s actual cash inflows and cash outflows, but instead arrives at the net cash flow by taking net income and adjusting it for noncash expenses and the changes from last year in the current assets and current liabilities.

## Statement of Cash Flows

One of the basic financial statements; it lists the cash inflows and cash outflows of the company, grouped into the categories of operating activities, financing activities, and investing activities. The Statement of Cash flows is prepared for a specified period of time.

## cash flow

An obvious but at the same time elusive term that refers to cash
inflows and outflows during a period. But the specific sources and uses
of cash flows are not clear in this general term. The statement of cash
flows, which is one of the three primary financial statements of a business,
classifies cash flows into three types: those from operating activities
(sales and expenses, or profit-making operations), those from
investing activities, and those from financing activities. Sometimes the
term cash flow is used as shorthand for cash flow from profit (i.e., cash
flow from operating activities).

## cash flow from operating activities, or cash flow from profit

This equals the cash inflow from sales during the period minus the cash
outflow for expenses during the period. Keep in mind that to measure
net income, generally accepted accounting principles require the use of
accrual-basis accounting. Starting with the amount of accrual-basis net
inventories, prepaid expenses, and operating liabilitiesâ€”and depreciation
expense is added back (as well as any other noncash outlay
expense)â€”to arrive at cash flow from profit, which is formally labeled
cash flow from operating activities in the externally reported statement
of cash flows.

## statement of cash flows

One of the three primary financial statements
that a business includes in the periodic financial reports to its outside
shareowners and lenders. This financial statement summarizes the businessâ€™s
cash inflows and outflows for the period according to a threefold
classification: (1) cash flow from operating activities (cash flow from
profit), (2) cash flow from investing activities, and (3) cash flow from
financing activities. Frankly, the typical statement of cash flows is difficult
to read and decipher; it includes too many lines of information and
is fairly technical compared with the typical balance sheet and income
statement.

## discounted cash flow (DCF)

Refers to a capital investment analysis technique
that discounts, or scales down, the future cash returns from an
investment based on the cost-of-capital rate for the business. In essence,
each future return is downsized to take into account the cost of capital
from the start of the investment until the future point in time when the
return is received. Present value (PV) is the amount resulting from discounting
the future returns. Present value is subtracted from the entry
cost of the investment to determine net present value (NPV). The net
present value is positive if the present value is more than the entry cost,
which signals that the investment would earn more than the cost-ofcapital
rate. If the entry cost is more than the present value, the net
present value is negative, which means that the investment would earn
less than the businessâ€™s cost-of-capital rate.

## free cash flow

Generally speaking, this term refers to cash flow from
profit (cash flow from operating activities, to use the more formal term).
The underlying idea is that a business is free to do what it wants with its
cash flow from profit. However, a business usually has many ongoing
commitments and demands on this cash flow, so it may not actually be
free to decide what do with this source of cash. Warning: This term is
not officially defined anywhere and different persons use the term to
mean different things. Pay particular attention to how an author or
speaker is using the term.

## negative cash flow

The cash flow from the operating activities of a business
can be negative, which means that its cash balance decreased from
its sales and expense activities during the period. When a business is
operating at a loss instead of making a profit, its cash outflows for
expenses very likely may be more than its cash inflow from sales. Even
when a business makes a profit for the period, its cash inflow from sales
could be considerably less than the sales revenue recorded for the
period, thus causing a negative cash flow for the period. Caution: This
term also is used for certain types of investments in which the net cash
flow from all sources and uses is negative. For example, investors in
rental real estate properties often use the term to mean that the cash
inflow from rental income is less than all cash outflows during the
period, including payments on the mortgage loan on the property.

## operating cash flow

See cash flow from operating activities.

