Download - Copyright © Cengage Learning. All rights reserved. Chapter 13 The Statement of Cash Flows
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Chapter 13
The Statement of Cash Flows
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Overview of the Statement of Cash Flows
• Objective 1– Describe the principal purposes and uses of the statement
of cash flows, and identify its components.
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Shows how a company’s operating, investing, and financing activities
have affected cash during an accounting period
The Statement of Cash Flows
• Explains the net increase (or decrease) in cash during the accounting period
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Cash and Cash Equivalents
• Cash includes cash and cash equivalents– Cash
• Money on hand
• Deposits in company checking accounts
– Cash equivalents• Can be quickly converted to cash
• Maturity of 90 days or less– Money market accounts
– Commercial paper
– U.S. Treasury bills
• Combined with the Cash account on the statement of cash flows
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Purposes of the Statement of Cash Flows
• Provides information about a company’s cash receipts and cash payments during an accounting period.
• Provides information about a company’s operating, investing, and financing activities.
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Uses of the Statement of Cash Flows
• Management uses the statement of cash flows as follows:– Assess liquidity
• Determine if short-term financing is necessary
– Determine dividend policy• Decide whether to raise or lower dividends
– Evaluate the effects of investment and financing decisions
• Plan for investing and financing needs
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Uses of the Statement of Cash Flows (cont’d)
• Investors and creditors use the statement of cash flows to assess a company’s ability to– Manage cash flows
– Generate positive future cash flows
– Pay its liabilities
– Pay dividends and interest
– Anticipate its need for additional financing
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1. Operating activities
2. Investing activities
3. Financing activities
Classification of Cash Flows
The statement of cash flows classifies cash receipts and cash payments into categories:
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Cash InflowsReceipts from sale of goods and services Receipts from sale of trading securitiesInterest and dividends
Cash OutflowsPayments for wages, inventory, expenses, taxes Payments for purchase of trading securities
Trading securities are a type of marketable security that a company buys and sells for the purpose of making a profit in the near term.
Operating Activities
Involve the cash inflows and outflows from activities that enter into the determination of net income
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Cash Inflows Receipts from selling
marketable securities and long-term assets
Collections on loans
Cash Outflows Expenditures on
purchase of securities and assets
Cash lent to borrowers
Investing ActivitiesInvolve the acquisition and sale of property, plant, and
equipment and other long-term assets, including long-term investments; the acquisition and sale of short-term
marketable securities, other than trading securities, and the making and collecting of loans
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Cash Inflows Proceeds from stock
issues and from short- and long-term borrowing
Cash Outflows Repayments of loans
(excluding interest) Payments to owners,
including cash dividends Treasury stock
transactions
Financing Activities
Obtaining resources from stockholders and providing them with a return on their investments, and obtaining
resources from creditors and repaying the amounts borrowed (settling the obligations)
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Classification of Cash Inflows and Cash Outflows
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Classification of Cash Inflows and Cash Outflows (cont’d)
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Required Disclosure of Noncash Investing and Financing Transactions Significant transactions that involve only long-term assets, long-term liabilities, or stockholders’ equity
Noncash examples: Exchange of long-term asset for a long-term liabilitySettle a debt by issuing capital stock Take out a long-term mortgage to purchase real estate
Not reflected on the statement of cash flows;
no cash inflows or outflows
Future cash flows are affected, so disclose
these transactions in a separate schedule or as
part of the statement
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Operating Activities section
Investing Activities section
Financing Activities section
Reconciliation of beg. and end. balances of cash
Indirect method begins with net income and ends with cash flows from operating activities
Cash transactions involving capital expenditures
Ties to cash balances of the balance sheet
Debt, cash stock, dividend, and treasury stock transactions
1
2
3
4
Format of the Statement of Cash Flows
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Analyzing Cash Flows
• Objective 2– Analyze the statement of cash flows.
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Ratios used to calculate CGE:
Cash flow yield Cash flows to sales Cash flows to assets
Cash-Generating Efficiency (CGE)
Shows the company’s ability to generate cash from its current or continuing operations
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Marriott 2004 Annual Report (in millions)2004 2003 2002
Net Sales $10,099 $9,014 $8,415
Total Assets 8,668 8,177 8,296
Shows how much of net sales actually results in cash inflows
Amazon.com generated positive cash flows to sales of 9.5 percent.
Sales
Activities Operating from FlowsCash Net Sales toFlowsCash
9.5% $14,835
$1,405
Cash Flows to Sales
Amazon.com2007 2006 2005
Net Sales $14,835 $10,711 $8,490
Total Assets 6,485 4,363 3,696
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Shows how much cash is being generated by operations for each dollar of assets
Assets Total Average
Activities Operating from FlowsCash Net Assets toFlowsCash
25.9% 2 $4,363) ($6,485
$1,405
Cash Flows to Assets
Amazon.com2007 2006 2005
Net Sales $14,835 $10,711 $8,490
Total Assets 6,485 4,363 3,696
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Operating Activities
• Objective 3– Use the indirect method to determine cash flows from
operating activities.
