Chapter 23 - SCF

Chapter 23Statement of Cash Flows

Primary Purposeo Provide information about a company’s cash receipts and cash payments

during a period Secondary Objective

o Provide cash-basis information about a company’s operating, investing and financing activities

Q1 - The primary purpose of the statement of cash flows is to provide informationa. about the operating, investing, and financing activities of an entity during a

period.b. that is useful in assessing cash flow prospects.c. about the cash receipts and cash payments of an entity during a period.d. about the entity's ability to meet its obligations, its ability to pay dividends,

and its needs for external financing.

Usefulness of the Statement of Cash Flows Provides information to help assess:

o Entity’s ability to generate future cash flowso Entity’s ability to pay dividends and obligationso Reasons for difference between net income and net cash flow from

operating activitieso Cash and noncash investing and financing transactions

Classification of Cash Flows1. Operating Activities

a. Income statement transactions2. Investing Activities

a. Changes in investments and long-term asset items3. Financing Activities

a. Changes in long-term liabilities and stockholders’ equity

Operating Activities – Income Statement Items Involve the cash effects of transactions that enter into the determination of net income

o Cash Inflows From sales of goods or services From returns on loans (interest) or on equity securities (dividends)

o Cash Outflows To suppliers for inventory To employees for services To government for taxes To lenders for interest To others for expenses

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Chapter 23 - SCF

Investing Activities – Generally Long Term Asset Items Cash Inflows

o From sale of property, plant & equipmento From sale of debt or equity securities of other entitieso From collection of principal on loans to other entities

Cash Outflowso To purchase property, plant & equipmento To purchase debt or equity securities of other entitieso To make loans to other entities

Financing Activities – Generally Long Term Liability & Equity Items Cash Inflows

o From sale of equity securitieso From issuance of debt (bonds & notes)

Cash Outflowso To stockholders as dividendso To redeem long-term debt or reacquire capital stock

Example 1Classify the following items as (1) Operating, (2) investing, (3) financing or (4) significant noncash investing and financing activities

a. Purchase of equipmentb. Redemption of bonds payablec. Sale of buildingd. Cash payment to supplierse. Exchange of equipment for furnituref. Issuance of preferred stockg. Cash received from customersh. Purchase of treasury stocki. Issuance of bonds for landj. Payment of dividendsk. Cash payments to employeesl. Cash payments for operating expensesm. Received dividends

Cash = Cash + Cash Equivalents

Cash Equivalents Short term, highly liquid investments that are both:

1. Readily convertible to known amounts of cash and2. So near their maturity that they present insignificant risk of changes in

interest rates Generally, only investments with original maturities of three months or less

qualify under this definition

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Chapter 23 - SCF

Example 1 - Cash & Cash Equivalent Compute the amount of cash & cash equivalents on Q’s Corps balance sheet if on the

balance sheet date, it has:o Coins and currency on hand of $500o Deposits in checking accounts of $3,000o U.S. Treasury bill due in 80 days of $30,000o U.S. Treasury bond due in 200 days $50,000

Example 2 - Cash & Cash Equivalent Compute the amount of cash & cash equivalents on Q’s Corps balance sheet if on the

balance sheet date, it has:o Coins and currency in cash registers of $2,800o Money orders from customers $5,000 o Deposits in checking accounts of $32,000o U.S. Treasury bill due in 70 days of $90,000o Certificate of deposit at the bank that matures in 6 months $100,000o U.S. Treasury bond due in 1 year $50,000

Q2 - Cash equivalents area. treasury bills, commercial paper, and money market funds purchased with

excess cash.b. investments with original maturities of three months or less.c. readily convertible into known amounts of cash.d. all of these.

Format of SCF - Presentation:1. Operating activities.

Direct Method Indirect Method

2. Investing activities.3. Financing activities.

Sources of Information to Complete SCF Comparative balance sheet Current income statement Selected transaction data

Determine Net Cash Flow from Investing Activities Analyze changes in investment items and other data

Example 3 – Net Cash Flow from Investing Activities G Corp had the following activities in 2008:

a. Sale of land $130,000b. Purchase of inventory $845,000c. Purchase of treasury stock $72,000d. Purchase of equipment $415,000

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Chapter 23 - SCF

e. Issuance of common stock $320,000f. Purchase of available-for-sale securities $59,000

Compute the amount G Corp should report as net cash provided (used) by investing activities in the statement of cash flows.

Determine Net Cash Flow from Financing Activities Analyze changes in Financing items and other data

Example 4 – Net Cash Flow from Financing Activities G Corp had the following activities in 2008:

a. Payment of accounts payable $770,000b. Issuance of common stock $250,000c. Payment of dividends $300,000d. Collection of note receivable $100,000e. Issuance of bonds payable $510,000f. Purchase of treasury stock $46,000

Compute the amount G Corp should report as net cash provided (used) by financing activities in the statement of cash flows.

