Jane Stallings is the vice-president of operations for the Floppy Disk Computer Company,which produces a wide variety of hardware and software for personal computers.This equipment is sold to other manufacturers and is also sold to business and personal (retail) customers through specialty computer suppliers in shopping malls and business centers throughout the United States and Europe.

Floppy Disk has been in business for about 15 years and its overall operating results have been generally satisfactory.However,because the product life cycle for floppy disks is reaching its end, the manufacturing of floppy disks is almost completely conducted in the Far East due to lower labor costs, and the Floppy Disk Division has had zero profits for the past three years,Jane Stallings has proposed eliminating the Floppy Disk Division.

Max Marcker, son of Floppy Disk’s founder and holder of 45% of the company’s shares, objected to this proposal at the last meeting of the board of directors.Max believes that a resurgence of interest in floppy disk technology will soon occur and that such products will soon be produced at a cost of two cents each. He suggested to the board that this division is still integral to the company’s future, that it contributes to its cash flows, and that better planning and budgeting will improve the company’s future cash flows.
Required

a. Write a short memo to Max from Jane, explaining the difference between cash flows and profits.

b. Each of Floppy Disk’s divisions has, in the past, been evaluated on the basis of net income and return on shareholders’equity.Jane Stallings has suggested that cash flows should now be viewed as just as important a performance measure as net income.Write a short response to Jane. Suggest some cashbased ratios that would be more helpful and useful for annual performance evaluation of the divisions.

c. Jane has also suggested that each division be required to use the direct method in its cash flow statements.Again,write a short response to Jane.Explain why the direct method may be more helpful to managers in each division, as well as for anyone who might be evaluating the divisions.