The Statement of Cash Flows

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The Statement of Cash Flows

• Chapter 17

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Purpose of The Statement ofCash Flows Basic
Concepts
The statement of cash flows reports the entitys
cash flows (cash receipts and cash
payments) during the period.
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Objective 1

• Identify the purposes of
• the statement of cash flows.

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Purposes of the Statementof Cash Flows
12/31/x1 For the Year Ended 12/31/x2
12/31/x2 (a point in time) (a
period of time) (a point in time)
Income Statement
Statement of Retained Earnings
Balance Sheet
Balance Sheet
Statement of Cash Flows
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Purposes of the Statementof Cash Flows

• The statement of cash flows is designed to
  fulfill the following
• predict future cash flows
• evaluate management decisions
• determine the ability to pay dividends plus
  interest and principal
• show the relationship of net income to changes in
  the firms cash

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Cash Balance Includes...

• cash on hand.
• cash in the bank.
• cash equivalents.

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Cash Equivalents Are....

• short-term, highly liquid investments convertible
  into cash with little delay.
• money market accounts.
• U.S. Government Treasury bills.

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Objective 2

• Report cash flows from operating,
• investing, and financing activities.

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Basic Organization of theStatement of Cash Flows

• A business may be evaluated in terms of three
  types of business activities
• Operating activities
• Investing activities
• Financing activities

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Operating Activities
Operating activities are related to
the transactions that make up net income.
Interest and dividends received are related to
investing activities.
However, the FASB has decided to classify
the cash received from these items as operating
activities.
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Investing Activities
Investing activities increase and decrease the
assets that are available to the business.
Investing activities are related to the Long-Term
Asset accounts.
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Financing Activities
These are transactions involving
obtaining resources from the owners or returning
resources to them.
It also involves obtaining resources from
creditors and repaying the amount borrowed.
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Format of the Statementof Cash Flows

• FASB Statement 95 approved two methods for
  reporting cash flows from operating activities.
• Direct method
• Indirect method

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Format of the Statementof Cash Flows

• The direct method lists cash receipts from
  specific operating activities and cash payments
  for each major operating activity.
• The indirect method is a short-cut method for
  accrual systems.

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Objective 3

• Prepare a statement of cash
• flows by the direct method.

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The Direct Method
Statement of Cash Flows (Direct Method) Year
Ended December 31, 2002 (Thousands)
Cash flows from operating activities Receipts Co
llections from customers 271 Interest
received on notes receivable 10 Dividends
received on investments in stock 9 Total
receipts 290
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The Direct Method
Statement of Cash Flows (Direct Method) Year
Ended December 31, 2002 (Thousands)
Payments To suppliers 133 To
employees 58 For interest
16 For income tax 15 Total
payments 222 Net cash inflows from
operating activities 68
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The Direct Method
Statement of Cash Flows (Direct Method) Year
Ended December 31, 2002 (Thousands)
Cash flows from investing activities Acquisition
of plant assets (306) Loan to another
company (11) Proceeds from sale of plant
assets 62 Net cash outflow from investing
activities (255)
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The Direct Method
Statement of Cash Flows (Direct Method) Year
Ended December 31, 2002 (Thousands)
Cash flows from financing activities Proceeds
from issuance of common stock 101 Proceeds from
issuance of long-term notes payable
94 Payment of long-term notes payable
(11) Payment of dividends (17) Net
cash inflow from financing activities 167
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The Direct Method
Statement of Cash Flows (Direct Method) Year
Ended December 31, 2002 (Thousands)
Net cash inflows from operating activities
68 Net Cash outflow from investing activities
(255) Net Cash inflow from financing activities
167 Net (decrease in cash) (20)
Cash balance, December 31, 2001 42 Cash
balance, December 31, 2002 22
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Objective 4

• Compute the cash effects
• of a wide variety of
• business transactions.

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Computing Individual Amounts for the Statement of
Cash Flows
Revenues or expenses from the income statement

Adjusted for the change in the related balance
sheet account(s)

Amount for the statement of cash flows
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Computing Individual Amounts for the Statement of
Cash Flows
Income Statement Year Ended December 31, 2002
(Thousands)
Revenues and gains Sales revenue 284 Int
erest revenue 12 Dividend
revenue 9 Gain on sale of plant
assets 8 Total revenues and
gains 313
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Computing Individual Amounts for the Statement of
Cash Flows
Expenses Cost of goods sold 150 Salary
expense 56 Depreciation expense
18 Other operating expense 17 Interest
expense 16 Income tax expense
15 Total expenses 272
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Computing Individual Amounts for the Statement of
Cash Flows
Income Statement Year Ended December 31, 2002
(Thousands)
Total revenues and gains 313 Total
expenses 272 Net income 41
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Comparative Balance Sheets
Assets 20x2 20x1 Inc./(Dec.) Current
Cash 22 42 (20) Accounts
receivable 93 80 13 Interest
receivable 3 1
2 Inventory 135 138 (3) Prepaid
expenses 8 7 1 Long-term
receivable 11 11 Plant assets,
net 453 219 234 Total
assets 725 487 238
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Comparative Balance Sheets
Liabilities 20x2 20x1
Inc./(Dec.) Current Accounts payable 91
57 34 Salary payable 4 6
(2) Accrued liabilities 1 3
(2) Long-term notes payable 160 77
83 Stockholders equity Common stock
359 258 101 Retained earnings 110
86 24 Total liabilities and shareholders
equity 725 487 238
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Computing Cash Collectionsfrom Customers

• Collections can be computed by converting sales
  revenue to the cash basis.
• Beginning Accounts Receivable balance Sales on
  account Collections Ending Accounts
  Receivable balance

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Computing Cash Collectionsfrom Customers

• 80,000 284,000 93,000 271,000
• Because Accounts Receivable increased by 13,000,
  the business received 13,000 less cash than its
  sales revenue for the period.
• All collections of receivables are computed
  following the pattern illustrated for collections
  from customers.

