Plain-background PowerPoint slides, Chapter 12: The statement of cash flows

The Statement of Cash Flows Chapter 12

Objective 1

Identify the purposes of the statement of cash flows.

Reports the entity’s cash flows (cash receipts and cash payments) during the period

Basic Concepts

Purposes of the Statement of Cash Flows

Predict future cash flows

Evaluate management decisions

Determine the ability to pay dividends to stockholders’ and payments to creditors

Show the relationship of net income to the business’s cash flows

What is Cash?

Cash on hand

Cash in the bank

Cash equivalents - highly liquid, short-term investments that can be converted into cash with little delay

Money-market investments

U.S. Government Treasury bills

Objective 2

Distinguish among operating, investing, and financing cash flows.

Operating, Investing, and Financing Activities

Operating activities create revenues, expenses, gains, and losses.

Investing activities increase and decrease long-term assets .

Financing activities obtain cash from investors and creditors.

Two Formats for Operating Activities

Indirect method reconciles from net income to net cash provided by operating activities

Direct method reports all cash receipts and cash payments from operating activities

The two methods have no effect on investing or financing activities.

Two Formats for Operating Activities ©2006 Prentice Hall Business Publishing Financial Accounting, 6/e Harrison/Horngren Indirect Method Net income $XXX Adjustments: Depreciation, etc. XXX Net income provided by operating activities $XXX Direct Method Collection from customers $XXX Deductions: Payment to suppliers, etc. XXX Net income provided by operating activities $XXX

Objective 3

Prepare a statement of cash flows by the indirect method.

The Indirect Method: Operating Activities Positive Items Net income Depreciation/amortization Loss on sale of long-term assets Decreases in current assets other than cash Increases in current liabilities Negative Items Net loss Gain on sale of long-term assets Increases in current assets other than cash Decreases in current liabilities

The Indirect Method: Investing Activities Positive Items Sale of plant assets Sale of investments that are not cash equivalents Collections of loans receivable Negative Items Acquisition of plant assets Purchase of investments that are not cash equivalents Making loans to others

The Indirect Method: Financing Activities Positive Items Issuing stock Selling treasury stock Borrowing money Negative Items Payment of dividends Purchase of treasury stock Payment of principal amounts of debts

Comparative Balance Sheets Assets Current: Cash Accounts receivable Interest receivable Inventory Prepaid expenses Long-term receivable Plant assets, net Total $ 22 93 3 135 8 11 453 $725 $ 42 80 1 138 7 – 219 $487 $ (20) 13 2 (3) 1 11 234 $238 (In thousands) 20x2 20x1 Inc/dec) Anchor Corporation – December 31

Comparative Balance Sheets Liabilities Current: Accounts payable Salary payable Accrued liabilities Long-term debt Stockholders’ equity Common stock Retained earnings Total $ 91 34 1 160 359 110 $725 $ 57 6 3 77 258 86 $487 $ 34 (2) (2) 83 101 24 $238 (In thousands) 20x2 20x1 Inc/dec) Anchor Corporation – December 31

Income Statement Revenues and gains: Sales revenue $284 Interest revenue 12 Dividend revenue 9 Gain on sale of plant assets 8 Total revenues and gains $313 Anchor Corporation Year Ended December 31, 20x2 (In thousands)

Income Statement Expenses: Cost of goods sold $150 Salary and wage expense 56 Depreciation expense 18 Other operating expense 17 Interest expense 16 Income tax expense 15 Total expenses $272 Anchor Corporation Year Ended December 31, 20x2 (In thousands)

Income Statement Total revenues and gains $313 Total expenses 272 Net income $ 41 Anchor Corporation Year Ended December 31, 20x2 (In thousands)

Statement of Cash Flows: Operating Activities Depreciation does not affect cash, but it decreases net income – add it back in. Sales of long-term assets are investing Activities – remove gains from net income. Statement of Cash Flows (Indirect Method) Year Ended December 31, 20x2 (In thousands) Cash flows from operating activities: Net Income $41 Adjustments to reconcile net income to net cash provided by operating activities: A Depreciation 18 B Gain on sale of plant (8)

Statement of Cash Flows: Operating Activities C Increase in accounts receivable (13) C Increase in interest receivable (2) C Decrease in inventory 3 C Increase in prepaid expenses (1) C Increase in accounts payable 34 C Decrease is salary payable (2) C Decrease in accrued liabilities (2) 27 Net cash provided by operating activities $68 Statement of Cash Flows (Indirect Method) Year Ended December 31, 20x2 (In thousands)

Changes in Current Asset and Current Liability Accounts – C 1. An increase in a current asset other than cash indicates a decrease in cash. 2. A decrease in a current asset other than cash indicates an increase in cash. 3. A decrease in a current liability indicates a decrease in cash. 4. An increase in a current liability indicates an increase in cash.

Statement of Cash Flows: Investing Activities Cash flows from investing activities: Acquisition of plant assets $(306) Loan to another company (11) Proceeds from sale of plant assets 62 Net cash used for investing activities $(255) Statement of Cash Flows (Indirect Method) Year Ended December 31, 20x2 (In thousands)

Statement of Cash Flows: Financing Activities Cash flows from financing activities: Proceeds from issuance of common stock $101 Proceeds from issuance of long-term debt 94 Payment of long-term debt (11) Payment of dividends (17) Net cash provided by financing activities $167 Statement of Cash Flows (Indirect Method) Year Ended December 31, 20x2 (In thousands)

Statement of Cash Flows Net cash provided by operating activities $ 68 Net cash used for investing activities (255) Net cash provided by financing activities 167 Net decrease in cash $ (20) Cash balance, December 31, 20x1 42 Cash balance, December 31, 20x2 $ 22 Statement of Cash Flows (Indirect Method) Year Ended December 31, 20x2 (In thousands)

Computing Acquisition and Sales of Plant Assets

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

Computing Acquisition and Sales of Plant Assets

The income statement shows depreciation expense of $18,000 and an $8,000 gain on sale of plant assets. What is the book value of the assets sold?

