The Statement of Cash Flows

The Statement of Cash
Flows
Chapter
17
©2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 17 -

Purpose of The Statement of
Cash Flows: Basic Concepts
The statement of cash flows

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

Objective 1
Identify the purposes of

the statement of cash flows.

Purposes of the Statement
of 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
Balance Statement Balance

Sheet of Retained Sheet
Earnings
Statement
of Cash
Flows

Purposes of the Statement
of 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 firm’s cash

Cash Balance Includes...
– cash on hand.
– cash in the bank.
– cash equivalents.

Cash Equivalents Are....
– short-term, highly liquid investments

convertible into cash with little delay.
– money market accounts.
– U.S. Government Treasury bills.

Objective 2
Report cash flows from operating,

investing, and financing activities.

Basic Organization of the
Statement of Cash Flows
 A business may be evaluated in terms of
three types of business activities:
1 Operating activities
2 Investing activities
3 Financing activities

Operating Activities
Operating
Operating activities
activities are
are related
related to
to the
the
transactions
transactions that
that make
make up
up net
net income.
income.
Interest
Interest and
and dividends
dividends received
received are
are
related
related to
to investing
investing activities.
activities.
However,
However, thethe FASB
FASB hashas decided
decided to
to classify
classify the
the
cash
cash received
received from
from these
these items
items as
as operating
operating activities.
activities.
©2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 17 - 1

Investing Activities
Investing
Investing activities
activities increase
increase and
and decrease
decrease
the
the assets
assets that
that are
are available
available to
to the
the business.
business.
Investing
Investing activities
activities are
are related
related to
to the
the
Long-Term
Long-Term Asset
Asset accounts.
accounts.

Financing Activities
These
These are
are transactions
transactions involving
involving obtaining
obtaining
resources
resources from
from the
the owners
owners oror returning
returning
resources
resources to
to them.
them.
ItIt also
also involves
involves obtaining
obtaining resources
resources
from
from creditors
creditors and
and repaying
repaying the
the
amount
amount borrowed.
borrowed.

Format of the Statement
of Cash Flows
 FASB Statement 95 approved two methods
for reporting cash flows from operating
activities.
1 Direct method
2 Indirect method

Format of the Statement
of 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.

Objective 3
Prepare a statement of cash

flows by the direct method.

The Direct Method
Statement of Cash Flows (Direct Method)
Year Ended December 31, 2002 (Thousands)
Cash flows from operating activities:
Receipts:
Collections from customers $271
Interest received on notes receivable 10
Dividends received on investments in stock 9
Total receipts $290

The Direct Method
Payments:
To suppliers $133
To employees 58
For interest 16
For income tax 15
Total payments 222
Net cash inflows from operating activities $ 68
The Direct Method
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)

The Direct Method
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
The Direct Method
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

Objective 4
Compute the cash effects

of a wide variety of
business transactions.

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

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

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

Income Statement
Total revenues and gains $313

Total expenses 272
Net income $ 41

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
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’
©2002 Prentice Hall, Inc. equity
Business Publishing $725
Accounting, 5/E $487 $238
Horngren/Harrison/Bamber 17 - 2
Computing Cash Collections
from 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

Computing Cash Collections
from 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.

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

 How much were the purchases?

 $138,000 + x – $150,000 = $135,000
 x = $135,000 – $138,000 + $150,000
 $147,000

Accounts Payable
Payments for Beg. balance 57,000

inventory x Purchases 147,000
End. balance 91,000

 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

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.

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

Acquisition and Sales
of 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.

of 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

of 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?

of 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

Computing the Cash Amounts
of Financing Activities
 Financing activities affect liability and
stockholders’ equity accounts.
– Notes Payable
– Bonds Payable
– Long-Term Debt
– Common Stock
– Paid-in Capital
– Retained Earnings

Issuance and Payments of
Long-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

Computing Dividend Payments
 Dividend payments are computed by

analyzing the Dividends Payable account.
 Beginning balance + Dividends declared
– Dividend payments = Ending balance

Noncash Investing and
Financing 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.

Reconciling Net Income
to 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).

Objective 5
Prepare a statement of cash flows

by the indirect method.

The Indirect Method
Current Assets
Add to Net Income if this account has decreased
Deduct from Net Income if this account has increased

The Indirect Method
Current Liabilities
Add to Net Income if this account has increased
Deduct from Net Income if this account has decreased

The Indirect Method
Statement of Cash Flows (Indirect Method)
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
The Indirect Method
Statement of Cash Flows (Indirect Method)
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

End of Chapter
17

The Statement of Cash Flows

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The Statement of Cash

©2002 Prentice Hall, Inc. Business Publishing Accounting, 5/E Horngren/Harrison/Bamber 17 -