## Free Cash Flow

The funds available for distribution to the capital providers of the
company after investments inside the company have been made

## Operating Cash Flow

Income available after the payment of taxes, plus the value of the
non-cash expenses

## algebraic method

a process of service department cost allocation
that considers all interrelationships of the departments
and reflects these relationships in simultaneous
equations

## cash flow

the receipt or disbursement of cash; when related
to capital budgeting, cash flows arise from the purchase,
operation, and disposition of a capital asset

## direct method

a service department cost allocation approach
that assigns service department costs directly to revenueproducing
areas with only one set of intermediate cost
pools or allocations

## dividend growth method

a method of computing the cost
of common stock equity that indicates the rate of return
that common shareholders expect to earn in the form of
dividends on a companyâ€™s common stock

## FIFO method (of process costing)

the method of cost assignment that computes an average cost per equivalent
unit of production for the current period; keeps beginning
inventory units and costs separate from current period production
and costs

## high-low method

a technique used to determine the fixed
and variable portions of a mixed cost; it uses only the highest
and lowest levels of activity within the relevant range

## judgmental method (of risk adjustment)

an informal method of adjusting for risk that allows the decision maker
to use logic and reason to decide whether a project provides
an acceptable rate of return

## method of least squares

see least squares regression analysis

## method of neglect

a method of treating spoiled units in the
equivalent units schedule as if those units did not occur;
it is used for continuous normal spoilage

## modified FIFO method (of process costing)

the method of cost assignment that uses FIFO to compute a cost per
equivalent unit but, in transferring units from a department,
the costs of the beginning inventory units and the
units started and completed are combined and averaged

## net present value method

a process that uses the discounted
cash flows of a project to determine whether the
rate of return on that project is equal to, higher than, or
lower than the desired rate of return

## operations flow document

a document listing all operations
necessary to produce one unit of product (or perform
a specific service) and the corresponding time allowed
for each operation

a formal method of adjusting for risk in which the decision maker increases the rate used for discounting the future cash flows to compensate for increased risk

## simplex method

an iterative (sequential) algorithm used to solve multivariable, multiconstraint linear programming problems

## six-sigma method

a high-performance, data-driven approach to analyzing and solving the root causes of business problems

## step method

a process of service department cost allocation
that assigns service department costs to cost objects after
considering the interrelationships of the service departments
and revenue-producing departments

## strict FIFO method (of process costing)

the method of cost assignment that uses FIFO to compute a cost per equivalent unit and, in transferring units from a department, keeps the
cost of the beginning units separate from the cost of the
units started and completed during the current period

## throughput

the total completed and sold output of a plant during a period

## weighted average method (of process costing)

the method of cost assignment that computes an average cost per
equivalent unit of production for all units completed during
the current period; it combines beginning inventory units
and costs with current production and costs, respectively,
to compute the average

## Bootstrapping, bootstrap method

An arithmetic method for backing an
implied zero curve out of the par yield curve.

## Cash flow

Cash received and paid over time.

## Discounted cash flow

A technique that determines the present value of future cash
flows by applying a rate to each periodic cash flow that is derived from the cost of
capital. Multiplying this discount by each future cash flow results in an amount that
is the present value of all the future cash flows.

## First in, first-out costing method (FIFO)

A process costing methodology that assigns the earliest
cost of production and materials to those units being sold, while the latest costs
of production and materials are assigned to those units still retained in inventory.

## Moving average inventory method

An inventory costing methodology that calls for the re-calculation of the average cost of all parts in stock after every purchase.
Therefore, the moving average is the cost of all units subsequent to the latest purchase,
divided by their total cost.

## Payback method

A capital budgeting analysis method that calculates the amount of
time it will take to recoup the investment in a capital asset, with no regard for the
time cost of money.

## Purchase method

An accounting method used to combine the financial statements of
companies. This involves recording the acquired assets at fair market value, and the
excess of the purchase price over this value as goodwill, which will be amortized
over time.

## Statement of cash flows

Part of the financial statements; it summarizes an entityâ€™s cash
inflows and outflows in relation to financing, operating, and investing activities.

## statement of cash flows

Financial statement that shows the firmâ€™s cash receipts and cash payments over a period of time.

## Capital Flows

Purchase by foreigners of our assets (capital inflows) or our purchase of foreign assets (capital outflows).

## Circular Flow

Income payments to factors of production are spent to buy output. The receipts from these sales are used to pay factors of production, creating a circular flow of income.