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Computing Paymentsto Suppliers

• This computation includes two parts, payments for
  inventory and payments for expenses other than
  interest and income tax.
• Payments for inventory are computed by converting
  cost of goods sold to the cash basis.
• This is accomplished by analyzing the Inventory
  and Accounts Payable accounts.

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Payments for Inventory
Inventory
Beg. inventory 138,000
Cost of goods sold 150,000
Purchases x
End. inventory 135,000
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Payments for Inventory

• How much were the purchases?
• 138,000 x 150,000 135,000
• x 135,000 138,000 150,000
• 147,000

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Payments for Inventory
Accounts Payable
Beg. balance 57,000
Payments for inventory x
Purchases 147,000
End. balance 91,000
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Payments for Inventory

• How much did the business pay for this inventory?
• 57,000 147,000 x 91,000
• x 57,000 147,000 91,000
• x 113,000

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Payments for Operating Expenses

• Increases in prepaid expenses require cash
  payments, and decreases indicate that payments
  were less than expenses.
• Decreases in accrued liabilities can occur only
  from cash payments, and increases mean that cash
  was not paid.

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Payments to Employees

• Salary Payable was 6,000 at the beginning of the
  year and 4,000 at year end.
• During the year Salary and Wages Expense was
  56,000.
• How much did the business pay?
• 58,000

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Acquisition and Salesof Plant Assets

• The business had plant assets net of depreciation
  of 219,000 at the beginning of the year and
  453,000 at year end.
• Further, the acquisition of plant assets amounted
  to 306,000 during the year.

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Acquisition and Salesof Plant Assets

• The income statement shows depreciation expense
  of 18,000 and a 8,000 gain on sale of plant
  assets.
• What is the book value of the assets sold?
• Beginning net balance Acquisitions
  Depreciation Book value of assets sold Ending
  balance

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Acquisition and Salesof Plant Assets

• 219,000 306,000 18,000 x 453,000
• x 219,000 306,000 18,000 453,000
• x 54,000 (book value)
• How much are the proceeds from the sale
  of plant assets?

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Acquisition and Salesof Plant Assets

• Book value Gain or Loss Proceeds
• 54,000 8,000 62,000
• How do we determine acquisitions?
• Beginning net balance Acquisitions
  Depreciation Book value of assets sold Ending
  balance

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Computing the Cash Amountsof Financing Activities

• Financing activities affect liability and
  stockholders equity accounts.
• Notes Payable
• Bonds Payable
• Long-Term Debt
• Common Stock
• Paid-in Capital
• Retained Earnings

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Issuance and Payments ofLong-Term Notes Payable

• Beginning balance was 77,000.
• New debt amounting to 94,000 was incurred during
  the year.
• The ending balance for the Long-Term Notes
  Payable account was 160,000.
• How much was the payment?
• 11,000

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Computing Dividend Payments

• Dividend payments are computed by analyzing the
  Dividends Payable account.
• Beginning balance Dividends declared
  Dividend payments Ending balance

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Noncash Investing andFinancing Activities...

• are not reported in the statement of cash flows.
• The FASB requires that significant non-cash
  investing and financing activities be shown in a
  separate schedule at the bottom of the statement.

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Reconciling Net Incometo Net Cash Flow

• The FASB requires companies that format operating
  activities by the direct method to report a
  reconciliation from net income to net cash inflow
  (or outflow).

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Objective 5

• Prepare a statement of cash flows
• by the indirect method.

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The Indirect Method
Current Assets
Add to Net Income if this account has decreased
Deduct from Net Income if this account has
increased
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The Indirect Method
Current Liabilities
Add to Net Income if this account has increased
Deduct from Net Income if this account has
decreased
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The Indirect Method
Statement of Cash Flows (Indirect Method) Year
Ended December 31, 2002 (Thousands)
Cash flows from operating activities Net
Income 41 Add (deduct) items that
affect net income and cash flows
differently Depreciation 18 Gain on
sale of plant 8 Increase in accounts
receivable (13) Increase in interest
receivable (2) Decrease in
inventory 3
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The Indirect Method
Statement of Cash Flows (Indirect Method) Year
Ended December 31, 2002 (Thousands)
Add (deduct) items that affect net income and
cash flows differently Increase in prepaid
expenses (1) Increase in accounts
payable 34 Decrease is salary
payable (2) Decrease in accrued
liabilities (2) Net cash inflow from
operating activities 68
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End of Chapter 17