STATEMENT OF CASH FLOWS

1. Chapter13 • STATEMENT OF CASH FLOWS

2. Learning Objective Explain the purposes and uses of a statement of cash flows. LO1

3. Helps investors with questions about the company’s 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. Purpose of the Statement of Cash Flows Provides information about the cash receipts and cash payments of a business entity during the accounting period.

5. Learning Objective Describe how cash transactions are classified in a statement of cash flows. LO2

6. Classification of Cash Flows • The Statement of Cash Flows must include the following three sections: • Cash Flows from Operating Activities • Cash Flows from InvestingActivities • Cash Flows from Financing Activities

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

8. + _ Operating Activities • Inflows from: • Interest and dividends received. • Sales to customers. Cash Flows from Operating Activities • Outflowsto: • Suppliers of merchandise and services. • Employees. • Lenders for interest. • Governments for taxes.

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

10. Inflows from: Selling investments and plant assets. Collecting of principal on loans. + _ Investing Activities Cash Flows from Investing Activities • Outflows to: • Purchase of investments and plant assets. • Purchase debt or equity investments. • Make loans.

11. Inflows from: Short-term and long-term borrowing. Owners (for example, from issuing stock). + _ Financing Activities Cash Flows from Financing Activities • Outflows to: • Make payments on borrowed funds. • Owners for dividends. • Purchase treasury stock.

12. Cash Equivalents Currency 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.

13. Learning Objective Distinguish between the direct and indirect methods of reporting operating cash flows. LO5

14. The operating cash flows section can be prepared using either the direct method or the indirect method. Let’s look at the direct methodfor preparing the Statement of Cash Flows.

15. Accrual basis revenue includes sales that did not result in cash inflows. Can be computed as: Decrease in receivables + = Cash Received from Customers Net Sales Increase in receivables – = Direct MethodCash Received from Customers

16. 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? Direct MethodCash Received from Customers Decrease in receivables + = Net Sales $900,000 Cash Received from Customers Increase in receivables – =

17. 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 – =

18. Let’s look at some simplified formulas for computing direct method cash flows.

19. Direct MethodInterest and Dividends Received

20. Step 1 Step 2 Direct MethodCash Paid for Merchandise

21. How much did Martin Co. pay for inventory in 2007? a. $900,000 b. $923,000 c. $947,000 d. $877,000 Direct MethodCash Paid for Merchandise 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

22. + Increase in + Decrease in Cash Paid for prepaid expenses accrued liabilities = Expenses Expenses - Decrease in - Increase in prepaid expenses accrued liabilities 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.

23. Now, let’s prepare a direct methodStatement of Cash Flows for Martin Co.

24. Direct Method

25. Direct Method

26. Direct Method

27. 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.

28. Direct Method Additional Information • Martin’s 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.

29. Direct Method Cash Received from Customers Cash Paid to Employees

30. Direct Method Cash Paid for Inventory Cash Paid for Interest

31. Direct Method Cash Paid for Taxes Other Operating Cash Flows

32. Direct Method Cash Flows From Operating Activities

33. 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.

34. Notice that the Ending Cash Balance per the Statement of Cash Flows agrees with the 12/31/07 Cash balance on the Balance Sheet.

35. Learning Objective Explain why net income differs from net cash flows from operating activities. LO6

36. Depreciation Expense Accounts receivable Reconciling Net Income withNet Cash Flows • There are two major categories of reconciling items. They include adjusting for: • Noncash Expenses. • Timing Differences.

37. Let’s look at the indirect methodthat is used by over 97% of all companies.

38. Learning Objective Compute net cash flows from operating activities using the indirect method. LO7

39. 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.

40. Indirect Method Use this table when adjusting Net Income to Operating Cash Flows.

41. 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. Indirect Method

42. Indirect Method The $8,000 gain was the result of selling land costing $32,000 for $40,000 cash during the period.

43. Indirect Method

44. Indirect Method Joyce issued $50,000 of no par common stock to settle the $50,000 note payable.

45. Indirect Method

46. Indirect Method With the indirect method, always start with the net income or net loss for the period.

47. Indirect Method

48. Indirect Method Accounts receivable decreased. 3/31/073/31/06 $23,000 - $40,000 = $(17,000)

49. Indirect Method Accounts payable increased. 3/31/073/31/06 $38,000 - $27,000 = $11,000

50. Indirect Method Inventory increased. 3/31/073/31/06 $350,000 - $300,000 = $50,000