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CHAPTER 14 - PowerPoint PPT Presentation


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CHAPTER 14 Statement of Cash Flows The statement of cash flows reports how a company obtained and spent cash during an accounting period. Chapter Opening

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slide1

CHAPTER 14

Statement ofCash Flows

chapter opening

The statement of cash flows reportshow a company obtained and spentcash during an accounting period.

Chapter Opening

To make informed investment and credit decisions,financial statement users need informationto help them asses the amounts, timing anduncertainty of a company’s prospective cash flows.

learning objective
Learning Objective

To identify the typesof business eventsthat are reported inthe three sectionsof the statement ofcash flows

LO1

reporting format for the statement of cash flows

Operating Activities

Investing Activities

Financing Activities

Reporting Format for the Statement of Cash Flows

The Statement of Cash Flows must include the following three sections, as defined in FASB Statement 95:

cash flows from operating activities

Inflows

  • Receipts from sales.
  • Commissions and fees.
  • Interest and dividends received.

Outflows

  • Payments for inventory.
  • Salaries and wages.
  • Operating expenses
  • Interest on liabilities.
  • Taxes.
Cash Flows fromOperating Activities

Cash Flows from Operating Activities

cash flows from investing activities
Inflows

Selling property, plant, and equipment.

Selling investment securities.

Collecting loans.

Outflows

  • Purchasing property, plant, and equipment.
  • Purchasing investment securities.
  • Lending to others.
Cash Flows fromInvesting Activities

Cash Flows from Investing Activities

cash flows from financing activities
Inflows

Borrowing.

Issuing stock.

Outflows

  • Repaying debt (excluding interest).
  • Purchasing treasury stock.
  • Paying dividends.
Cash Flows fromFinancing Activities

Cash Flows from Financing Activities

noncash investing and financing transactions
Noncash Investing and Financing Transactions
  • Significant noncash investing and financing transactions must be reported separately.
  • Example: Issuing common stock in exchange for land.
slide10

Cash Flows fromOperating Activities

Cash flows from operating activities can be prepared using either the direct method or the indirect method.

Let’s look at the direct methodfirst.

learning objective11
Learning Objective

To convertaccount balancesfrom accrual to cash

LO2

converting from accrual to cash basis accounting
Accrual basis revenue includes sales that did not result in cash inflows.

Cash received from customers can be computed as follows:

Converting from Accrual to Cash-Basis Accounting

Decrease in receivables

+

=

Cash received from customers

Net sales

Increase in receivables

=

learning objective13
Learning Objective

To use theT-account method toprepare a statementof cash flows

LO3

converting from accrual to cash basis accounting14
Converting from Accrual to Cash-Basis Accounting

We will use T-accounts toanalyze changes in accounts.

Let’s look at an example.

The Accounts Receivable balance was $1,200 on 12/31/04 and $1,000 on 12/31/05. If accrual Sales Revenue for 2005 was $20,600, what were cash receipts from sales?

converting from accrual to cash basis accounting15

$1,200 + $20,600 - $1,000

Converting from Accrual to Cash-Basis Accounting

Accounts Receivable

12/31/04 Balance

Cash receipts =

Accrual Sales Revenue

$20,800

12/31/05 Balance

The Accounts Receivable balance was $1,200 on 12/31/04 and $1,000 on 12/31/05. If accrual Sales Revenue for 2005 was $20,600, what were cash receipts from sales?

converting from accrual to cash basis accounting16
Converting from Accrual to Cash-Basis Accounting

Now let’s use T-account analysis for a liability account with anaccrued expense.

The Salaries Payable balance was $900 on 12/31/04 and $1,000 on 12/31/05. If accrued Salaries Expense for 2005 was $2,700, what amount of cash was paid for salaries?

converting from accrual to cash basis accounting17

$900 + $2,700 - $1,000

Converting from Accrual to Cash-Basis Accounting

Salaries Payable

12/31/04 Balance

Accrued Salaries Expense

Cash payments =

$2,600

12/31/05 Balance

The Salaries Payable balance was $900 on 12/31/04 and $1,000 on 12/31/05. If accrued Salaries Expense for 2005 was $2,700, what amount of cash was paid for salaries?

slide18

Direct Method

Now that we have seen the T-account method of analysis, let’s use it to prepare a Direct MethodStatement of Cash Flows for New South Corporation.

We will begin with by analyzing changes in balance sheet accounts.

direct method
Direct Method

Additional Information

  • The corporation sold equipment for $300 cash during the year. The equipment had an original cost of $1,500 and accumulated depreciation of $1,100 at the time of sale.
  • The corporation issued a $2,500 mortgage note in exchange for land during the year.
  • There was a $1,500 cash dividend paid during the year.

