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College Accounting

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College Accounting

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  1. College Accounting Heintz & Parry20th Edition

  2. 23 Statement of Cash Flows

  3. 1 • Explain the purpose of the statement of cash flows.

  4. STATEMENT OF CASH FLOWS • Purpose: To provide information about how cash was generated and used during the period • Divides cash-related activities into three categories: • Operating activities • Investing activities • Financing activities

  5. 2 • Define operating, investing, and financing activities and describe transactions for each type of activity.

  6. OPERATING ACTIVITIES • Transactions and events associated with: • Selling a product or providing a service • The revenues and expenses reported on the income statement • Represent the company’s primary source of cash over the life of the business

  7. OPERATING ACTIVITIES • Inflow examples: • Cash receipts from the sale of goods or services • Interest received on loans made to outside entities • Dividends received on investments made in the stock of other companies

  8. OPERATING ACTIVITIES • Outflow examples: • Payments for: • The acquisition of inventory • Interest on loans • Payments to: • Employees and the government • Other suppliers and for other expenses

  9. INVESTING ACTIVITIES • Transactions involving: • Long-term assets • Investments in debt and equity securities • Lending money and collecting the principal on the related loans

  10. INVESTING ACTIVITIES • Inflow examples: • Proceeds from: • Collection of principal on loans made • Sale of property, plant, and equipment; intangibles; and other productive assets • Sale of investments in debt and equity securities • Discounting notes receivable

  11. INVESTING ACTIVITIES • Outflow examples: • Loans made to other parties • Payments to acquire property, plant, and equipment; intangibles; and other productive assets • Payments to acquire investments in debt and equity securities

  12. FINANCING ACTIVITIES • Transactions dealing with the exchange of cash between the company and its owners and creditors

  13. FINANCING ACTIVITIES • Inflow examples: • Proceeds from additional investments by the owners or the issuance of stock • Proceeds from borrowing money through the signing of a mortgage, issuing a bond, or other long- or short-term loans

  14. FINANCING ACTIVITIES • Outflow examples: • Payments of dividends to stockholders or withdrawals by the owners • Payments to purchase treasury stock • Repayment of the principal on loans

  15. 3 • Describe the information needed to prepare a statement of cash flows.

  16. INFORMATION NEEDED TO PREPARE A STATEMENT OF CASH FLOWS • The following statements are needed to prepare a statement of cash flows: • Balance sheets for the: • Beginning of the period • End of the period • Income statement for the period • Statement of retained earnings for the period

  17. 4 • Describe the direct and indirect methods of reporting cash flows from operating activities.

  18. CASH FLOWS FROM OPERATING ACTIVITIES • Two methods: • Direct • Revenues and expenses are adjusted to reflect the amount of cash received or paid for each item • Indirect • Net income is adjusted for transactions that affect net income and cash flows, but by different amounts

  19. 5 • Describe the effects of changes in current assets and current liabilities on cash from operating activities under the indirect method.

  20. OPERATING ACTIVITIES: ADJUSTMENTS TO NET INCOME • Adjustments must be made for: • Changes in current assets related to operating activities • Changes in current liabilities related to operating activities • Noncash expenses • Gains and losses on transactions not related to operating activities

  21. CHANGES IN CURRENT ASSETS RELATED TO OPERATING ACTIVITIES • Examples of current assets related to operating activities: • Accounts receivable • Inventory • Prepaid expenses

  22. CHANGES IN CURRENT ASSETS RELATED TO OPERATING ACTIVITIES • Increases in such assets reduce cash generated from operating activities • Example: If a customer makes a $100,000 purchase, paying $95,000 in cash and the rest on account, the company records: Cash 95,000 Accounts Receivable 5,000 Sales 100,000

  23. CHANGES IN CURRENT ASSETS RELATED TO OPERATING ACTIVITIES • Decreases in such assets increase cash generated from operating activities • Example: If $30,000 in rent expense is recognized, a payment of $28,000 is made to the landlord, and a $2,000 adjustment is made to the prepaid rent account (for a previously made payment), the company records: Rent Expense 30,000 Prepaid Rent 2,000 Cash 28,000

  24. CHANGES IN CURRENT ASSETS RELATED TO OPERATING ACTIVITIES • The net effect of these two transactions shows an increase in net income of $70,000, but the net increase in cash is only $67,000: Net income minus the net increase in current assets equals the net increase in cash.

  25. CHANGES IN CURRENT LIABILITIES RELATED TO OPERATING ACTIVITIES • Examples of current liabilities related to operating activities: • Accounts payable • Income tax payable • Salaries payable

  26. CHANGES IN CURRENT LIABILITIES RELATED TO OPERATING ACTIVITIES • Increases in such liabilities increase cash generated from operating activities • Example: If salaries expense is $5,000 but the cash paid is only $4,500, the rest increases the current liability account: Salaries Expense 5,000 Salaries Payable 500 Cash 4,500

  27. CHANGES IN CURRENT LIABILITIES RELATED TO OPERATING ACTIVITIES • Decreases in such liabilities decrease cash generated from operating activities • Example: If income tax expense is $40,000 and an additional $2,000 already owed is paid in cash, the current liability account decreases: Income Tax Expense 40,000 Income Tax Payable 2,000 Cash 42,000

  28. CHANGES IN CURRENT LIABILITIES RELATED TO OPERATING ACTIVITIES • The net effect of these two transactions shows an decrease in net income of $45,000, but the net decrease in cash is $46,500 higher: Net income minus the net decrease in current assets equals the net decrease in cash.