Beginning balance + Acquisitions – Depreciation – Book value of assets sold = Ending balance

Computing Acquisition and Sales of Plant Assets $219,000 + 306,000 – 18,000 – X = $453,000 How much are the proceeds from the sale of plant assets? X = $219,000 + 306,000 – 18,000 – 453,000 X = $54,000 (book value)

Computing Acquisition and Sales of Plant Assets Book value + Gain – Loss = Sale proceeds $54,000 + $8,000 – 0 = $62,000

Computing Acquisition and Sales of Plant Assets Plant Assets (Net) Beginning bal. 219,000 Acquisitions 306,000 Ending bal. 453,000 Depreciation 18,000 Book val. 54,000 ©2006 Prentice Hall Business Publishing Financial Accounting, 6/e Harrison/Horngren

Computing Acquisition and Sales of Investments Beginning balance + Purchases – Book value of investment sold = Ending balance

Computing Loans and Their Collections Beginning balance + New loans made – Collections = Ending balance

Computing Issuances and Payments of Long-Term Debt Beginning balance was $77,000. New debt amounting to $94,000 was incurred during the year. The ending balance for the Long-Term Debt account was $160,000. How much was the payment?

Computing Issuances and Payments of Long-Term Debt Long-Term Debt Beginning bal. 77,000 New debt 94,000 Payments 11,000 Ending bal. 160,000 ©2006 Prentice Hall Business Publishing Financial Accounting, 6/e Harrison/Horngren

Computing Issuances of Stock: Purchases of Treasury Stock Beginning balance of common stock + Issuance of new stock = Ending balance Beginning balance of treasury stock + Purchase of treasury stock = Ending balance

Computing Dividend Payments Retained earnings beginning balance + Net income – Dividends declared = Ending balance $86,000 + $41,000 – X = $110,000 X = $110,000 – $86,000 – $41,000 X = $17,000

Noncash Investing and Financing Activities Suppose Anchor Corporation issued Common stock valued at $300,000 to acquire a warehouse. Warehouse Building 300,000 Common Stock 300,000

Noncash Investing and Financing Activities Noncash Investing and Financing Activities: (000) Acquisition of building by issuing common stock $300 Acquisition of land by issuing note payable 70 Payment of long-term debt by issuing common stock 100 Total noncash investing and financing activities $470 ©2006 Prentice Hall Business Publishing Financial Accounting, 6/e Harrison/Horngren

Learning Objective 4

Prepare a statement of cash flows by the direct method.

The Direct Method

The FASB has expressed a preference for the direct method

Provides clearer information about the sources and uses of a company’s operating cash

The Direct Method Cash flows from operating activities: Receipts: Collections from customers $271 Interest received on notes receivable 10 Dividends received on investments in stock 9 Total cash receipts $290 Statement of Cash Flows Year Ended December 31, 20x2 (In thousands)

The Direct Method Payments: To suppliers $133 To employees 58 For interest 16 For income tax 15 Total payments 222 Net cash provided by operating activities $ 68 Statement of Cash Flows Year Ended December 31, 20x2 (In thousands)

The Direct Method Net cash provided by operating activities $ 68 Net cash used for investing activities (255) Net cash provided by financing activities 167 Net decrease in cash $(20) Cash balance, December 31, 20x1 42 Cash balance, December 31, 20x2 $ 22 Statement of Cash Flows Year Ended December 31, 20x2 (In thousands) ©2006 Prentice Hall Business Publishing Financial Accounting, 6/e Harrison/Horngren

Cash Flows from Operating Activities

Cash collections from customers

Cash receipts of interest

Cash receipts of dividends

Payments to suppliers

Payments to employees

Payments for interest and income tax expense

Purchases of plant assets; investments in, and loans to, other companies

Proceeds from the sale of plant assets and investments; and the collections of loans

Cash Flows from Investing Activities

Proceeds from the issuance of stock and debt

Payment of debt and purchases of the company’s own stock

Payment of cash dividends

Cash Flows from Financing Activities

Computing Cash Collections from Customers Beginning accounts receivable balance + Sales on account – Collections = Ending accounts receivable balance

Computing Payments to Suppliers

Step 1: How much were the purchases?

Beginning inventory + Purchases – Cost of goods sold = Ending Inventory

$138,000 + X – $150,000 = $135,000 X = $150,000 – $138,000 + $135,000 X = $147,000

Computing Payments to Suppliers Accounts Payable Payments for inventory Beg. balance 57,000 Purchases 147,000 End. balance 91,000

Computing Payments to Suppliers

Step 2: How much did the business pay for this inventory?

Beginning Accounts Payable + Purchases – Payments = Ending Accounts Payable

$57,000 + $147,000 – X = $91,000 X = $57,000 + $147,000 – $91,000 X = $113,000

Computing Payments for Operating Expenses Beginning prepaid expense + Payments – Expiration of prepaid expense = Ending balance Beginning accrued liabilities + Accrual of expense at year end – Payments = Ending balance Accrual of other operating expenses at year end + Expiration of prepaid expense + Payments = Ending balance

Computing Payments to Employees

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

$58,000

Measuring Cash Adequacy: Free Cash Flow