1 chapter 12 the statement of cash flows financial accounting, alternate 4e by porter and norton

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Chapter 12

The Statement of Cash Flows

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FEDERAL RESERVE NOTE

THE UNITED STATES OF AMERICATHE UNITED STATES OF AMERICA

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ONE DOLLARONE DOLLAR

WASHINGTON, D.C.

THIS NOTE IS LEGAL TENDER

FOR ALL DEBTS, PUBLIC AND PRIVATE

SERIES

1985

H 293

Financial Accounting, Alternate 4e by Porter and Norton

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Cash Flows and Net Income for Four Computer Companies in 2002

Dell Computer Corp.

IBM

Hewlitt-Packard Co.

Gateway, Inc.

Increase(Decrease) Net

Income in Cash (Loss)

$ 591 $2,122

(948) 3,579

6,995 (903)

(265) (298)

(in millions)

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Purpose of the Statement of Cash Flows

Explains changes in cash over a period of time

OperatingActivities

FinancingActivities

InvestingActivities

Summarizes cash inflows and outflows from:

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Cash EquivalentsA



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Readily convertible to cash

Little risk of price change

Original maturity to investor of three months or less

Examples:• Commercial paper• U.S. Treasury bills• Certain money market funds

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Statement of Cash Flows Format

Classified by:Operating activitiesInvesting activitiesFinancing activities

outflowsinflows Cash

Increase or decrease in cash

BeginningCash +

= EndingCash

=

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Statement of Cash Flows FormatCash flows from operating activities:

Inflows $ xxxOutflows (xxx)

Net cash provided (used) by operating activities $ xxxCash flows from investing activities:


Net cash provided (used) by investing activities xxxCash flows from financing activities:


Net cash provided (used) by financing activities xxxNet increase (decrease) in cash and cash equivalents $ xxxCash and cash equivalents at beginning of year xxxCash and cash equivalents at end of year $ xxx

from balance sheets

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Cash transactions

concerned with acquiring and

selling products and services

Make inventory purchases

Sell products and services

Incur employee salaries and wages

Incur utility andother operating

costs

Operating Activities

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Cash transactions concerned with acquiring and

disposing of long-term assets

Purchase/Sell intangible assets (e.g., patents, trademarks)

Buy/Sellproperty, plant

& equipment

Purchase/Selllong-term

investments

Investing Activities

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Cash transactions

concerned with internal and

external financing of the business

Issue/Retire bonds

Borrow $/repay loans

Sell/Repurchase stocks

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Issue dividendsPay

check

for

Date

Dept.

of Tre

asurer

Jane D

oe

Financing Activities

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Categorizing Cash Flow Activities

Current Assets

andCurrent

Liabilities

IncomeStatement

Transactions

Operating Activities

Long-Term Liabilities

or Stockholders’

Equity

Financing ActivitiesLong-Term

Assets

Investing Activities

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Methods to ReportCash from Operating Activities

Direct Method

Indirect Method

both methods arrive at same

cash from operating activities

reports major classes of cash receipts and payments

adjusts net income to remove effect of accruals and deferrals

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Preparing the Statement of CashFlows: Direct Method

Step 1– Set up three schedules

Cash Flows fromOperating Activities

Cash Flows fromInvesting Activities

Cash Flows fromFinancing Activities

Step 2– Determine the cash flows from operating

activities by analyzing each item on the income statement, current assets and current liabilities

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Direct Method - Operating Activities

Determine cash collected from customers:

Beginning accounts receivable $ 57,000+ Sales revenue 670,000– Cash collections (x)= Ending accounts receivable $ 63,000

Solve for x. Cash collections = $664,000

From BalanceSheet

From IncomeStatement

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Schedule of Cash Flows from Operating Activities

Cash receipts from:

Sales on account 664,000

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Interest Revenue: Since no Interest Receivable account exists on the balance sheet, the interest earned was received, not accrued.

