STATEMENT OF CASH FLOWS

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Chapter13
STATEMENT OF CASH FLOWS
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Learning Objective
Explain the purposes and uses of a statement of
cash flows.
LO1
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Purpose of the Statement of Cash Flows
Provides information about the cash receipts and
cash payments of a business entity during the
accounting period.

• Helps investors with questions about the
  companys
• Ability to generate positive cash flows.
• Ability to meet its obligations and to pay
  dividends.
• Need for external financing.
• Investing and financing transactions for the
  period.

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Learning Objective
Describe how cash transactions are classified in
a statement of cash flows.
LO2
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Classification of Cash Flows

• The Statement of Cash Flows must include the
  following three sections
• Cash Flows from Operating Activities
• Cash Flows from Investing Activities
• Cash Flows from Financing Activities

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Learning Objective
Compute the major cash flows relating to
operating activities.
LO3
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Operating Activities

• Inflows from
• Interest and dividends received.
• Sales to customers.

Cash Flows from Operating Activities

• Outflows to
• Suppliers of merchandise and services.
• Employees.
• Lenders for interest.
• Governments for taxes.

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Learning Objective
Compute the cash flows relating to investing and
financing activities.
LO4
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Investing Activities

• Inflows from
• Selling investments and plant assets.
• Collecting of principal on loans.

Cash Flows from Investing Activities

• Outflows to
• Purchase of investments and plant assets.
• Purchase debt or equity investments.
• Make loans.

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Financing Activities

• Inflows from
• Short-term and long-term borrowing.
• Owners (for example, from issuing stock).

Cash Flows from Financing Activities

• Outflows to
• Make payments on borrowed funds.
• Owners for dividends.
• Purchase treasury stock.

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Cash and Cash Equivalents
Cash

• Short-term, highly liquid investments.
• Readily convertible into cash.
• So near maturity that market value is unaffected
  by interest rate changes.

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Learning Objective
Distinguish between the direct and indirect
methods of reporting operating cash flows.
LO5
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The operating cash flows section can be prepared
using either the direct method or the indirect
method.
Lets look at the direct method for preparing the
Statement of Cash Flows.
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Direct MethodCash Received from Customers

• Accrual basis revenue includes sales that did not
  result in cash inflows.
• Can be computed as

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Direct MethodCash Received from Customers

• The accounts receivable balance was 80,000 on
  12/31/06 and 110,000 on 12/31/07. If accrual
  sales revenue for 2007 was 900,000, what was
  cash basis revenue?

Decrease in receivables


Net Sales 900,000
Cash Received from Customers
Increase in receivables


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Direct MethodCash Received from Customers
The accounts receivable balance was 80,000 on
12/31/06 and 110,000 on 12/31/07. If accrual
sales revenue for 2007 was 900,000, what was
cash basis revenue?
Net Sales 900,000
Cash Received from Customers 870,000
30,000 Increase in receivables


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Lets look at some simplified formulas for
computing direct method cash flows.
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Direct MethodInterest and Dividends Received
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Direct MethodCash Paid for Merchandise

• Step 1
• Step 2

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Direct MethodCash Paid for Merchandise

• How much did Martin Co. pay for inventory in
  2007?
• a. 900,000
• b. 923,000
• c. 947,000
• d. 877,000

Purchases for 2007 were 935,000. Purchases
900,000 35,000 Cash Paid for Merchandise in
2007 was 923,000. Cash Paid 935,000 -
12,000
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Direct MethodCash Payments for Expenses
After deducting depreciation and other noncash
expenses, the cash paid for expenses is affected
by (1) whether the expense was prepaid, and (2)
whether the expense was accrued.
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Now, lets prepare a direct method Statement of
Cash Flows for Martin Co.
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Direct Method
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Direct Method
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Direct Method
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Direct Method

• Additional Information
• Trading Securities were purchased during 2007 at
  a cost of 25,000.
• Equipment with a book value of 40,000 was sold
  during the year for 43,000.
• Equipment with a book value of 30,000 was
  destroyed during a freak flood in 2007. There
  was no insurance.
• Martin owns 25 of the common stock of another
  company and uses the equity method to account for
  this investment.