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Determining Cash Flows from Operating Activities
• There are two methods of converting the income statement from an accrual basis to a cash basis.– The direct method
• Adjusts each item in the income statement to its cash equivalent
• More easily understood by the average reader
– The indirect method• Lists only necessary adjustments to convert net income to
net cash flows
• Superior from an analyst’s perspective
• Used by most companies
• Both methods produce the same net figure.
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Indirect Method:Determining Net Cash Flows from Operating Activities
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Adjustment: Depreciation
expense added back to net
income for the period
Cash flows from operating activities
Net income $16,000 Adjustments to reconcile net income to net cash flows from operating activitiesDepreciation $37,000
Gain on sale of investments (12,000)
Loss on sale of plant assets 3,000Changes in current assets and current liabilities
Decrease in accounts receivable 8,000Increase in inventory (34,000)Decrease in prepaid expenses 4,000Increase in accounts payable 7,000Increase in accrued liabilities 3,000Decrease in income taxes payable (2,000) 14,000Net cash flows from operating activities $30,000
DepreciationDepreciation expense appears on the income
statement, but involves no outlay of cash.
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Do not affect cash flows from operating activities; should be removed from net income.
Adjustments: Gain/Losses
subtracted and added to net
income for the period
Cash flows from operating activities
Net income $16,000 Adjustments to reconcile net income to net cash flows from operating activitiesDepreciation $37,000
Gain on sale of investments (12,000)
Loss on sale of plant assets 3,000Changes in current assets and current liabilities
Decrease in accounts receivable 8,000Increase in inventory (34,000)Decrease in prepaid expenses 4,000Increase in accounts payable 7,000Increase in accrued liabilities 3,000Decrease in income taxes payable (2,000) 14,000Net cash flows from operating activities $30,000
Gains and Losses
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Changes in Current Assets
• Decreases in current assets (frees up cash) have a positive effect on cash flows.
• Increases in current assets (consumes cash) have a negative effect on cash flows.
• To reconcile net income to cash flows, a decrease is added to net income and an increase is subtracted from net income.
• Exclude Short Term Investments
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Decreases in current assets are added to net income Increases in current assets are deducted from net income
Example: Laguna Corporation’s Accounts Receivable decreased by $4,000 as illustrated below.
Accounts Receivable
Beg. Bal. 55,000
End. Bal. 47,000
698,000
706,000
Sales toCustomers
Cash Receipts from Customers
The $8,000 decrease in Accounts Receivable should be added to net income on the statement of cash flows.
Changes in Current Assets
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Changes in Current Liabilities
• Increases in current liabilities represent a postponement of cash payments and increases cash flows
• Decreases in current liabilities represent the use of cash, thereby decreasing cash flows
• Exclude Notes Payable
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Decreases in current liabilities are deducted from net income Increases in current liabilities are added to net income
Example: Laguna Corporation’s accounts payable increased by $7,000 as illustrated below.
The $7,000 increase in Accounts Payable shouldbe added to net income on the statement of cash flows.
Accounts Payable
Beg. Bal. 43,000
End. Bal. 50,000
544,000
547,000Cash Paid to Suppliers Purchases
Changes in Current Liabilities
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Cash flows from operating activities
Net income $16,000 Adjustments to reconcile net income to net cash flows from operating activitiesDepreciation $37,000
Gain on sale of investments (12,000)
Loss on sale of plant assets 3,000Changes in current assets and current liabilities
Decrease in accounts receivable 8,000Increase in inventory (34,000)Decrease in prepaid expenses 4,000Increase in accounts payable 7,000Increase in accrued liabilities 3,000Decrease in income taxes payable (2,000) 14,000Net cash flows from operating activities $30,000
A net income of $16,000, after adjustments, actually yielded $30,000 in positive cash flows from operating activities
Net Income versus Cash Flows from Operating Activities
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Add to or Deduct from Net Income
Depreciation expense Add Amortization expense Add Depletion expense Add Losses Add Gains Deduct
Items on the Income Statement That Do Not Affect Operating Cash Flows
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Add to Net Income
Deduct from Net Income
Current Assets:
A/R Decrease Increase
Inventory Decrease Increase
Prepaid expenses Decrease Increase
Current Liabilities:
A/P Increase Decrease
Accrued Liabilities Increase Decrease
Income Taxes Payable
Increase Decrease
Adjustments for Changes in Current Assets and Liabilities
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Investing Activities
• Objective 4– Determine cash flows from investing activities.
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Cash Flows from Investing Activities
• Analyze increases and decreases in the Investments account to determine effects on Cash account
• Objective– Explain the change in each account balance from one
year to the next
• Focus – Long-term assets (balance sheet)
– Short-term investments (current asset section of the balance sheet)
– Investment gains and losses (income statement)
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1. Laguna Corporation’s purchases of investments totaled $78,000 during 2010. These transactions caused a $78,000 decrease in cash flows (cash paid).
