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7.13 Application Using Financial Statements:  IBM Example Reconciliation

Reconciliation for 2009:

Cash Flow from Operations 20,773

CAPEX

Payments for plant, rental machines and other property (3,447)

Proceeds from disposition of plant, rental machines and other property 330

Investment in software  (630)

Total CAPEX = 3,747

In addition, IBM has made an adjustment for the line Item Receivables (including financing receivable)  resulting in a subtraction from cash flows from operations of 1.9 billion.

IBM Adjusted Cash Flow from Operations =

So combined IBM Management’s estimate for Free Cash Flow is $15.1 billion.

Summary:

Free Cash Flow Firm = Cash Flow from Operations - Capital Expenditures (CAPEX)    1)

Free Cash Flow Firm = 15.1 billion

Remark:  In the above numbers IBM started with cash flow from operations using US GAAP and then made an adjustment to separate out the effects of the financing decision from the investment decision.  IBM did not comment separately as to whether this included an adjustment for interest expense net of tax but given that they made an adjustment, we will assume that it did.

Tip:  In the above example CAPEX is taken directly from the accounting statements.  In practice this should still be viewed as a first pass because the analyst is attempting to assess and understand future CAPEX behavior.  That is, what are the drivers of CAPEX?  This may result in the average CAPEX over the last 3 or 5-years providing a better estimate than the most recent CAPEX number.  In addition, further adjustments may be required from your understanding of the firm’s investment decision if the past is not a good predictor of future CAPEX behavior.