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Direct Method

• Additional Information
• Martins tax rate is 40.
• The Notes Payable to the bank carry a 12 rate.
  The payments are due on the first day of each
  month.
• The Bonds Payable carry a 9 rate. Interest is
  payable semiannually on July 1 Jan. 1.
• Sold stock during 2007 for 50,000.
• Received 10,000 dividends from its equity
  investment.

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Direct Method

• Cash Received from Customers
• Cash Paid to Employees

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Direct Method

• Cash Paid for Inventory
• Cash Paid for Interest

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Direct Method

• Cash Paid for Taxes
• Other Operating Cash Flows

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Direct Method

• Cash Flows From Operating Activities

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Equipment with a book value of 40,000 was sold
for 43,000.
Bonds Payable decreased from 250,000 to 150,000
during 2007.
Notes Payable decreased from 70,000 to 60,000
during 2007.
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Notice that the Ending Cash Balance per the
Statement of Cash Flows agrees with the 12/31/07
Cash balance on the Balance Sheet.
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Learning Objective
Explain why net income differs from net cash
flows from operating activities.
LO6
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Reconciling Net Income withNet Cash Flows

• There are two major categories of reconciling
  items. They include adjusting for
• Noncash Expenses.
• Timing Differences.

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Lets look at the indirect method that is used by
over 97 of all companies.
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Learning Objective
Compute net cash flows from operating activities
using the indirect method.
LO7
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Indirect Method
Changes in current assets and current liabilities
as shown on the following table.
Cash Flows from Operating Activities
Net Income
Losses and - Gains
Noncash expenses such as depreciation and
amortization.
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Indirect Method
Use this table when adjusting Net Income to
Operating Cash Flows.
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Indirect Method

• Joyce, Inc. has prepared the Balance Sheet as of
  March 31, 2006, and March 31, 2007. The Income
  Statement for the year ended 3/31/07 has also
  been prepared. Joyce needs help preparing the
  Statement of Cash Flows using the indirect
  method.

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Indirect Method
The 8,000 gain was the result of selling land
costing 32,000 for 40,000 cash during the
period.
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Indirect Method
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Indirect Method
Joyce issued 50,000 of no par common stock to
settle the 50,000 note payable.
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Indirect Method
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Indirect Method
With the indirect method, always start with the
net income or net loss for the period.
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Indirect Method
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Indirect Method
Accounts receivable decreased. 3/31/07
3/31/06 23,000 - 40,000 (17,000)
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Indirect Method
Accounts payable increased. 3/31/07
3/31/06 38,000 - 27,000 11,000
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Indirect Method
Inventory increased. 3/31/07 3/31/06
350,000 - 300,000 50,000
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Indirect Method
Salaries payable decreased. 3/31/07
3/31/06 9,000 - 14,000 (5,000)
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Indirect Method
Add back non-cash expenses.
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Indirect Method
Subtract gains.
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Indirect Method
The operating cash flows amount comes from the
schedule just prepared.
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Indirect Method
Land originally costing 32,000 was sold for
40,000.
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Indirect Method
Dividends of 20,000 were paid to owners during
the year.
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Indirect Method
Compute the net change in cash for the period.
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Indirect Method
Complete the Statement of Cash Flows by
reconciling beginning cash to ending cash.
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Indirect Method
Note that the ending cash amount ties back to
Joyces Balance Sheet at 3/31/07.
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Indirect Method
In addition, on the face of the statement or in a
supplemental schedule, disclose the 50,000
noncash financing activity.
Cash interest payments and cash tax payments must
be disclosed.
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Learning Objective
Discuss the likely effects of various business
strategies on cash flows.
LO8
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Managing Cash Flows
Cash Budgets are used by management to plan and
forecast future cash flows.
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Managing Cash Flows

• Increase collection of accounts receivables.
• Keep inventory low.
• Delay payment of liabilities.
• Plan timing of major expenditures.
• Invest idle cash.

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Learning Objective
Explain how a worksheet may be helpful in
preparing a statement of cash flows.
LO9
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Using a Spreadsheet
The ending cash balance of one month becomes the
beginning cash balance of the next month.
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Using a Spreadsheet
Financing is needed in June because the company
must maintain a minimum cash balance of 10,000.
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End of Chapter 13