2. Laguna sold investments that cost $90,000 for $102,000. This transaction resulted in a gain of $12,000 and caused an increase in cash flows of $102,000 (cash received) .
Investing activities section, statement of cash flows:
Purchase of investments ($78,000) Sale of investments 102,000
Investment Transactions Cash Flows Illustrated
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1. Amir Corporation purchased plant assets totaling $60,000. These transactions caused a $60,000 decrease in cash flows (cash paid).
2. Amir sold plant assets that cost $5,000 and that had accumulated depreciation of $1,000 for $2,500. This transaction resulted in a loss of $1,500 and caused an increase in cash flows of $2,500 (cash received).
Investing activities section, statement of cash flows:
Purchase of plant assets ($60,000) Sale of plant assets 2,500
Plant Asset Transactions Cash Flows Illustrated
Examine the Plant Assets account and the related Accumulated Depreciation account
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1. Laguna Corporation purchased plant assets totaling $120,000. These transactions caused a $120,000 decrease in cash flows (cash paid).
2. Laguna sold plant assets that cost $10,000 and that had accumulated depreciation of $2,000 for $5,000. This transaction resulted in a loss of $3,000 and caused an increase in cash flows of $5,000 (cash received).
Investing activities section, statement of cash flows:
Purchase of plant assets ($120,000) Sale of plant assets 5,000
Plant Asset Transactions Cash Flows Illustrated
Examine the Plant Assets account and the related Accumulated Depreciation account.
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Laguna Corporation issued bonds at face value ($100,000) for plant assets. There are no cash inflows or outflows, but it is a significant transaction.
Schedule of Noncash Investing and Financing Transactions:
Issue of bonds payable for plant assets $100,000
Noncash Transaction Illustrated
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Financing Activities
• Objective 5– Determine cash flows from financing activities.
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Cash Flows fromFinancing Activities
• Analysis similar to investing activities, including treatment of related gains or losses.
• Focus– Short-term borrowings
– Long-term liabilities
– Stockholders’ equity accounts
• Cash dividends from the statement of stockholders’ equity must also be considered.
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Laguna Corporation repaid $50,000 of bonds at face value at maturity. This transaction caused a $50,000 decrease in cash flows (cash paid).
Financing activities section, statement of cash flows:
Repayment of bonds ($50,000)
Bonds Payable Transactions Cash Flows Illustrated
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Laguna Corporation issued 15,200 shares of $5 par value common stock for $175,000. The Common Stock account increased by $76,000, and the Additional Paid-in Capital account increased by $99,000. This transaction caused an $175,000 increase in cash flows (cash received).
Financing activities section, statement of cash flows:
Issue of common stock $175,000
Common Stock Transactions Cash Flows Illustrated
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Laguna Corporation paid cash dividends in the amount of $8,000. This amount decreased Retained Earnings. This transaction caused an $8,000 decrease in cash flows (cash paid).
Financing activities section, statement of cash flows:
Payment of dividends $8,000
Only the payment of dividends appears on the statement of cash flows, not the declaration of dividends.
Dividend Transactions Cash Flows Illustrated
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Laguna Corporation purchased treasury stock for $25,000. This transaction created a cash outflow of $25,000.
Financing activities section, statement of cash flows:
Purchase of treasury stock ($25,000)
Treasury Stock Transactions Cash Flows Illustrated
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Cash flows from financing activitiesRepayment of bonds ($50,000)Issue of common stock 175,000Payment of dividends (8,000)Purchase of treasury stock (25,000)Net cash flows from financing activities 92,000
The transactions of Laguna Corporation that we have examined are presented in the financing
section of the statement of cash flows:
Cash Flows from Financing Activities
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Statement of Cash Flows
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Stop & Review
1. Dividends paid
2. Cash receipts from sales
3. Decrease in accounts receivable
4. Sale of plant assets
5. Gain on sale of investment
6. Issue of stock for plant assets
7. Issue of common stock
8. Net income
a) As cash flows from operating activities
b) As cash flows from investing activities
c) As cash flows from financing activities
d) In the schedule of noncash investing and financing transactions
e) Not at all
13-46
Using the indirect method to prepare the statement of cash flows, tell where each of items on the left would appear on the statement sections listed on the right:
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a) As cash flows from operating activitiesb) As cash flows from investing activitiesc) As cash flows from financing activitiesd) In the schedule of noncash investing and financing transactionse) Not at all
1. Dividends paid2. Cash receipts from sales3. Decrease in accounts receivable4. Sale of plant assets5. Gain on sale of investment6. Issue of stock for plant assets7. Issue of common stock8. Net income
1. c2. e3. a4. b5. a6. d7. c8. a
Stop & Review (cont’d)
ANSWER:
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Chapter Review
1. Describe the principal purposes and uses of the statement of cash flows, and identify its components.
2. Analyze the statement of cash flows.
3. Use the indirect method to determine cash flows from operating activities.
4. Determine cash flows from investing activities.
5. Determine cash flows from financing activities.