  29. 6 • Prepare a statement of cash flows under the indirect method using T accounts and including adjustments for current assets and current liabilities related to operations.

  30. STATEMENT OF CASH FLOWS: INDIRECT EXAMPLE: Simplex Company has prepared its income statement, statement of retained earnings, and balance sheet for 20-2. Now it needs to prepare its statement of cash flows.

  31. Simplex Company Comparative Balance Sheet December 31, 20-2 and 20-1 Increase(Decrease) Step 1: Compute the change in cash 20-2 20-1 Assets Current assets: $(110,000) Cash $ 90,000 $200,000 Accounts receivable 160,000 190,000 (30,000) The statement of cash flows will explain how the cash account decreased by $110,000 in 20-2. Merchandise inventory 180,000 200,000 (20,000) Total current assets $430,000 $590,000 (160,000) Property, plant, and equipment: Land $ 40,000 $ 40,000 0 Building 140,000 0 140,000 Equipment 100,000 0 100,000 Total property, plant, and equip. $280,000 $ 40,000 $ 240,000 Total assets $710,000 $630,000 $ 80,000

  32. STATEMENT OF CASH FLOWS: INDIRECT • Step 2: Set up T accounts with the beginning and ending balances for all noncash balance sheet accounts • The changes in the noncash balance sheet accounts indicate indirect changes to Cash for the operating, investing, or financing activities of the period • A Cash T account may be used to represent a simple version of the statement of cash flows • Divide the Cash T account into three sections for the three types of activities

  33. STATEMENT OF CASH FLOWS: INDIRECT Cash Operating Activities Investing Activities Financing Activities

  34. STATEMENT OF CASH FLOWS: INDIRECT • Step 3(a): Compute cash flows from operating activities by reporting net income as the primary source of cash from operating activities • Step 3(b): Compute cash flows from operating activities by adjusting net income for changes in current assets and current liabilities related to operating activities

  35. STATEMENT OF CASH FLOWS: INDIRECT Cash Operating Activities Net income In the operating section, debits represent increases to net income and credits represent decreases. Investing Activities Financing Activities

  36. STATEMENT OF CASH FLOWS: INDIRECT Accounts Receivable Beg. bal. 190,000

  37. CASH RECEIVED FROM CUSTOMERS Accounts Receivable Beg. bal. 190,000 Sales? Credit sales increase the accounts receivable account.

  38. CASH RECEIVED FROM CUSTOMERS Accounts Receivable 190,000 Beg. bal. Sales ? ? Payments received Accounts Receivable is decreased by customersmaking payments.

  39. CASH RECEIVED FROM CUSTOMERS Accounts Receivable Beg. bal. 190,000 Sales ? ? Payments received Accounts Receivable decreased by $30,000 during 20-2. 160,000 End. bal.

  40. CASH RECEIVED FROM CUSTOMERS Accounts Receivable Beg. bal. 190,000 Sales ? ? Payments received 160,000 End. bal. When Accounts Receivable decreases, Cash received from customers > Sales

  41. CASH RECEIVED FROM CUSTOMERS Accounts Receivable Beg. bal. 190,000 Sales 900,000 ? Payments received Sales for the year were $900,000. 160,000 End. bal.

  42. CASH RECEIVED FROM CUSTOMERS Accounts Receivable Beg. bal. 190,000 Sales 900,000 930,000 Payments rec’d End. bal. 160,000 Cash received from customers = Sales + Decrease in A/R = $900,000 + $30,000

  43. STATEMENT OF CASH FLOWS: INDIRECT Cash Operating Activities Net income Decr. in accts. receivable Investing Activities Financing Activities

  44. CASH PAID FOR MERCHANDISE Merchandise Inventory 200,000 Beg. bal. We need to determine the amount of merchandise purchased during the year.

  45. CASH PAID FOR MERCHANDISE Merchandise Inventory Beg. bal. 200,000 Purchases ? Purchases increase inventory.

  46. CASH PAID FOR MERCHANDISE Merchandise Inventory Beg. bal. 200,000 Purchases ? ? Cost of goods sold Selling goods (merchandise) reduces inventory.

  47. CASH PAID FOR MERCHANDISE Merchandise Inventory 200,000 Beg. bal. Purchases ? ? Cost of goods sold End. bal. 180,000 Inventory decreased by $20,000 during 20-2.

  48. CASH PAID FOR MERCHANDISE Merchandise Inventory Beg. bal. 200,000 Purchases ? ? Cost of goods sold End. bal. 180,000 When inventory decreases during the year, Cost of goods sold > Purchases

  49. CASH PAID FOR MERCHANDISE Merchandise Inventory Beg. bal. 200,000 600,000 Cost of goods sold Purchases ? 180,000 End. bal. Cost of Goods Sold for 20-2 is $600,000.

  50. CASH PAID FOR MERCHANDISE Merchandise Inventory Beg. bal. 200,000 600,000 Cost of goods sold Purchases 580,000 180,000 End. bal. Purchases for 20-2 = Cost of Goods Sold – Decrease in Merchandise Inventory = $600,000 – $20,000