Gain on Sale of Machine: Not an operating cash flow

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Cash receipts from:


Interest 15,000

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Calculate cash paid to suppliers by first finding purchases:

Beginning inventory $ 92,000+ Purchases (x)– Cost of goods sold (390,000)= Ending inventory $ 84,000 Solve for x.

Purchases = $382,000

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Then examine Accounts Payable to determine cash paid to suppliers:

Beginning accounts payable $ 31,000+ Purchases 382,000– Cash payments (x)= Ending accounts payable $ 38,000

Solve for x. Cash paid to suppliers = $ 375,000

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Cash receipts from:


Interest 15,000

Cash payments for:

Inventory purchases (375,000)

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Salaries and wages:

Beginning salaries & wages pay. $ 9,000+ Salaries & wages expense 60,000– Cash payments to employees

(x)= Ending salaries & wages pay. $ 7,000


Solve for x. Cash paid for salaries & wages = $ 62,000

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Cash receipts from:


Interest 15,000

Cash payments for:


Salaries and wages (62,000)

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Depreciation expense is not a cash flow

Insurance Expense and Prepaid Insurance:

Beginning prepaid insurance $ 18,000+ Cash payments for insurance (x)– Insurance expense (12,000)= Ending prepaid insurance $ 12,000

Solve for x. Cash paid for insurance = $6,000

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Cash receipts from:


Interest 15,000

Cash payments for:


Salaries and wages (62,000)

Insurance (6,000)

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Interest Expense: Since no Interest Payable account exists on the balance sheet, the interest expensed was paid, not deferred.

Income Tax Expense and Income Taxes Payable:

Beginning income taxes payable $ 5,000+ Income tax expense 50,000– Cash payments for taxes (x)= Ending income taxes payable $ 8,000

Solve for x. Cash paid for taxes = $47,000

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Schedule of Cash Flows from Operating ActivitiesCash receipts from:

Sales on account $ 664,000Interest 15,000

Cash payments for:Inventory purchases (375,000)Salaries and wages (62,000)Insurance (6,000)Interest (15,000)Taxes (47,000)

Net cash provided by operating activities $ 174,000

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Step 3– Determine the cash flows from investing

activities by examining the long-term asset accounts and any additional info

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Direct Method – Investing Activities

Long-Term Investments: The net increase of $30,000 matches the additional info given on the balance sheet and required the use of cash.

Land: The additional balance sheet info reveals that a note payable was issued.

No cash was involved in the land transaction so it should be reported in a separate schedule instead of on the Statement of Cash Flows

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Property and Equipment: The additional balance sheet info reveals that equipment was purchased for $75,000 and a machine was sold for $25,000.

Beginning property and equip. $280,000+ Acquisitions 75,000– Disposals (x)= Ending property and equip. $320,000

Solve for x. The cost of fixed assets sold = $35,000

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Accumulated Depreciation:

Beginning accum. depreciation $ 75,000

+ Depreciation expense 40,000

– Accum. depreciation on assets sold (x)

= Ending accum. depreciation $100,000

Solve for x. The accumulated depreciation on the assets disposed of during the year = $15,000

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Cash inflows from:Sale of machine $ 25,000

Cash outflows from:Purchase of investment (30,000)Purchase of property and equip. (75,000)

Net cash used by investing activities $(80,000)

Schedule of Cash Flows from Investing Activities

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Step 4– Determine the cash flows from

financing activities

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Direct Method – Financing Activities

Notes payable: This increase is already shown on a supplemental schedule of noncash activities.

Bonds payable: Bonds with a face value of $60,000 are retired by paying $63,000.