Q3 - Xanthe Corporation had the following transactions occur in the current year:

1. Cash sale of merchandise inventory.2. Sale of delivery truck at book value.3. Sale of Xanthe common stock for cash.4. Issuance of a note payable to a bank for cash.5. Sale of a security held as an available-for-sale investment.6. Collection of loan receivable.

How many of the above items will appear as a cash inflow from investing activities on a statement of cash flows for the current year?a. Five itemsb. Four itemsc. Three itemsd. Two items

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Chapter 23 - SCF

Use the following information for questions Q4 and Q5.

Napier Co. provided the following information on selected transactions during 2013:

Purchase of land by issuing bonds $500,000Proceeds from issuing bonds 1,000,000Purchases of inventory 1,900,000Purchases of treasury stock 300,000Loans made to other corporations 700,000Dividends paid to preferred stockholders 200,000Proceeds from issuing preferred stock 800,000Proceeds from sale of equipment 100,000

Q4. The net cash provided (used) by investing activities during 2013 isa. $100,000.b. $(600,000).c. $(1,100,000).d. $(2,500,000).

Q5. The net cash provided by financing activities during 2013 isa. $1,100,000.b. $1,300,000.c. $1,600,000.d. $1,800,000.

Net Cash Flow from Operating Activities Company must determine revenues and expenses on a cash basis. Eliminate the effects of income statement transactions that do not result in an increase

or decrease in cash. Convert net income to net cash flow from operating activities through either a direct

method or an indirect method. Two Methods

1. Indirect method2. Direct method

Indirect Method (Reconciliation Method) Reconciliation of net income to net cash flow from operating activities Focuses on the differences between net income and net cash flow from operating

activities Provides link between the statement of cash flows and the income statement and

balance sheet Most widely used in practice

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Chapter 23 - SCF

Indirect Method – Net Cash Flow from Operating Activities

1 Start with Net Income2 Non Cash Adjustments

ItemsAdd to or Deduct from

Net IncomeDepreciation Expense Add Amortization Expense Add

Depletion Expense Add Losss Add Gains Subtract

3 Current Asset Adjustments (Except Cash)

Current Assets Add to Net Income Deduct from Net IncomeAccounts Receivables (net) Decrease IncreaseInventory Decrease IncreasePrepaid Expenses Decrease IncreaseOther Current Assets Decrease Increase

4 Current Liability Adjustment

Current Liabilities Add to Net Income Deduct from Net IncomeAccounts Payable Increase DecreaseAccrued Liabilities Increase DecreaseIncome Tax Payables Increase DecreaseOther Current Liabilities Increase Decrease

Example 5 - Operating Activities Section of the SCF using the Indirect Method

K Company’s income statement for the year end December 31, 2007, contained the following condensed information:

Revenue fom fees 840,000$ Operating expenses (excluding depreciation) 624,000$ Depreciation expense 60,000$ Loss on the sale of equipment 26,000$ 710,000$ Income before income taxes 130,000$ Income tax expense 40,000$ Net Income 90,000$

K Company's balance sheet contained the following comparative data at December 31st:

2007 2006 Increase (decrease)

Accounts Receivable 37,000$ 54,000$

Accounts Payable 41,000$ 31,000$

Income Taxes Payable 4,000$ 8,500$

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Chapter 23 - SCF

Prepare the Operating Activities Section of the Statement of Cash Flows using the Indirect Method

Example 6 – Operating Activities Section of the SCF using the Indirect MethodPresented below is the income statement of Cowan, Inc.:

Sales $380,000Cost of goods sold 225,000Gross profit $155,000Operating expenses 85,000Income before income taxes 70,000Income taxes 28,000Net income $ 42,000

In addition, the following information related to net changes in working capital is presented:

Debit CreditCash $12,000Accounts receivable 25,000Inventories $19,400Salaries payable (operating expenses) 8,000Accounts payable 12,000Income taxes payable 3,000

The company also indicates that depreciation expense for the year was $16,700 and that the deferred tax liability account increased $2,600.InstructionsPrepare a schedule computing the net cash flow from operating activities that would be shown on a statement of cash flows using the indirect method.

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Chapter 23 - SCF

Q6 - When using the indirect method to prepare the operating section of a statement of cash flows, which of the following is added to net income to compute cash provided by/used by operating activities?a. Increase in accounts receivable.b. Gain on sale of land.c. Amortization of patent.d. All of the above are added to net income to arrive at cash flow from operating

activities.

Q7 - When using the indirect method to prepare the operating section of a statement of cash flows, which of the following is deducted from net income to compute cash provided by/used by operating activities?a. Decrease in accounts receivable.b. Gain on sale of land.c. Amortization of patent.d. All of the above are deducted from net income to arrive at cash flow from

operating activities.

Q8 - Equipment which cost $213,000 and had accumulated depreciation of $114,000 was sold for $121,000. This transaction should be shown on the statement of cash flows (indirect method) as a(n)a. addition to net income of $22,000 and a $121,000 cash inflow from financing

activities.b. deduction from net income of $22,000 and a $99,000 cash inflow from

investing activities.c. deduction from net income of $22,000 and a $121,000 cash inflow from

investing activities.d. addition to net income of $22,000 and a $99,000 cash inflow from financing

activities.

Use the following information for questions Q9 and Q10.

Equipment that cost $350,000 and had a book value of $156,000 was sold for $180,000. Data from the comparative balance sheets are:

12/31/13 12/31/12 Equipment $2,160,000 $1,950,000Accumulated Depreciation 660,000 570,000

Q9. Depreciation expense for 2013 wasa. $308,000.b. $284,000.c. $54,000.d. $36,000.

Q10. Equipment purchased during 2013 wasa. $560,000.b. $350,000.c. $210,000.d. $366,000.

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Chapter 23 - SCF

Direct Method – Operating Activities Companies adjust each item in the income statement from the accrual basis to the

cash basis Example line items found in the operating section:

o Cash receipts from customerso Cash payments to supplierso Cash payments for operating expenseso Cash payments for income taxes

Shows operating cash receipts and payments Information about cash receipts and payments is more revealing of a company’s

ability:o To generate sufficient cash from operating activities to pay its debto To reinvest in its operations, ando To make distributions to its owners

Use the following information for questions Q11 through Q13.

Paxson Mining Co. has recently decided to go public and has hired you as an independent CPA. One statement that the enterprise is anxious to have prepared is a statement of cash flows. Financial statements of Paxson Mining Co. for 2008 and 2007 are provided below.

BALANCE SHEETS

12/31/08 12/31/07Cash $204,000 $ 96,000Accounts receivable 180,000 108,000Merchandise inventory 192,000 240,000Property, plant and equipment $304,000 $480,000Less accumulated depreciation (160,000) 144,000 (152,000) 328,000

$720,000 $772,000

Accounts payable $ 88,000 $ 48,000Income taxes payable 176,000 196,000Bonds payable 180,000 300,000Common stock 108,000 108,000Retained earnings 168,000 120,000

$720,000 $772,000

INCOME STATEMENTFor the Year Ended December 31, 2008

Sales$4,200,000

Cost of sales 3,576,000Gross profit 624,000Selling expenses $300,000Administrative expenses 96,000 396,000Income from operations 228,000Interest expense 36,000Income before taxes 192,000Income taxes 48,000

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Chapter 23 - SCF

Net income $ 144,000

The following additional data were provided:

1. Dividends for the year 2008 were $96,000.2. During the year, equipment was sold for $120,000. This equipment cost $176,000 originally and had a book

value of $144,000 at the time of sale. 3. All depreciation expense is in the selling expense category.

Questions 11 through 13 relate to a statement of cash flows (indirect method) for the year ended December 31, 2008, for Paxson Mining Company.Q11. The net cash provided by operating activities is

a. $204,000.b. $144,000.c. $120,000.d. $100,000.

Q12. The net cash provided (used) by investing activities isa. $(176,000).b. $24,000.c. $120,000.d. $(144,000).

Q13. The net cash provided (used) by financing activities isa. $(120,000).b. $24,000.c. $(216,000).d. $96,000.

Use the following information for questions Q14 through Q16.The balance sheet data of Kohler Company at the end of 2013 and 2012 follow:

2013 2012 Cash $ 100,000 $ 140,000Accounts receivable (net) 240,000 180,000Merchandise inventory 280,000 180,000Prepaid expenses 40,000 100,000Buildings and equipment 360,000 300,000Accumulated depreciation—buildings and equipment (72,000) (32,000)Land 360,000 160,000

Totals $1,308,000 $1,028,000

Accounts payable $272,000 $220,000Accrued expenses 48,000 72,000Notes payable—bank, long-term 160,000Mortgage payable 120,000Common stock, $10 par 936,000 636,000Retained earnings (deficit) 32,000 (60,000)

$1,308,000 $1,028,000

Land was acquired for $200,000 in exchange for common stock, par $200,000, during the year; all equipment purchased was for cash. Equipment costing $20,000 was sold for $8,000; book value of the equipment was $16,000 and the loss was reported as an ordinary item in net income. Cash dividends of $40,000 were charged to retained earnings and paid during the year; the transfer of net income to retained earnings was the only other entry in the Retained Earnings account. In the statement of cash flows for the year ended December 31, 2013, for Naley Company:

Q14. The net cash provided by operating activities wasa. $104,000.b. $132,000.c. $112,000.d. $96,000.

Q15.The net cash provided (used) by investing activities wasa. $52,000.

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Chapter 23 - SCF

b. $(80,000).c. $(272,000).d. $(72,000).

Q16.The net cash provided (used) by financing activities wasa. $ -0-.b. $(40,000).c. $(80,000).d. $120,000.

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