Cash from trash

CFO: Magazine for Senior Financial Executives,  August, 2005  

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Insurance reimbursements for damaged property, plant, and equipment (PP&E) may be boosting operating cash flow (OCF) at some firms by millions of dollars a year. But according to a recent report, the classification of the cash flies in the face of accounting rules.

A study by the Financial Analysis Lab at the Georgia Institute of Technology argues that insurance reimbursements for the loss of PP&E are supposed to be classified as cash flow from investing, not OCF, according to accounting rule SFAS 95, since the original purchase of such items is classified as a use of cash for investing.

According to Charles Mulford, the study's author and professor of accounting at Georgia Tech, insurance reimbursement for damaged PP&E is akin to receiving cash from the sale of the damaged assets, which would normally go back into the investing cash-flow line item. "I won't say it's widespread," says Mulford, "but there are enough examples to know that there is some confusion on reporting of these kinds of insurance proceeds."

One company cited in the report, Network Equipment Technologies Inc., boosted its OCF by more than 193 percent in its 2003 fiscal year, thanks to insurance reimbursements stemming from a flood at one of its leased facilities. Mulford says the proceeds were improperly applied as OCF. The company's CFO, John McGrath Jr., says the reimbursement was solely to cover the business interruption claim the company filed, although proceeds were used to build out the new leased facility. "Even if this were a gray area," says McGrath, "the implication that [our accounting for the reimbursement] is misleading is not true, because of the fact that it's disclosed in half a dozen places in the financial statement."

Mulford stands by his analysis. He adds that many analysts and investors are unaware that companies often include nonrecurring items in their OCF. * K.F.

INFLATABLES

Did some companies inflate opearting cash
flow (OCF) with insurance proceeds? (in $ millions)

Company                   FY                        OCF less
                          End              OCF          PP&E
                                                  Proceeds *

Eagle Picher Holdings     11/30/03     ($0.96)       ($8.80)
Network Equipment Tech    3/28/03       (1.79)        (5.24)
Spacehab                  6/30/03       19.78          2.11
Gulfport Energy           12/31/03       9.38          6.87
Home Products Int'l       1/1/05        (8.03)        (9.09)
Finish Line               3/1/03       $31.96        $28.96

Company                          %
                          Decrease
                            in OCF

Eagle Picher Holdings         819%
Network Equipment Tech        193
Spacehab                       89
Gulfport Energy                27
Home Products Int'l            13
Finish Line                     9%

* OCF excluding to PP&E, as could be determined from the disclosures
provided.

Source: Georgia Tech College of Management's Financial Analysis Lab

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