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Direct Method – Financing Activities

Capital stock was issued for cash

Retained earnings:

Beginning retained earnings $ 193,000+ Net income 120,000– Cash dividends (x)= Ending retained earnings $ 246,000Solve for x. Cash paid for dividends = $67,000

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Cash inflows from:Issuance of stock $ 25,000

Cash outflows from:Retirement of bonds (63,000)Payment of cash dividends (67,000)

Net cash used by financing activities $(105,000)

Schedule of Cash Flows from Financing Activities

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Noncash Investing and Financing Activities

Disclose important financing and investing activities which do not require cash

Buy Assets through Debt Financing from Supplier

Exchange Stock for Assets

Certificate of Stock

Examples:

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Statement of Cash Flows FormatCash flows from operating activities:


Net cash provided (used) by operating activities $ xxxCash flows from investing activities:


Net cash provided (used) by investing activities xxxCash flows from financing activities:


Net cash provided (used) by financing activities xxxNet increase (decrease) in cash and cash equivalents $ xxxCash and cash equivalents at beginning of year xxxCash and cash equivalents at end of year $ xxx

Only section of statement that differs in form between direct and indirect method (net cash flow total is the

same)

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Indirect Method - Operating Activities

Income Statement

Cash Flows from Operating Activities

Conversion of accrual

to cash basis

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Net cash flows from operating activities:Net income xx,xxxAdjustments to reconcile net income:

Increase in accounts receivable (6,000)

Decrease $6,000

From balance sheet:

Accts. receivable, 2004 $63,000Accts. receivable, 2003 57,000

$ 6,000

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Increase in accounts receivable (6,000)Gain on sale of machine 5,000

Increase $5,000

Selling price of machine $25,000Book value of machine 20,000Gain on sale $ 5,000

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Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000

Decrease $8,000

From balance sheet:Inventory, 2003 $92,000Inventory, 2004 84,000

$ 8,000

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Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000Increase in accounts payable 7,000

Increase $7,000

From balance sheet:Accts. payable, 2004 $38,000Accts. payable, 2003 31,000

$ 7,000

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Indirect Method - Operating ActivitiesNet cash flows from operating activities:

Net income xx,xxxAdjustments to reconcile net income:

Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000Increase in accounts payable 7,000Decrease in salaries & wages payable ( 2,000)

Decrease $2,000

Salaries & wages payable, 2003 $9,000Salaries & wages payable, 2004 7,000

$2,000

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Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000Increase in accounts payable 7,000Decrease in salaries & wages payable ( 2,000) Decrease in prepaid insurance 6,000

Decrease $6,000

Prepaid insurance, 2003 $18,000Prepaid insurance, 2004 12,000

$ 6,000

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Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000Increase in accounts payable 7,000Decrease in salaries & wages payable ( 2,000) Decrease in prepaid insurance 6,000Depreciation expense 40,000

Add back noncash expense

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Indirect Method - Operating ActivitiesNet cash flows from operating activities:

Net income xx,xxxAdjustments to reconcile net income:

Increase in accounts receivable ( 6,000)Gain on sale of machine 5,000Decrease in inventory 8,000Increase in accounts payable 7,000Decrease in salaries & wages payable ( 2,000) Decrease in prepaid insurance 6,000Depreciation expense 40,000Increase in income taxes payable 3,000

Increase $3,000

Inc. taxes payable, 2004 $8,000Inc. taxes payable, 2003 5,000

$3,000

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Increase in accounts receivable ( 6,000)Gain on sale of machine ( 5,000)Decrease in inventory 8,000Increase in accounts payable 7,000Decrease in salaries & wages payable ( 2,000) Decrease in prepaid insurance 6,000Increase in income taxes payable 3,000Depreciation expense 40,000Loss on retirement of bonds 3,000

Report entire outflow as a

financing activity

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Cash Flow Adequacy

Measures company’s ability to meet principal and interest obligations

Creditors concerned with cash available to repay debts after company has replaced its long-term assets

Cash Flow from Operating Activities - Capital Expenditures . Avg. Debt Maturing over Next Five Years

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Appendix

Accounting Tools:

A Work-Sheet Approach to the

Statement of Cash Flows

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Indirect Method: Using a Work Sheet

Enter account balances

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Record investing &

financing activities

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Enter net income

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Enter noncash revenues or expenses

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Extend current assets& current liabilities

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Total columns

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Determine net cash inflow (outflow)

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End of Chapter 12

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1 chapter 12 the statement of cash flows financial accounting, alternate 4e by porter and norton

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