Let’s get started analyzing the accounts. First, we willreview the T-account analysis that we completed earlier.Then we will analyze the remaining balance sheet accounts starting with the current accounts.

slide23

Salaries Payable

12/31/04 Balance

Accrued salaries expense

Cash Payments = $2,600

12/31/05 Balance

Accounts Receivable

12/31/04 Balance

Cash receipts = $20,800

Accrual sales revenue

12/31/05 Balance

slide24

Accounts Payable

12/31/04 Balance

Purchases

Cash Payments =

12/31/05 Balance

Inventory

12/31/04 Balance

Cost of Goods Sold

Purchases =

$11,200

12/31/05 Balance

$11,500

slide25

Interest Payable

12/31/04 Balance

Interest Expense

Cash payment =

12/31/05 Balance

Interest Receivable

12/31/04 Balance

Cash receipts =

$600

Interest Revenue

12/31/05 Balance

$600

slide26

Unearned Rent

12/31/04 Balance

Rent Revenue

Cash receipt =

12/31/05 Balance

Prepaid Insurance

12/31/04 Balance

Cash payment =

$300

Insurance Expense

12/31/05 Balance

$1,400

slide27

Other Operating Expenses Payable

12/31/04 Balance

Cash payment =

$1,200

Other Operating Expenses

12/31/05 Balance

Now that we have analyzed the current accounts and found the cash receipts and cash payments related to operations, we are ready to prepare the Cash Flow from Operating Activities portion of the Statement of Cash Flows.

direct method29
Direct Method

Now, let’s continue to use the T-account analysis for the remaining noncurrent balance sheet accounts.

slide30

Land

12/31/04 Balance

Mortgage issued for land =

12/31/05 Balance

Marketable Securities

12/31/04 Balance

Cash paid =

$1,600

12/31/05 Balance

$2,500

slide31

Equipment

Equipment sale

12/31/04 Balance

Cash paid for equipment =

$2,300

12/31/05 Balance

After completing the analysis of noncurrentassets, we are ready to prepare the CashFlow from Investing Activities portionof the Statement of Cash Flows.

cash flow from investing activities
Cash Flow fromInvesting Activities

Next, we will analyze noncurrent liabilities and equity so that we can prepare the Cash Flow from Financing Activities portion of the Statement of Cash Flows.

slide33

Bonds Payable

12/31/04 Balance

Cash paid to retire bonds =

12/31/05 Balance

Mortgage Payable

12/31/04 Balance

Mortgage issued for Land =

$2,500

12/31/05 Balance

$3,000

slide34

Common Stock

12/31/04 Balance

Cash received from stocksale =

$2,000

12/31/05 Balance

After completing the analysis of noncurrentliabilities and equity, we are ready to prepare the Cash Flow from Financing Activitiesportion of the Statement of Cash Flows.

cash flow from financing activities

Third item of additional information.

Cash Flow fromFinancing Activities

Next, we will put the three sections together to completethe Statement of Cash Flows.

slide36

Notice that the Ending Cash Balance on the Statement of Cash Flows agrees with the 12/31/05 Cash balance on the Balance Sheet.

learning objective37
Learning Objective

To explain how theindirect method differsfrom the direct methodin reporting cashflow from operatingactivities.

LO4

slide38

Indirect Method

Now let’s look at theIndirect Methodthat is used by over 95% of all companies.

a comparison of the direct and indirect methods
A Comparison of the Directand Indirect Methods
  • Net cash flow is the same for both methods.
  • The Direct Method provides more detail about cash from operating activities.
  • The investing and financing sections for the two methods are identical.
indirect method
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.

indirect method41
Indirect Method

Use this table when adjusting Net Incometo Cash Flow from Operations.

indirect method42
Indirect Method

We will use the Indirect Methodto prepare the Cash Flows from Operating Activities for the New South Corporation.

First, we will review the Balance Sheet and Income Statement for New South Corporation.

slide46

The Indirect Method begins with Net Income, which is then adjusted for the non-cash items included in net income.

For New South Corporation, the only non-cash items are depreciation and a loss.

slide47

To complete the Cash Flow from Operating Activities section, we must examine comparative balance sheets to determine the changes in current assets and current liabilities from the beginning of the period to the end of the period.

(Remember, we showed the balance sheets a few slides earlier.)

slide49

Remember that when we prepared the operating section using the Direct Method, we also arrived at Net Cash Flow from Operating Activities of $6,600.

indirect method50
Indirect Method

Because the investingand financing sectionsare identical with eithermethod of preparation, we will not repeatthose sections of thestatement.

learning objective51
Learning Objective

To explain how thestatement of cashflows could misleaddecision makers if notinterpreted with care

LO5

the financial analyst
The Financial Analyst

A rapidly growingcompany might be short ofcash in spite of largereported net income.

Because accruals anddeferrals affect operating income,cash flow from operating activitiesmay be stable thanoperating income.

the financial analyst53

Ability to generate cashfrom its operations.

Management of currentassets and current liabilities.

Expenditures forlong-term assets.

Amount received fromexternal financing.

The Financial Analyst

The statement focusesattention on: