Chapter 12 Solutions

CHAPTER 12The Statement of Cash Flows OVERVIEW OF EXERCISES, PROBLEMS, AND CASES Learning Outcomes Exercises Estimated Time in Minutes Level 1. Explain the purpose of a statement of cash flows. 15* 60 Diff 2. Explain what cash equivalents are and how they are treated on the statement of cash flows. 1 12* 5 10 Easy Easy 3. Describe operating, investing, and financing activities, and give examples of each. 2 3 12* 13* 14* 10 10 10 10 25 Easy Mod Easy Easy Diff 5. Use T accounts to prepare a statement of cash flows, using the direct method to determine cash flow from operating activities. 4 5 6 7 8 13* 15* 5 10 20 20 10 10 60 Mod Mod Mod Mod Mod Easy Diff 6. Use T accounts to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. 9 10 14* 10 15 25 Easy Mod Diff 7. Use cash flow information to help analyze a company. 11 15 Mod 4. Describe the difference between the direct and the indirect methods of computing cash flow from operating activities. 8. Use a work sheet to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. (Appendix) *Exercise, problem, or case covers two or more learning outcomes Level = Difficulty levels: Easy; Moderate (Mod); Difficult (Diff) 12-1 12-2 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Learning Outcomes Problems and Alternates Estimated Time in Minutes Level 1. Explain the purpose of a statement of cash flows. 2. Explain what cash equivalents are and how they are treated on the statement of cash flows. 13* 30 Diff 4. Describe the difference between the direct and the indirect methods of computing cash flow from operating activities. 11* 12* 30 30 Mod Mod 5. Use T accounts to prepare a statement of cash flows, using the direct method to determine cash flow from operating activities. 3 6 11* 13* 45 30 30 30 Mod Mod Mod Diff 6. Use T accounts to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. 1 4 7 9 12* 30 45 30 45 30 Mod Mod Mod Diff Mod 2 5 8 10 60 60 60 60 Mod Mod Mod Diff 3. Describe operating, investing, and financing activities, and give examples of each. 7. Use cash flow information to help analyze a company. 8. Use a work sheet to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. (Appendix) *Exercise, problem, or case covers two or more learning outcomes Level = Difficulty levels: Easy; Moderate (Mod); Difficult (Diff) CHAPTER 12 • THE STATEMENT OF CASH FLOWS Learning Outcomes Cases Estimated Time in Minutes 12-3 Level 1. Explain the purpose of a statement of cash flows. 4* 5* 6* 60 25 25 Diff Mod Mod 2. Explain what cash equivalents are and how they are treated on the statement of cash flows. 1* 7* 30 20 Mod Mod 3. Describe operating, investing, and financing activities, and give examples of each. 1* 2 7* 30 20 20 Mod Mod Mod 5. Use T accounts to prepare a statement of cash flows, using the direct method to determine cash flow from operating activities. 4* 60 Diff 6. Use T accounts to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. 5* 6* 25 25 Mod Mod 7. Use cash flow information to help analyze a company. 3 20 Mod 4. Describe the difference between the direct and the indirect methods of computing cash flow from operating activities. 8. Use a work sheet to prepare a statement of cash flows, using the indirect method to determine cash flow from operating activities. (Appendix) *Exercise, problem, or case covers two or more learning outcomes Level = Difficulty levels: Easy; Moderate (Mod); Difficult (Diff) A cash equivalent is an item that is readily convertible to a known amount of cash and has an original maturity of three months or less.12-4 FINANCIAL ACCOUNTING SOLUTIONS MANUAL QUESTIONS 1.000 is a cash outflow that would be reported in the investing activities section of the statement of cash flows. and financing activities during a period. all of the balance sheet accounts must be analyzed to find the explanations for the increases and decreases in cash during the period. But this is only the starting point in preparing the statement of cash flows. 3. The student is correct in that it is simple enough to find the net inflow or outflow of cash during the period. However. A company must at a minimum replace existing assets and in many cases acquire additional plant and equipment to remain competitive. 4. Companies cannot continue in business if they do not generate positive cash flows from operating activities. nor can it issue capital stock indefinitely. but usually they will not generate significant amounts of cash inflow. Second. Second. 6. or financing activities.000 would appear in a supplemental schedule of noncash investing and financing activities. each of these inflows and outflows must be classified as either operating. such as Treasury bills and money market funds. purchases and sales of cash equivalents are not considered significant activities to be separately reported on the statement. Therefore. First. present very little risk to the holder. investing. over a period of years. 2. investing. . However. the purchase of Motorola stock would appear as a cash outflow in the investing activities section of the statement of cash flows. Because it is concerned with activity for a specific period of time. Also. Thus. and therefore they are included with cash for the purpose of preparing the statement of cash flows. However. At the same time. they differ in two important respects. you would not expect a net cash outflow from financing activities over a sustained period of time. First. the purchase of the treasury bill would not be reported as an investing activity. The issuance of the promissory note for $60. many companies regularly experience a net cash outflow from investing activities. 5. That is. The down payment of $20. The purpose of the statement of cash flows is to summarize an entity’s cash flows from operating. These items. the income statement deals only with operating activities. the statement is similar to the income statement. a company cannot continue to borrow more than it repays. the income statement is on an accrual basis. while the statement of cash flows reports operating activities on a cash basis. A 60-day Treasury bill would be classified as a cash equivalent and combined with cash on the balance sheet. with a few exceptions. disposals of long-term assets may be fairly common. First. this is merely a result of using the indirect method to prepare this section. A large share of the profits may be returned to the stockholders in the form of cash dividends. provides the most information. it is possible to report a net loss and still experience a net increase in cash. However. a decrease in income taxes payable means that cash paid to the government during the period exceeded income tax expense on the income statement. Second. Others believe that the indirect method is better because it focuses attention on the differences between net income and net cash provided by operations. However. and purchases increases it. Thus. 8. and adjustments are made to convert income to a cash basis. 10. on a cash basis we are interested in cash collections from sales. such as depreciation and various types of losses. Accounting standards allow the use of either method. the amount of cash paid is reported as a cash outflow in the Operating Activities section of the statement. the excess is added back to the net income of the period. Under the indirect method. under the indirect method it must be added back to net income because it is a noncash expense. Therefore. A profitable year does not guarantee a large cash balance at the end of the year. . depreciation is deducted. If the indirect method is used. with its emphasis on cash receipts and cash payments. it is possible that net cash provided by operating activities is positive even though a net loss is reported.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-5 7. but companies are strongly encouraged to use the direct method. The only accurate part of this statement is that depreciation is often one of the largest items in the Operating Activities section of the statement. It is possible that a net cash inflow was provided by either investing or financing activities. A decrease in accounts receivable indicates that cash collections exceeded sales revenue. There is considerable debate over which method is most useful. believe that the direct method. Inventory is analyzed to determine the purchases of the period. After the purchases of the period are found. or both. Yes. Depreciation does not in any way generate cash. In computing net income. Regardless of which method is used. Under the direct method. a company could report large noncash charges against net income. Many accountants. net income is reported at the top of the Operating Activities section. Therefore. Investments in new plant and equipment require significant amounts of cash. as well as users of the statements. not the sales on an accrual basis. they are added to the beginning balance in the Accounts Payable account. 12. 9. as does the repayment of various forms of borrowing. 11. the decrease in taxes payable is deducted from net income to arrive at net cash flow from operations. Sales revenue is included in net income. Cost of goods sold decreases the Inventory account. 13. the net loss deals only with operating activities. The difference between the addition of these amounts and the ending balance in Accounts Payable is the amount of cash payments. 600 + X – $45.000 *$25.000 –25. 16.900 = $7.000 = Liabilities + Owners’ Equity –2. 15. Furthermore.900 $ 7.000 – $11. the cash raised from each of these sources—the amounts borrowed from creditors and the amounts contributed by stockholders—is classified as an inflow in the financing section of the statement.600 17. Accounting standards strongly encourage companies to use the direct method because each major operating cash receipt and payment is reported in the Operating Activities section of the statement.000 shares of treasury stock at $20 per share would be reflected on the statement of cash flows as a cash outflow of $40. An analysis of the Prepaid Rent account can be used to find the amount of cash paid for rent: Beginning Prepaid Rent + Cash payments – Rent Expense = Ending Prepaid Rent $ 9. However. Many believe that this is illogical and that both interest paid and dividends paid belong in the financing section. Both represent returns to providers of capital: interest to creditors and dividends to stockholders. An argument can be made that it is inconsistent to report interest paid in the operating section and dividends paid in the financing section.300 X = $43. 18. The purchase of 2. The rationale normally given for this treatment is that interest enters into the determination of net income.000 14.300 $9. The entry to record the sale of the truck is: Cash Accumulated Depreciation Loss on Sale Delivery Truck To record sale of truck at a loss.12-6 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 14.000 in the financing activities section of the statement. 9.000* 2.000 **$11. if a company chooses to use the indirect approach. The requirement to separately disclose income taxes paid and interest paid when the indirect method is used is a compromise. they are still required to report separately how much cash was actually paid to the government in taxes and to creditors in interest. and thus the cash expended in interest should appear in the operating section.000** 25.000 – $9.000 +14.000 Assets +9.600 X 45.000 . Since the company neither bought nor sold any patents during the year. appear on the statement of cash flows. The amount of average annual debt maturing over the next five years in the denominator can be found in a note to the financial statements. 2007 $ 35. the loss of $2. 20. 21. First.000 represents the amortization of the patent for the year.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-7 Two items would be reported on a statement of cash flows using the indirect method. Second. 2008 Money Market fund 90-day Treasury bills Cash equivalents at December 31.000 . due January 31. the decrease in the balance in the account of $4.000 105. It could be argued that the issuance of stock in connection with a stock dividend is a financing activity and that it should be included on the schedule. If a 10% stock dividend is included on the schedule it would be reported at the market value of the shares issued. It is questionable whether it is even a significant noncash activity that should be reported in the supplemental schedule. The information needed to determine a company’s cash flow adequacy comes from two sources. and is added back to net income under the indirect method. A stock dividend does not involve the inflow or outflow of cash and therefore is not reported on a statement of cash flows. Amortization is a noncash expense. EXERCISES LO 2 EXERCISE 12-1 CASH EQUIVALENTS Investments made during December 2007 that qualify as cash equivalents at December 31.000 $215. 19.000 would be added back to net income in the operating activities section. 2007: Certificate of deposit. the cash received of $9.000 75. net cash provided by operating activities and capital expenditures. as is depreciation. The numbers in the numerator of the ratio.000 would be reported as a cash inflow in the investing activities section. 000 = Liabilities –500.000 + Owners’ Equity –50. O 13. . The $510. F 8. O 12. S 9. operating activity if it is classified as a trading security. Journal entry: 2007 Dec. 31 Bonds Payable Loss on Retirement of Bonds Discount on Bonds Payable Cash To record retirement of bonds: $510.000 2. O 6.000 510.000 would be added back in the operating activities section.000 – $460.000 50. F 11.000 in cash paid to retire the bonds would be reported as a cash outflow in the financing activities section. I 4. O 7. Assets –510.000 500.000. F 10.12-8 LO 3 FINANCIAL ACCOUNTING SOLUTIONS MANUAL EXERCISE 12-2 CLASSIFICATION OF ACTIVITIES 1.000 +40. S 3. the loss of $50. Assuming the company uses the indirect method. O *Investing activity if stock is classified as an available-for-sale security. F 2.000 40. I or O* 5. LO 3 EXERCISE 12-3 RETIREMENT OF BONDS PAYABLE ON THE STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. 300 Accounts payable. 2007 $57.200 . 2006 Plus purchases during 2007 Less cost of goods sold during 2007 Inventory.200 X (770. December 31. December 31. 2006 Plus sales during 2007 Less cash collections during 2007 Accounts receivable. December 31.300 – X = $39. December 31.800 1. December 31.200 + X – $770.200 X=$769. 2006 Plus purchases during 2007 Less cash payments during 2007 Accounts payable.700 LO 5 EXERCISE 12-5 CASH PAYMENTS—DIRECT METHOD Cash payments for inventory to be reported in the operating activities section of Lester Enterprise’s 2007 statement of cash flows (direct method): Inventory.900 = $70.700 751.800 + $1.600 $90. December 31.450.800 $ 57.450.600 X = $751.900) $ 70.000 (X) $ 101.700 + $751. 2007 $ 90.100 X = $1.429.300 (X) $ 39.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 5 12-9 EXERCISE 12-4 CASH COLLECTIONS—DIRECT METHOD Cash collections to be reported in the operating activities section of Stanley’s 2007 statement of cash flows (direct method): Accounts receivable.000 – X = $101.100 $80. 2007 $ 80. 000 Footnotes: 1 2 3 4 5 Cash collections from customers: Sales revenue Add: Decrease in accounts receivable Cash collections $ 100.500)4 (3.000 Payments for inventory: Cost of goods sold Add: Increase in inventory Less: Increase in accounts payable Cash payments $ 75.500 . 2007 Cash Flows from Operating Activities Cash collected from customers Cash payments for: Inventory General and administrative Interest Taxes Total Cash Payments Net Cash Provided by Operating Activities $ 102.000 6.000 3.000 2.000 (1.12-10 LO 5 FINANCIAL ACCOUNTING SOLUTIONS MANUAL EXERCISE 12-6 OPERATING ACTIVITIES SECTION—DIRECT METHOD 1.000 (3.000 (3.000 $ 102.000 500 3.000)2 (6.000 For general and administrative expenses: General and administrative expense Less: Decrease in office supplies Add: Decrease in salaries and wages payable Cash payments For interest: Interest expense Add: Decrease in interest payable Cash payments For taxes: Income tax expense Less: Increase in income taxes payable Cash payments $ $ $ $ $ $ 8.000) $ 79.000 7.500)5 $ (92.0001 $ (79.000) 1.000) $ 10.500 5. Operating activities section of the statement of cash flows: LABRADOR COMPANY PARTIAL STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.500) 3.000)3 (3. 000 Cost of goods sold expense $80.000 + $175.000 = $55. taxes.000 + $60.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-11 2.000 – X = $100.000 Ending balance 100.000 Accounts Payable 25.000 + X – $175.000 X = $150.000 Ending balance 55.000 15.000 Beginning balance Purchases Ending balance . The use of the direct method reveals the amounts collected from customers and the amounts paid for inventory.000 X = Cash collections Write-offs $150.000 150. interest.000 X = $160.000 $190. EXERCISE 12-7 DETERMINATION OF MISSING AMOUNTS—CASH FLOW FROM OPERATING ACTIVITIES LO 5 Case 1: Accounts Receivable Beginning balance Credit sales 150. and other operating purposes.000 (Cash sales) = $250. The direct method shows the reader of the statement the specific amounts collected and paid for operating purposes.000 35.000 175.000 Case 2: Inventory Beginning balance X = Purchases 80.000 + $150.000 X = $190. The indirect method simply reconciles the net income of the period to the net cash flow from operations.000 175.000 X = Cash payments $25.000 – $35.000 – X = $15. 000 X = Cash payments 300.000 285.000 – X = $375.000 $250.000 = $20.000 – $50.12-12 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Case 3: Prepaid Insurance Beginning balance X = Cash payments 17.000 15. First.000 Stock dividend X = Dividends declared 50. determine the amount of dividends declared: Retained Earnings 250.000 Beginning balance Net income Ending balance .000 – X = $115.000 Beginning balance Tax expense Ending balance $95.000 + X – $15.000 + $300.000 Case 4: Income Taxes Payable 95.000 115.000 Ending balance 20.000 X = $18.000 X = $280.000 Insurance expense $17.000 X = $110.000 LO 5 EXERCISE 12-8 DIVIDENDS ON THE STATEMENT OF CASH FLOWS 1.000 + $285.000 375. 000 Beginning balance Dividends declared Ending balance $20. A 8. A 6.000 30.000 2.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-13 Then. A 2. It is questionable whether or not a stock dividend is a significant noncash activity that should be reported on a supplemental schedule. solve for the amount of dividends paid: Dividends Payable 20. A 9.000 – X = $30. A 4.000 X = $100.000 X = Dividends paid 110.000 + $110. Because a stock dividend does not involve cash. NR 5. D 7. A . D 3. NR 10. LO 6 EXERCISE 12-9 ADJUSTMENTS TO NET INCOME WITH THE INDIRECT METHOD 1. it is not reported on the statement of cash flows. 000/5) = $10. after taking into consideration the need to make necessary expenditures on new plant and equipment.000) 3.5 2. .000. including how the ratio compares with prior years as well as with competitors.000 – $2.000.000 $66.000.000 (2.000 is more than net income of $40. 2007 Cash Provided by Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Decrease in inventory Increase in prepaid rent Increase in accounts payable Decrease in income taxes payable Increase in interest payable Net cash inflow from operating activities $40. It would appear that a ratio of 2.000) 10.000 = 2.000. however.000)/($20. Cash flow adequacy ratio: (Net cash provided by operations – Capital expenditures)/Average annual debt maturing over next five years = ($12. It is deducted on the income statement but it does not require the use of cash. LO 7 EXERCISE 12-11 CASH FLOW ADEQUACY 1. The primary reason that net cash inflow from operating activities of $66.000. The cash flow adequacy ratio gives the user an indication of whether or not the company is generating sufficient cash from its operations to repay its debts.000 is depreciation of $20.000 (4.000/$4.000 (8. Other reasons for the higher amount of net cash inflow from operating activities are the decrease in inventory (the company is not buying as much inventory) and the increase in accounts payable (the company is slowing down payments to its creditors).000.000 2. other factors should be considered.000 20.000) 7.5 is reasonable. Operating activities section of the statement of cash flows: SUFFOLK COMPANY PARTIAL STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.12-14 LO 6 FINANCIAL ACCOUNTING SOLUTIONS MANUAL EXERCISE 12-10 OPERATING ACTIVITIES SECTION—INDIRECT METHOD 1. OI 6. OI 3.000 + $50.5 EXERCISE 12-13 CLASSIFICATION OF ACTIVITIES 1. NR 5. OF LO 3.000 $200. determine the accumulated depreciation on the assets sold so that the book value of those sold can be found: Accumulated Depreciation 200.000 X = $90. OO 8.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-15 MULTI-CONCEPT EXERCISES LO 2. CE 7. IF 10.000 – X = $160. II 3. OF 4. NR 9. IF 5. II LO 3.000 X = Accumulated depreciation on assets sold 50.3 EXERCISE 12-12 CLASSIFICATION OF ACTIVITIES 1. IO 11. IF 8. OI 4. OF 6. OI 9.000 160.000 Beginning balance Depreciation expense Ending balance . OO 2. NR 12.6 EXERCISE 12-14 LONG-TERM ASSETS ON THE STATEMENT OF CASH FLOWS —INDIRECT METHOD First. CE 2. OF 10. IO 7. 000 = $750.000 8.000 X = $20. acquisitions of new patents can be determined: Patents Beginning balance X = Acquisitions 80.000 + X – $8.12-16 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Thus.000 4.000 + X – $150.000 Sale of plant and equipment $500.000 = $92. the entry to record the sale would be Cash Accumulated Depreciation Plant and Equipment Gain on Sale To record sale of plant and equipment at a gain.000 150.000 Liabilities + Owners’ Equity +4.000 Amortization expense .000 –150.000 90.000 Plant and Equipment Beginning balance X = Acquisitions 500.000 Ending balance 92.000 Ending balance 750. Assets +64.000 Similarly.000 $80.000 +90.000 150.000 X = $400.000 = 64. 0001 58. AND BALANCE SHEET 1.000 $150.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-17 These items would appear on the statement of cash flows as follows: Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Amortization expense Gain on sale of plant and equipment $ 200.000 (4.000 $ 70.000 50.000 (400. STATEMENT OF CASH FLOWS (DIRECT METHOD).5 64.000 – $12.000 10.0002 80. Income statement: HANDSOME HOUNDS GROOMING COMPANY INCOME STATEMENT FOR THE YEAR ENDED XX/XX/XX Grooming service revenue Expenses: Rent expense Amortization of patent Other operating expenses Net income 1 2 $100.000) Cash Flows from Investing Activities Sale of plant and equipment Acquisition of plant and equipment Acquisition of patents LO 1.000) (20.000/10 years $80.000 $12.000) EXERCISE 12-15 INCOME STATEMENT.000 .000 8.000 – $10. 0002 $ 140.000 Cash Flows from Investing Activities Down payment on patent $ (20.000 $40.000) $ 30. beginning of year Cash balance.000 $ 78.000) (2.000)3 $ (72. end of year $ 50.000 (20.000 – $10.000)4 Cash Flows from Financing Activities Issuance of common stock Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance.000 .000 – $12.000 $ (12.000 3 4 $80.000) $ 68.0001 30.12-18 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2.000 Supplemental Schedule of Noncash Activities Acquisition of patent in exchange for four-year note 1 2 $150.000) (58. Statement of cash flows: HANDSOME HOUNDS GROOMING COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED XX/XX/XX Cash Flows from Operating Activities Cash receipts from: Cash sales Collections on account Total cash receipts Cash payments for: Rent Security deposit Other operating expenses Total cash payments Net cash provided by operating activities $ 110.000 $100.000 – $40.000 0 $ 78.000 – $10.000 × 20% $ 80. The differences between the two can be reconciled as follows: Net income Add: Amortization of patent Deduct: Security deposit (not yet an expense) Uncollected accounts receivable Net cash flow from operating activities $ 70.0001 $180.000 50.000 $ 80. than it earned in net income. Balance sheet: HANDSOME HOUNDS GROOMING COMPANY BALANCE SHEET AS OF XX/XX/XX Assets Current Assets: Cash (from Part 2. $68.000 10.000 2.000 Net income of $70.000 $180. $70.) Accounts receivable Security deposit Total current assets Long-term Assets: Patent Total Assets Liabilities and Stockholders’ Equity Long-term liabilities: Notes payable Stockholders’ Equity: Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 1 2 $100.000 10. The company generated slightly less cash flow from operations.000 90.000 (2.0002 100.000 – $10.000 $50.000.000 4.000) (10. $78.000.000.000 .CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-19 3.000 less cash dividends of $20.000) $ 68.000 $ 90. ) Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Income taxes payable Short-term notes payable Bonds payable Common stock Retained earnings Total (2) 5 (10) 3 0 100 (35) (2) 2 (10) 25 (50) (26) 0 Explanation Purchase Depreciation expense Issuance Retirement Issuance Net income .12-20 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEMS LO 6 PROBLEM 12-1 STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. (Cr. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Cash flow from operating activities amounted to only $63. The additional cash needed to finance the acquisition was raised by issuing a note for $10. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Decrease in inventory Increase in prepaid rent Increase in accounts payable Decrease in income taxes payable Net cash provided by operating activities $ 26 35 (5) 10 (3) 2 (2) $ 63 Cash Flows from Investing Activities Acquisition of plant and equipment $(100) Cash Flows from Financing Activities Retirement of bonds payable Issuance of short-term notes payable Issuance of common stock Net cash provided by financing activities Net increase (decrease) in cash Cash balance. 2007 $ (25) 10 50 $ 35 $ (2) 10 $ 8 2.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-21 Statement of cash flows: CHRISMAN COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. December 31. while the company spent $100. Chrisman did not generate enough cash from its operations to pay for its investing activities.000 to acquire plant and equipment.000.000 and issuing common stock for $50. December 31. 2006 Cash balance.000. . No. 12-22 LO 8 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEM 12-2 STATEMENT OF CASH FLOWS USING A WORK SHEET—INDIRECT METHOD (Appendix) 1. Issuance of common stock. 3 Proceeds from note. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Income tax payable Short-term notes payable Bonds payable Common stock Retained earnings Totals Net increase (decrease) in cash 1 Balances 12/31/07 12/31/06 Changes 8 20 15 9 75 400 10 15 25 6 75 300 (2) 5 (10) 3 – 1001 (65) (12) (3) (30) (10) (5) (35)2 (2) 2 (35) (75) (200) (137) 0 (25) (100) (150) (111) 0 (10)3 254 (50)5 (26)6 0 Purchase of equipment. Cash Inflows (Outflows) Operating Investing Financing (5) 10 (3) (100) 35 2 (2) 10 (25) 50 26 63 (100) (2) 4 Retirement of bonds. 6 Net income. 2 Depreciation expense. 5 35 . . 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Decrease in inventory Increase in prepaid rent Increase in accounts payable Decrease in income taxes payable Net cash provided by operating activities $ 26 35 (5) 10 (3) 2 (2) $ 63 Cash Flows from Investing Activities Acquisition of plant and equipment $(100) Cash Flows from Financing Activities Retirement of bonds payable Issuance of short-term notes payable Issuance of common stock Net cash provided by financing activities Net increase (decrease) in cash Cash balance.000. Cash flow from operating activities amounted to only $63. while the company spent $100. Statement of cash flows: CHRISMAN COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2006 Cash balance. 2007 $ (25) 10 50 $ 35 $ (2) 10 $ 8 3. The additional cash needed to finance the acquisition was raised by issuing a note for $10. No. Chrisman did not generate enough cash from its operations to pay for its investing activities.000. December 31.000 to acquire plant and equipment.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-23 2. December 31.000 and issuing common stock for $50. 250 Cost of goods sold 700 Operating expenses 150 Interest expense Income tax expense Net income 25 150 $ 225 Adjustment Cash Flows $1. (Cr. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.12-24 FINANCIAL ACCOUNTING SOLUTIONS MANUAL LO 5 PROBLEM 12-3 STATEMENT OF CASH FLOWS—DIRECT METHOD 1.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings (38) 50 30 (10) 150 200 (50) 18 (5) 20 (50) (150) (165) Total Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) Issuance of common stock (c) 60 Dividends (a) (225) Net income 0 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Amount $1.200 $ 700 + Increase in inventory 30 + Decrease in accounts payable 18 Cash payments $ 748 $ 150 – Decrease in prepayments (10) – Depreciation expense (50) – Increase in accrued liabilities (5) Cash payments $ 85 $ 25 No interest payable 0 Cash payments $ 25 $ 150 + Decrease in income tax payable 20 Cash paid for taxes $ 170 Net cash flow from operations $ 172 .250 – Increase in accounts receivable (50) Cash collected $1. Memorandum to the president: TO: President of Peoria Corp.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-25 Statement of cash flows: PEORIA CORP. cash decreased during 2007.000 at yearend.028) $ 172 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $ (150) (200) $ (350) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net decrease in cash Cash balance. 2008 SUBJECT: Cash flows You recently expressed concern that in spite of the profitable year according to the income statement. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections from customers Cash payments for: Inventory Operating expenses Interest Income taxes Total cash payments Net cash provided by operating activities $ (748) (85) (25) (170) $(1. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. there was a concern about the decrease in the company’s cash balance during 2007 to $52. 2007 $ 1.000 minimum balance at all times. December 31. Furthermore.200 $ $ $ $ 50 150 (60) 140 (38) 90 52 2. December 31. 2006 Cash balance. FROM: Student’s name DATE: January 20. My thoughts and a copy of the 2007 statement of cash flows follow. . given that existing loan covenants require a $50. taxes payable was reduced by $20. These were only partially offset by the sale of additional stock for $150. Finally.000 to acquire new land. and equipment. and accounts payable was reduced by $18. Also.000 even though sales were $1.000. Our cash flow should improve in future years without the need to invest so heavily in new property.000. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Similarly. We can also improve our operating cash flow by accelerating the collection of receivables as much as possible. Similarly.12-26 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Although net income on an accrual basis was $225. a further drain on cash. resulting in a further drain on cash.200. inventory was increased by $30. One of the reasons is that cash collections were only $1. Finally. plant. LO 6 PROBLEM 12-4 STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. net cash flow from operating activities was only $172.000 during the period.000 and the issuance of additional notes in the amount of $50.000.000.000 was spent on new plant and equipment and another $150. we should be able to reduce the amount of inventory on hand at any one time and over the long run reduce the cash paid for inventory purchases.000. two major acquisitions were made during the year: $200.000.000.250. cash dividends amounted to $60.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (38) 50 30 (10) 150 200 (50) 18 (5) 20 (50) (150) (165) 0 Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) Issuance of common stock (c) 60 Dividends (a) (225) Net income . (Cr. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. FROM: Student’s name DATE: January 20. 2008 SUBJECT: Cash flows You recently expressed concern regarding the decrease in cash during 2007 in spite of the profitable year shown on the income statement. 2006 Cash balance. My thoughts and a copy of the 2007 statement of cash flows follow.000 minimum balance at all times. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Increase in inventories Decrease in prepayments Decrease in accounts payable Increase in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities $ 225 50 (50) (30) 10 (18) 5 (20) $ 172 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $(150) (200) $(350) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net decrease in cash Cash balance.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-27 Statement of cash flows: PEORIA CORP. December 31. December 31. Memorandum to the president: TO: President of Peoria Corp. 2007 $ 50 150 (60) $ 140 $ (38) 90 $ 52 2. given that existing loan covenants require a $50. there was a concern about the decrease in the company’s cash balance during 2007 to $52. Furthermore. .000 at year-end. Accounts payable was reduced by $18. and equipment.000 was spent on new plant and equipment and another $150. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Accrued liabilities Income tax payable Long-term loan payable Common stock Retained earnings Totals Net increase (decrease) in cash 1 Balances 12/31/07 12/31/06 Changes 52 180 230 15 750 700 90 130 200 25 600 500 (38) 50 30 (10) 1501 2002 (250) (130) (68) (90) (200) (148) (63) (110) (50)3 18 (5) 20 (350) (550) (489) (300) (400) (324) (50)4 (150)5 606 (225)7 0 0 Purchase of land. changes in various noncash working capital accounts resulted in net cash flow from operating activities of only $172.000.000 and the issuance of additional notes in the amount of $50. two major acquisitions were made during the year: $200.000. 6 140 . we should be able to reduce the amount of inventory on hand at any one time and over the long run reduce the cash paid for inventory purchases. Finally. Dividends.000.000 less was collected in cash than the sales of the period. 3 Depreciation expense. a further drain on cash. Finally. 2 Purchase of plant and equipment. Our cash flow should improve in future years without the need to invest so heavily in new property. 7 Net income.000 to acquire new land. Similarly. These were only partially offset by the sale of additional stock for $150. plant. cash dividends amounted to $60. 4 Proceeds from bank loan. both resulting in a drain on cash.12-28 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Although net income on an accrual basis was $225.000. $50. LO 8 PROBLEM 12-5 STATEMENT OF CASH FLOWS USING A WORK SHEET—INDIRECT METHOD (Appendix) 1.000. 0 Cash Inflows (Outflows) Operating Investing Financing (50) (30) 10 (150) (200) 50 (18) 5 (20) 50 150 (60) 225 172 (350) (38) 5 Issuance of common stock.000 and taxes payable by $20. For example. We can also improve our operating cash flow by accelerating the collection of receivables as much as possible. 2006 Cash balance. Statement of cash flows: PEORIA CORP. My thoughts and a copy of the 2007 statement of cash flows follow. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. December 31. there was a concern about the decrease in the company’s cash balance during 2007 to $52. given that existing loan covenants require a $50. Furthermore. .000 minimum balance at all times. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the decrease in cash during 2007 in spite of the profitable year shown on the income statement.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-29 2. December 31. FROM: Student’s name DATE: January 20. Memorandum to the president: TO: President of Peoria Corp. 2007 $ 50 150 (60) $ 140 $ (38) 90 $ 52 3. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Increase in inventories Decrease in prepayments Decrease in accounts payable Increase in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities $ 225 50 (50) (30) 10 (18) 5 (20) $ 172 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $(150) (200) $(350) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net decrease in cash Cash balance.000 at year-end. 12-30 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Although net income on an accrual basis was $225. (Cr. Accounts payable was reduced by $18. both resulting in a drain on cash.000 and taxes payable by $20. two major acquisitions were made during the year: $200. changes in various noncash working capital accounts resulted in net cash flow from operating activities of only $172. Similarly. We can also improve our operating cash flow by accelerating the collection of receivables as much as possible. Finally.000. These were only partially offset by the sale of additional stock for $150.000.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term bank loan payable Common stock Retained earnings Total 15 (25) (50) 10 75 70 (70) (25) 10 (5) (90) (50) 135 0 Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) Issuance of common stock (c) 35 Dividends (a) 100 Net loss . cash dividends amounted to $60. $50. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. a further drain on cash. plant.000. For example. Our cash flow should improve in future years without the need to invest so heavily in new property.000 less was collected in cash than the sales of the period.000 was spent on new plant and equipment and another $150.000 and the issuance of additional notes in the amount of $50.000 to acquire new land.000. we should be able to reduce the amount of inventory on hand at any one time and over the long run reduce the cash paid for inventory purchases. Finally. and equipment. LO 5 PROBLEM 12-6 STATEMENT OF CASH FLOWS—DIRECT METHOD 1.000. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2006 Cash balance. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections on account Cash payments for: Inventory Operating expenses Interest Total cash payments Net cash provided by operating activities $(325) (130) (15) $(470) $ 55 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $ (75) (70) $(145) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-31 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Amount $ 500 Cost of goods sold 400 Operating expenses 180 Interest expense Net income (loss) 20 $(100) Adjustment Cash Flows $500 + Decrease in accounts receivable 25 Cash collected $525 $400 – Decrease in inventory (50) – Increase in accounts payable (25) Cash payments $325 $180 + Increase in prepayments 10 – Depreciation expense (70) + Decrease in accrued liabilities 10 Cash payments $130 $ 20 – Increase in interest payable (5) Cash payments $ 15 Net cash flow from operations $ 55 Statement of cash flows: ASTRO INC. December 31. 2007 $ 90 50 (35) $ 105 $ 15 80 $ 95 $ 525 . December 31. . Further. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in view of the net increase in cash during the year. In fact. Finally. Operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. Memorandum to the president: TO: President of Astro Inc. FROM: Student’s name DATE: January 20. Astro was able to generate a significant amount of cash from operations even though we incurred the large net loss of $100. during 2007 we actually added to our base of long-term assets.000. but without a corresponding effect on cash flow. including how our competitors are doing in this area. along with a copy of the 2007 statement of cash flows for your reference. the decrease in accounts receivable indicates that we collected more cash from our customers during the year than the amount of sales to them. One reason for the difference between cash generated from operations and the net loss was the large amount of depreciation expense on the income statement.12-32 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2. I look forward to hearing from you before moving forward with any actions. although this depends on many factors. A significant portion of the operating expenses is the depreciation of $70. the combined effect of a reduction in inventory and an increase in the amounts owed suppliers (accounts payable) added to the cash generated. we cannot reduce the amount of this expense unless we decide to sell fixed assets. This noncash expense reduced net income. The gross profit percentage of 20% appears reasonable. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already).000. I would recommend that we explore ways to reduce our other operating expenses. Following are my thoughts. ) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term bank loan payable Common stock Retained earnings Total 15 (25) (50) 10 75 70 (70) (25) 10 (5) (90) (50) 135 0 Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) Issuance of common stock (c) 35 Dividends (a) 100 Net loss . (Cr. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 6 12-33 PROBLEM 12-7 STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. December 31. 2006 Cash balance. December 31.12-34 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: ASTRO INC. 2007 (AMOUNTS IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Decrease in inventories Increase in prepayments Increase in accounts payable Decrease in other accrued liabilities Increase in interest payable Net cash provided by operating activities $(100) 70 25 50 (10) 25 (10) 5 $ 55 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $ (75) (70) $(145) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2007 $ 90 50 (35) $ 105 $ 15 80 $ 95 . Following are my thoughts. A significant portion of the operating expenses is the depreciation of $70. FROM: Student’s name DATE: January 20. Memorandum to the president: TO: President of Astro Inc. including how our competitors are doing in this area. along with a copy of the 2007 statement of cash flows for your reference. the decrease in accounts receivable indicates that we collected more cash from our customers during the year than the amount of sales to them.000. Finally. . during 2007 we actually added to our base of long-term assets. Operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. The gross profit percentage of 20% appears reasonable. One reason for the difference between cash generated from operations and the net loss was the large amount of depreciation expense on the income statement. I look forward to hearing from you before moving forward with any actions. In fact. Further. although this depends on many factors. we cannot reduce the amount of this expense unless we decide to sell fixed assets. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in spite of the net increase in cash during the year. This noncash expense reduced reported net income without a corresponding effect on cash flow. I would recommend that we explore ways to reduce our other operating expenses. the combined effect of a reduction in inventory and an increase in the amounts owed suppliers (accounts payable) added to the cash generated.000. Astro was able to generate a significant amount of cash from operations even though we incurred the large net loss of $100. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already).CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-35 2. 12-36 LO 8 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEM 12-8 STATEMENT OF CASH FLOWS USING A WORK SHEET—INDIRECT METHOD (APPENDIX) 1. 7 Cash dividends paid. 3 Depreciation expense. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term loan payable Common stock Retained earnings Totals Net increase (decrease) in cash 1 Balances 12/31/07 12/31/06 Cash Inflows (Outflows) Operating Investing Financing 95 50 100 55 475 870 80 75 150 45 400 800 15 (25) (50) 10 751 702 (370) (125) (300) (100) (70)3 (25) 70 25 (35) (15) (45) (10) 10 (5) (10) 5 (340) (450) (310) (250) (400) (445) (90)4 (50)5 1006 357 0 0 Purchase of land. 4 Proceeds from borrowings. 2 Changes 0 25 50 (10) (75) (70) 90 50 (100) 55 15 (145) (35) 105 . 6 Net loss. Purchase of plant and equipment. 5 Issuance of common stock. . December 31. 2007 (AMOUNTS IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Decrease in inventories Increase in prepayments Increase in accounts payable Decrease in other accrued liabilities Increase in interest payable Net cash provided by operating activities $(100) 70 25 50 (10) 25 (10) 5 $ 55 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $ (75) (70) $(145) Cash Flows from Financing Activities Additional long-term borrowings Issuance of common stock Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance. Statement of cash flows: ASTRO INC. FROM: Student’s name DATE: January 20. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in spite of the net increase in cash during the year. 2006 Cash balance. Memorandum to the president: TO: President of Astro Inc. December 31. 2007 $ 90 50 (35) $ 105 $ 15 80 $ 95 3. along with a copy of the 2007 statement of cash flows for your reference. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. Following are my thoughts.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-37 2. 100 issued for land e. depreciation expense no change given i. A significant portion of the operating expenses is the depreciation of $70. (decrease) to balance the total changes in the accounts.) Cash Accounts receivable Land Plant and equipment Accumulated depreciation Investments Current liabilities Bonds payable Common stock Retained earnings Total without cash ? 10 100 200 (20) 0 0 (250) 50 (45) Explanation h. bonds were exchanged for land—a noncash activity f. the change in cash must be 45 cr. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already).000. during 2007 we actually added to our base of long-term assets. 150 issued for cash and g. This noncash expense reduced reported net income without a corresponding effect on cash flow. One reason for the difference between cash generated from operations and the net loss was the large amount of depreciation expense on the income statement. no change d. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. we cannot reduce the amount of this expense unless we decide to sell fixed assets. Operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. Furthermore. net income of (70) 45 dr. . purchase b. LO 6 PROBLEM 12-9 YEAR-END BALANCE SHEET AND STATEMENT OF CASH FLOWS —INDIRECT METHOD 1. although this depends on many factors. sales exceeded cash collections g.12-38 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Astro was able to generate a significant amount of cash from operations even though we incurred the large net loss of $100.000. Finally. common stock retired c. including how our competitors are doing in this area. I recommend that we explore ways to reduce our other operating expenses. the combined effect of a reduction in inventory and an increase in the amounts owed suppliers (accounts payable) added to the cash generated. The gross profit percentage of 20% appears reasonable. In fact. dividends of 25 a. I look forward to hearing from you before moving forward with any actions. the decrease in accounts receivable indicates that we collected more cash from our customers during the year than the amount of sales to them. Thus. (Cr. December 31.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-39 Statement of Cash Flows: TERRIER COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2006 Cash balance. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Net cash provided by operating activities $ 70 20 (10) $ 80 Cash Flows from Investing Activities Acquisitions of plant and equipment $(200) Cash Flows from Financing Activities Payment of cash dividends Issuance of additional bonds Acquisition and retirement of stock Net cash provided by financing activities Net increase (decrease) in cash Cash balance. December 31. 2007 $ (25) 150 (50) $ 75 $ (45) 140 $ 95 Schedule of Noncash Investing and Financing Activities Acquisition of land in exchange for bonds $ 100 . 030 $1. Terrier issued $150.000 in plant and equipment.12-40 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2. The money raised from this issuance was needed to help finance the addition of $200.290 $ $150 + $20 $300 + $250 7 $400 – $50 8 $140 + $45 3. 2007 (IN THOUSANDS OF DOLLARS) Cash Accounts receivable Total current assets Land Plant and equipment Accumulated depreciation Investments Total long-term assets Total assets Current liabilities Bonds payable Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 1 5 2 6 $140 – $45 $155 + $10 3 $300 + $100 4 $500 + $200 951 1652 $ 260 $ 4003 7004 (170)5 100 $1. Balance sheet: TERRIER COMPANY BALANCE SHEET DECEMBER 31. In addition to the bonds issued in exchange for land.290 $ 205 $ 5506 $ 3507 1858 $ 535 $1.000 of bonds for cash. . Balance sheet: TERRIER COMPANY BALANCE SHEET DECEMBER 31.290 Cash Accounts receivable Total current assets Land Plant and equipment Accumulated depreciation Investments Total long-term assets Total assets Current liabilities Bonds payable Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 1 $140 – $45 2 $155 + $10 3 $300 + $100 4 $500 + $200 $ 5 $150 + $20 $300 + $250 7 $400 – $50 8 $140 + $45 6 .CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 8 12-41 PROBLEM 12-10 STATEMENT OF CASH FLOWS USING A WORK SHEET— INDIRECT METHOD (Appendix) 1.030 $1. 2007 (IN THOUSANDS OF DOLLARS) 951 1652 $ 260 $ 4003 7004 (170)5 100 $1.290 $ 205 $ 5506 $ 3507 1858 $ 535 $1. 4 Proceeds from issuance of additional bonds. Purchase of plant and equipment. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Balances 12/31/07 12/31/06 Changes Cash Accounts receivable Land Plant and equipment Accumulated depreciation Investments Current liabilities Bonds payable 95 165 400 700 140 155 300 500 (45) 10 1001 2002 (170) 100 (205) (550) (150) 100 (205) (300) Common stock Retained earnings (350) (185) (400) (140) (20)3 0 0 (100)1 (150)4 505 (70)6 257 0 Totals Net increase (decrease) in cash 1 0 0 Cash Inflows (Outflows) Operating Investing Financing (10) (200) 20 150 (50) 70 80 (45) Acquisition of land in exchange for bonds (noncash transaction). 3 Depreciation expense. 5 Acquisition and retirement of common stock. 7 Cash dividends paid. 6 Net income. 2 (200) (25) 75 .12-42 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 1. 2007 $ (25) 150 (50) $ 75 $ (45) 140 $ 95 Schedule of Noncash Investing and Financing Activities Acquisition of land in exchange for bonds $ 100 4. Terrier issued $150. December 31.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-43 3. December 31. In addition to the bonds issued in exchange for land. . 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Net cash provided by operating activities $ 70 20 (10) $ 80 Cash Flows from Investing Activities Acquisitions of plant and equipment $(200) Cash Flows from Financing Activities Payment of cash dividends Issuance of additional bonds Acquisition and retirement of stock Net cash provided by financing activities Net increase (decrease) in cash Cash balance.000 of bonds for cash. The money raised from this issuance was needed to help finance the addition of $200. Statement of cash flows: TERRIER COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.000 in plant and equipment. 2006 Cash balance. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.12-44 FINANCIAL ACCOUNTING SOLUTIONS MANUAL MULTI-CONCEPT PROBLEMS LO 4. Repayment Issuance of common stock 7 Dividends (33) Net income .5 PROBLEM 12-11 STATEMENT OF CASH FLOWS—DIRECT METHOD 1.) Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (9) 15 (15) (4) 80 150 (60) (7) (6) 2 30 (150) (26) 0 Explanation Purchase Purchase of 195 and sale of (45) 15 sale of asset (cost of 45 less book value of 30) and (75) depreciation. (Cr. CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-45 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Cost of goods sold General and administrative Amount $550 350 Cash Flows $550 – Increase in accounts receivable (15) Cash collected $535 $350 – Decrease in inventory (15) – Increase in accounts payable (7) Cash payments $328 55 Depreciation expense Loss on sale of plant assets Interest expense 75 Income tax expense 17 Net income Adjustment 5 15 $ 33 – Decrease in prepaid rent – Increase in accrued liabilities Cash payments No cash flow effect Not an operating activity No interest payable Cash payments + Decrease in income taxes payable Cash payments Net cash flow from operations $ 55 (4) (6) $ 45 $ 0 $ 0 $ 15 $ 17 2 $ 19 $128 . 12-46 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: GLENDIVE CORP. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED JUNE 30, 2007 (IN THOUSANDS OF DOLLARS) Cash Flow from Operating Activities Cash collections from customers Cash payments for: Inventory General and administrative Interest Income taxes Total cash payments Net cash provided by operating activities $(328) (45) (15) (19) $(407) $ 128 Cash Flow from Investing Activities Sale of plant assets Acquisition of land Acquisition of new plant assets Net cash used by investing activities $ 25 (80) (195) $(250) Cash Flow from Financing Activities Repayment of long-term loan Issuance of additional stock Payment of cash dividends Net cash provided by financing activities Net decrease in cash Cash balance, June 30, 2006 Cash balance, June 30, 2007 $ 535 $ (30) 150 (7) $ 113 $ (9) 40 $ 31 2. It is true that the amount of cash flow from operating activities is the same regardless of which method (direct or indirect) is used. The two methods, however, differ in the information reported to the reader of the statement of cash flows. The direct method shows the actual inflows and outflows of cash, while the indirect method arrives at the same amount by reconciling net income to cash flow from operating activities. CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 4,6 12-47 PROBLEM 12-12 STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. (Cr.) Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (9) 15 (15) (4) 80 150 (60) (7) (6) 2 30 (150) (26) 0 Explanation Purchase Purchase of 195 and sale of (45) 15 sale of asset (cost of 45 less book value of 30) and (75) depreciation; Repayment Issuance of common stock 7 Dividends (33) Net income 12-48 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: GLENDIVE CORP. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED JUNE 30, 2007 (IN THOUSANDS OF DOLLARS) Cash Flow from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Loss on sale of plant assets Increase in accounts receivable Decrease in inventory Decrease in prepaid rent Increase in accounts payable Increase in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities $ 33 75 5* (15) 15 4 7 6 (2) $ 128 *Book value $30 – proceeds $25 Cash Flow from Investing Activities Sale of plant assets Acquisition of land Acquisition of new plant assets Net cash used by investing activities Cash Flow from Financing Activities Repayment of long-term loan Issuance of additional stock Payment of cash dividends Net cash provided by financing activities Net decrease in cash Cash balance, June 30, 2006 Cash balance, June 30, 2007 $ 25 (80) (195) $(250) $ (30) 150 (7) $ 113 $ (9) 40 $ 31 2. It is true that the amount of cash flow from operating activities is the same regardless of which method (direct or indirect) is used. The two methods, however, differ in the information reported to the reader of the statement of cash flows. The direct method shows the actual inflows and outflows of cash, while the indirect method arrives at the same amount by reconciling net income to cash flow from operating activities. 5 12-49 PROBLEM 12-13 STATEMENT OF CASH FLOWS—DIRECT METHOD 1.) Cash U. (Cr. the U. 2.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 2.S. the six-month Treasury bills are properly classified as current assets. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Instead. because they have a maturity in excess of three months. Treasury bills Accounts receivable Inventory Land Buildings and equipment Accumulated depreciation Patents Accounts payable Taxes payable Notes payable Term notes payable Common stock Retained earnings Total (40) (50) 110 120 10 110 (60) (25) (60) (5) 0 0 (130) 20 0 Explanation Sale Purchase Purchase Depreciation expense Amortization (130) Stock dividend (110) Net income 130 Stock dividend .S. No. Treasury bills are not cash equivalents. 298 $1.408 1. . light.408 – Increase in accounts receivable (110) Cash collected $2.160 No payable $ 850 No payable $ 75 No cash flow effect No payable* $ 18 No cash flow effect No payable $ 10 No payable $ 55 $ 105 – Increase in income tax payable* (5) Cash payments $ 100 Net cash flow from operations $ 30 *The current liability Taxes Payable is assumed to relate entirely to income taxes rather than property taxes.100 + Increase in inventory 120 – Increase in accounts payable (60) Cash payments $1.12-50 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Cost of goods sold Amount $2.100 Salaries & benefits 850 Heat. and power 75 Depreciation 60 Property taxes 18 Patent amortization 25 Miscellaneous expenses 10 Interest expense 55 Income tax expense 105 Net income $ 110 Adjustment Cash Flows $2. . it should be shown on a supplemental schedule of noncash activities. and power Property taxes Miscellaneous activities Interest Income taxes Total cash payments Net cash provided by operating activities Cash Flows from Investing Activities Sale of U.298 $ (850) (75) (18) (10) (55) (100) $(2. If it is determined to be significant. 2007 $ 2. Treasury bills Acquisition of land Acquisition of buildings and equipment Net cash used by investing activities Net decrease in cash Cash balance. light. December 31.268) $ 30 $ 50 (10) (110) $ (70) $ (40) 100 $ 60 Note: It is questionable whether or not the stock dividend is a significant noncash activity. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections from customers Cash payments for: Inventory (1. December 31.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-51 Statement of cash flows: LANG COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.160) Salaries and benefits Heat. 2006 Cash balance.S. 000) 0 21.000) 0 (500) 2.000 200 0 50. Account changes Dr (Cr) and Explanations: Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Income taxes payable Short-term notes payable Bonds payable Common stock Retained earnings Total 2.12-52 FINANCIAL ACCOUNTING SOLUTIONS MANUAL A L T E R N AT E P R O B L E M S LO 6 PROBLEM 12-1A STATEMENT OF CASH FLOWS—INDIRECT METHOD 1.000) 1.000 (2.000 (50.800 0 Purchase Depreciation expense Repayment Issuance Net loss .500 (25. 000 10.500 $(50.000) (200) 500 $ 29.000 2.800) 50.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-53 Statement of cash flows: MADISON COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.000 $ 12.800 and the net cash flow from operating activities of $29.500. 2006 Cash balance.000) $ 25. 2007 $(21.000 (1. Madison was able to increase its cash balance even though it incurred a net loss primarily because it had one very large expense that did not require the use of any cash: depreciation of $50. 2007 Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in inventory Increase in prepaid rent Increase in income taxes payable Net cash provided by operating activities Cash Flows from Investing Activities Acquisition of plant and equipment Cash Flows from Financing Activities Issuance of bonds payable Repayment of short-term notes payable Net cash provided by financing activities Net increase in cash Cash balance. December 31. This one adjustment is the major difference between the net loss of $21. December 31. .500 $ 2.000 2.000.000 (2.500) $ 22. 12-54 LO 8 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEM 12-2A STATEMENT OF CASH FLOWS USING A WORK SHEET— INDIRECT METHOD (Appendix) 1. 3 Retirement of note.0 (2.0 21.0 (0. Statement of cash flows work sheet (all amounts are in thousands of dollars) Accounts Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Income tax payable Short-term notes payable Bonds payable Common stock Retained earnings Totals Net increase (decrease) in cash 1 Purchase of equipment.0 1.0) (75.5) (50.0) (18.0 10.0 (1.0) (40.0) 1.5 . 2 Balances 12/31/07 12/31/06 Changes 12.0 7.85 0.0) (100.0)2 0.2) (50) 50.0) (2.0 Cash Inflows (Outflows) Operating Investing Financing 2.0 75.0 10.5 (2.0 (22.0)4 0. 4 Issuance of bonds.7) 0.53 (25.0 0.0) (15.0 (50) 22.0 1.0 0.0 8.0) (15.0) (100.0 12.5) 25.5 2.0 2.5) (20.5) (25.8) 29.0 (21. 5 Net loss.2 75.5) 0.0) (50.01 (75.2 0.0 150.0 50.0 2.0) (0. Depreciation expense.0) (2.0 200. 000 (2.000) Cash Flows from Financing Activities Issuance of bonds payable Repayment of short-term notes payable Net cash provided by financing activities Net increase (decrease) in cash Cash balance. December 31.000 2. Statement of cash flows: MADISON COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.000 10.000) (200) 500 $ 29. December 31.000.000 (1.000 $ 12. 2007 $(21.500) $ 22.500 $ 2.800) 50. Madison was able to increase its cash balance even though it incurred a net loss primarily because it had one very large expense that did not require the use of any cash: depreciation of $50. 2006 Cash balance.800 and the net cash flow from operating activities of $29.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-55 2. This one adjustment is the major difference between the net loss of $21.000 3. 2007 Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in inventory Increase in prepaid rent Increase in income taxes payable Net cash provided by operating activities Cash Flows from Investing Activities Acquisition of plant and equipment (50.500. .500 $ $ 25. 12-56 LO 5 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEM 12-3A STATEMENT OF CASH FLOWS—DIRECT METHOD 1.400 Operating expenses 460 Interest expense 100 Income tax expense 150 Net income $ 350 Adjustment Cash Flows $2. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.400 $ 460 – Decrease in prepayments (10) – Depreciation expense (25) + Decrease in accrued liabilities 5 Cash payments $ 430 $ 100 No interest payable 0 Cash payments $ 100 $ 150 + Decrease in income tax payable 35 Cash paid for taxes $ 185 Net cash flow from operations $ 430 .) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (70) (85) 20 (10) (100) 250 (25) (20) 5 35 50 (50) (0) Explanation Sale (c) Purchase (c) Depreciation expense (b) Retirement of bank loan (d) Issuance of common stock (d) 350 Dividends (a) (350) Net income 0 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Cost of goods sold Amount $2.460 1. (Cr.460 + Decrease in accounts receivable 85 Cash collected $2.400 + Increase in inventory 20 – Increase in accounts payable (20) Cash payments $1.545 $1. 000. net cash flow from operating activities was even higher. $250.000. December 31.000 minimum balance at all times.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-57 Statement of cash flows: WABASH CORP. However. $430. December 31.545 $(1. Furthermore. My thoughts and a copy of the 2007 statement of cash flows follow. and this drain on cash was only partially offset by the sale of land for $100. which .000. 2006 Cash balance. Although net income on an accrual basis was $350. Memorandum to the president: TO: President of Wabash Corp. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections from customers Cash payments for: Inventory Operating expenses Interest Income taxes Total cash payments Net cash provided by operating activities Cash Flows from Investing Activities Sale of land Acquisition of plant and equipment Net cash used by investing activities Cash Flows from Financing Activities Repayment of long-term borrowings Issuance of common stock Cash dividends paid Net cash used by financing activities Net decrease in cash Cash balance.400) (430) (100) (185) $(2.000. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. Additional stock was sold for $50. given that existing loan covenants require a $100. there was a concern regarding the decline in our cash balance during the year. the favorable cash flow during the year was used for various purposes. 2007 $ 2. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the decrease in cash during 2007 in spite of the profitable year shown on the income statement. significant additions were made to plant and equipment.115) $ 430 $ 100 (250) $ (150) $ (50) 50 (350) $ (350) $ (70) 210 $ 140 2. FROM: Student’s name DATE: January 20. First.000. (Cr.000 were paid during the year. for the drain on cash is the size of our dividend payments.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (70) (85) 20 (10) (100) 250 (25) (20) 5 35 50 (50) (0) 0 Explanation Sale (c) Purchase (c) Depreciation expense (b) Retirement of bank loan (d) Issuance of common stock (d) 350 Dividends (a) (350) Net income . plant. which is equal to the income of the period.12-58 FINANCIAL ACCOUNTING SOLUTIONS MANUAL was the amount needed to repay an existing bank loan. Dividends of $350. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Our cash flow should improve in future years without the need to invest so heavily in new property. I recommend that we limit the amount paid in any one year for dividends as a way to keep our cash balance at a sufficient level to satisfy the bank. and equipment. LO 6 PROBLEM 12-4A STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. The major reason. At the same time. however. December 31. However. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. FROM: Student’s name DATE: January 20.000. given that existing loan covenants require a $100. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the decrease in cash during 2007 in spite of the profitable year shown on the income statement. Although net income on an accrual basis was $350.000. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in inventories Decrease in prepayments Increase in accounts payable Decrease in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities $ 350 25 85 (20) 10 20 (5) (35) $ 430 Cash Flows from Investing Activities Sale of land Acquisition of plant and equipment Net cash used by investing activities $ 100 (250) $(150) Cash Flows from Financing Activities Repayment of long-term borrowings Issuance of common stock Cash dividends paid Net cash used by financing activities Net decrease in cash Cash balance.000 minimum balance at all times. Memorandum to the president: TO: President of Wabash Corp. there was a concern regarding the decline in our cash balance during the year. Furthermore.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-59 Statement of cash flows: WABASH CORP. $430. net cash flow from operating activities was even higher. 2007 $ (50) 50 (350) $(350) $ (70) 210 $ 140 2. My thoughts and a copy of the 2007 statement of cash flows follow. December 31. the favorable cash flow . 2006 Cash balance. plant. and equipment. significant additions were made to plant and equipment.000 were paid during the year. First. (350) . 4 Retirement of bank loan. for the drain on cash is the size of our dividend payments. $250. which is equal to the income of the period. Our cash flow should improve in future years without the need to invest so heavily in new property.000. Purchase of plant and equipment. LO 8 PROBLEM 12-5A STATEMENT OF CASH FLOWS USING A WORK SHEET— INDIRECT METHOD (Appendix) 1. Cash Inflows (Outflows) Operating Investing Financing Issuance of common stock. and this drain on cash was only partially offset by the sale of land for $100. At the same time.000. Additional stock was sold for $50. Dividends of $350. I recommend that we limit the amount paid in any one year for dividends as a way to keep our cash balance at a sufficient level to satisfy the bank.000. Dividends. however. The major reason. 7 Net income. 3 Depreciation expense.12-60 FINANCIAL ACCOUNTING SOLUTIONS MANUAL during the year was used for various purposes. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Accrued liabilities Income tax payable Long-term loan payable Common stock Retained earnings Totals Net increase (decrease) in cash Balances 12/31/07 12/31/06 Changes 140 60 200 15 600 850 210 145 180 25 700 600 (70) (85) 20 (10) (100)1 2502 (225) (140) (50) (80) (200) (120) (55) (115) (25)3 (20) 5 35 (200) (450) (720) (250) (400) (720) 504 (50)5 3506 (350)7 0 0 0 85 (20) 10 100 (250) 25 20 (5) (35) (50) 50 (350) 350 430 (150) (70) 1 5 2 6 Sale of land. which was the amount needed to repay an existing bank loan. Statement of cash flows: WABASH CORP. the favorable cash flow . STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.000. net cash flow from operating activities was even higher.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-61 2. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the decrease in cash during 2007 in spite of the profitable year shown on the income statement.000. given that existing loan covenants require a $100. However. Memorandum to the president: TO: President of Wabash Corp. 2006 Cash balance. FROM: Student’s name DATE: January 20.000 minimum balance at all times. December 31. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in inventories Decrease in prepayments Increase in accounts payable Decrease in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities $ 350 25 85 (20) 10 20 (5) (35) $ 430 Cash Flows from Investing Activities Sale of land Acquisition of plant and equipment Net cash used by investing activities $ 100 (250) $(150) Cash Flows from Financing Activities Repayment of long-term borrowings Issuance of common stock Cash dividends paid Net cash used by financing activities Net decrease in cash Cash balance. there was a concern regarding the decline in our cash balance during the year. Although net income on an accrual basis was $350. $430. 2007 $ (50) 50 (350) $(350) $ (70) 210 $ 140 3. December 31. My thoughts and a copy of the 2007 statement of cash flows follow. Furthermore. 000.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term bank loan payable Common stock Retained earnings Total 15 (50) 0 1 100 250 (40) (40) (20) (10) (350) 0 144 0 Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) 84 Dividends (a) 60 Net loss . Our cash flow should improve in future years without the need to invest so heavily in new property. significant additions were made to plant and equipment. LO 5 PROBLEM 12-6A STATEMENT OF CASH FLOWS—DIRECT METHOD 1. however. At the same time.000.000. Additional stock was sold for $50.000 were paid during the year. for the drain on cash is the size of our dividend payments. The major reason. which was the amount needed to repay an existing bank loan. plant. which is equal to the income of the period. and equipment. Dividends of $350. $250. I recommend that we limit the amount paid in any one year for dividends as a way to keep our cash balance at a sufficient level to satisfy the bank. (Cr. First. and this drain on cash was only partially offset by the sale of land for $100. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.12-62 FINANCIAL ACCOUNTING SOLUTIONS MANUAL during the year was used for various purposes. December 31. 2006 Cash balance. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2007 $ 350 (84) $ 266 $ 15 10 $ 25 .CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-63 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Amount $350 Cost of goods sold 150 Operating expenses 250 Interest expense Net income (loss) 10 $(60) Adjustment Cash Flows $350 + Decrease in accounts receivable 50 Cash collected $400 $150 No change in inventory – Increase in accounts payable (40) Cash payments $110 $250 + Increase in prepayments 1 – Depreciation expense (40) – Increase in accrued liabilities (20) Cash payments $191 $ 10 – Increase in interest payable (10) Cash payments $ 0 Net cash flow from operations $ 99 Statement of cash flows: PLUTO INC. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections on account Cash payments for: Inventory Operating expenses Total cash payments (301) Net cash provided by operating activities $ 400 $(110) (191) $ $ 99 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $(100) (250) $(350) Cash Flows from Financing Activities Additional long-term borrowings Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance. December 31. 000. A dividend payment of $84. First. Pluto was able to generate a significant amount of cash from operations even though we incurred a net loss of $60.000 in a year in which we sustained a net loss of $60. our dividends.000. the large decrease in accounts receivable of $50. in the form of land and plant and equipment acquisitions. it is imperative that we cut back. The gross profit percentage of 57% is very strong. Furthermore. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already). I recommend two immediate courses of action.000 had the effect of improving our cash flow for the year. However. we must find ways to reduce our operating expenses. A portion of the operating expenses is the depreciation of $40. the large buildup of our accounts payable by $40. Memorandum to the president: TO: President of Pluto. we cannot reduce the amount of this expense unless we decide to sell fixed assets. I look forward to hearing from you before moving forward with any actions. during 2007 we actually added $350. Finally. . One reason for the difference between cash generated from operations and the net loss was the $40. Following are my thoughts. if not eliminate entirely. along with a copy of the 2007 statement of cash flows for your reference. Inc.000 indicates that we collected more cash from our customers during the year than the amount of sales to them. You will note on the statement of cash flows that these acquisitions were entirely financed with the issuance of a long-term bank loan. In fact. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in spite of the net increase in cash during the year.12-64 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2. until we see an improvement in the bottom line. This noncash expense reduced reported net income without a corresponding effect on cash flow.000 of depreciation expense on the income statement.000 is not prudent. FROM: Student’s name DATE: January 20. Second.000 to our base of long-term assets. operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.) Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term bank loan payable Common stock Retained earnings Total 15 (50) 0 1 100 250 (40) (40) (20) (10) (350) 0 144 0 Explanation Purchase (c) Purchase (c) Depreciation expense (b) Proceeds from bank loan (c) 84 Dividends (a) 60 Net loss . (Cr.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 6 12-65 PROBLEM 12-7A STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. 2007 $ 350 (84) $ 266 $ 15 10 $ 25 . 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in prepayments Increase in accounts payable Increase in other accrued liabilities Increase in interest payable Net cash provided by operating activities $ (60) 40 50 (1) 40 20 10 $ 99 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $(100) (250) $(350) Cash Flows from Financing Activities Additional long-term borrowings Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. December 31. 2006 Cash balance. December 31.12-66 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: PLUTO INC. You will note on the statement of cash flows that these acquisitions were entirely financed with the issuance of a long-term bank loan. However. we cannot reduce the amount of this expense unless we decide to sell fixed assets. during 2007 we actually added $350. The gross profit percentage of 57% is very strong.000 of depreciation expense on the income statement. the large decrease in accounts receivable of $50. operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. Following are my thoughts. One reason for the difference between cash generated from operations and the net loss was the $40. along with a copy of the 2007 statement of cash flows for your reference.000 to our base of long-term assets. I recommend two immediate courses of action. This noncash expense reduced reported net income without a corresponding effect on cash flow. First. the large buildup of our accounts payable by $40. Memorandum to the president: TO: President of Pluto. In fact. Pluto was able to generate a significant amount of cash from operations even though we incurred a net loss of $60. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already). Inc.000 indicates that we collected more cash from our customers during the year than the amount of sales to them.000. until we see an improvement in the bottom line. FROM: Student’s name DATE: January 20.000 had the effect of improving our cash flow for the year. we must find ways to reduce our operating expenses. Finally. it is imperative that we cut back. our dividends. .000 in a year in which we sustained a net loss of $60. if not eliminate entirely. I look forward to hearing from you before moving forward with any actions. A portion of the operating expenses is the depreciation of $40. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in spite of the net increase in cash during the year.000 is not prudent. A dividend payment of $84. in the form of land and plant and equipment acquisitions. Second. Furthermore.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-67 2.000. 6 Cash dividends paid. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Inventory Prepayments Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Interest payable Long-term loan payable Common stock Retained earnings Totals Net increase (decrease) in cash Balances 12/31/07 12/31/06 Changes Cash Inflows (Outflows) Operating Investing Financing 25 30 100 36 300 500 10 80 100 35 200 250 15 (50) 0 1 1001 2502 (90) (50) (50) (10) (40)3 (40) 40 40 (40) (22) (20) (12) (20) (10) 20 10 (450) (300) (39) (100) (300) (183) (350)4 0 605 846 0 0 0 (1) (100) (250) 350 (60) 99 (350) 15 1 4 2 5 Purchase of land.12-68 LO 8 FINANCIAL ACCOUNTING SOLUTIONS MANUAL PROBLEM 12-8A STATEMENT OF CASH FLOWS USING A WORK SHEET— INDIRECT METHOD (Appendix) 1. Net loss. 50 Proceeds from borrowings. 3 Depreciation expense. Purchase of plant and equipment. (84) 266 . One reason for the difference between cash generated from operations and the net loss was the $40. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2006 Cash balance. December 31. FROM: Student’s name DATE: January 20. 2008 SUBJECT: Cash flows You recently expressed concern to me regarding the large loss we sustained during 2007 in spite of the net increase in cash during the year. the large decrease in accounts receivable of $50. Statement of cash flows: PLUTO INC.000 of depreciation expense on the income statement.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-69 2. Memorandum to the president: TO: President of Pluto.000. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net loss Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Decrease in accounts receivable Increase in prepayments Increase in accounts payable Increase in other accrued liabilities Increase in interest payable Net cash provided by operating activities $ (60) 40 50 (1) 40 20 10 $ 99 Cash Flows from Investing Activities Acquisition of land Acquisition of plant and equipment Net cash used by investing activities $(100) (250) $(350) Cash Flows from Financing Activities Additional long-term borrowings Cash dividends paid Net cash provided by financing activities Net increase in cash Cash balance. Inc.000 indicates that we collected more cash . Furthermore. Following are my thoughts. 2007 $ 350 (84) $ 266 $ 15 10 $ 25 3. December 31. along with a copy of the 2007 statement of cash flows for your reference. This noncash expense reduced reported net income without a corresponding effect on cash flow. Pluto was able to generate a significant amount of cash from operations even though we incurred a net loss of $60. we must find ways to reduce our operating expenses. purchase b. the large buildup of our accounts payable by $40. we cannot reduce the amount of this expense unless we decide to sell fixed assets. A portion of the operating expenses is the depreciation of $40. In fact. if not eliminate entirely. operating expenses need to be decreased relative to gross profit if we are to improve our bottom line in the future. (Cr. sales exceeded cash collections g. You will note on the statement of cash flows that these acquisitions were entirely financed with the issuance of a long-term bank loan. note was exchanged for land. Second. LO 6 PROBLEM 12-9A YEAR-END BALANCE SHEET AND STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. Explanation h.000 is not prudent. A dividend payment of $84. First. (decrease) to balance the total changes in the accounts. note was exchanged for land. decrease g. a noncash activity f. the change in cash must be 110 cr.12-70 FINANCIAL ACCOUNTING SOLUTIONS MANUAL from our customers during the year than the amount of sales to them. common stock issued c. . However.) Cash Accounts receivable Land Plant and equipment Accumulated depreciation Investments Current liabilities Long-term note payable ? 15 200 60 (25) 0 20 (200) Bonds payable Common stock Retained earnings 100 (50) (10) Total without cash 110 dr. income of (50) Thus. during 2007 we actually added $350.000 to our base of long-term assets. Finally. The gross profit percentage of 57% is very strong.000 in a year in which we sustained a net loss of $60. in the form of land and plant and equipment acquisitions. until we see an improvement in the bottom line. dividends of 40 a.000. I recommend two immediate courses of action. depreciation expense no change given i. our dividends.000 had the effect of improving our cash flow for the year. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Because this represents the write-off of a sunk cost (the cost of plant and equipment acquired already). it is imperative that we cut back. a noncash activity e bonds retired d. I look forward to hearing from you before moving forward with any actions. CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-71 Statement of cash flows: POODLE COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31, 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Decrease in current liabilities Net cash provided by operating activities $ 50 25 (15) (20) $ 40 Cash Flows from Investing Activities Acquisitions of plant and equipment $ (60) Cash Flows from Financing Activities Payment of cash dividends Retirement of bonds Issuance of common stock Net cash used by financing activities Net increase (decrease) in cash Cash balance, December 31, 2006 Cash balance, December 31, 2007 $ (40) (100) 50 $ (90) $(110) 155 $ 45 Schedule of Noncash Investing and Financing Activities Acquisition of land in exchange for note $ 200 12-72 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2. Balance sheet: POODLE COMPANY BALANCE SHEET DECEMBER 31, 2007 (IN THOUSANDS OF DOLLARS) Cash Accounts receivable Total current assets Land Plant and equipment Accumulated depreciation Investments Total long-term assets Total assets Current liabilities Long-term note payable Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 1 5 2 6 $155 – $110 $140 + $15 3 $100 + $200 4 $700 + $60 451 1552 $ 200 $ 3003 7604 (200)5 125 $ 985 $1,185 $ 3056 $ 200 $ 5507 1308 $ 680 $1,185 $ $175 + $25 $325 – $20 7 $500 + $50 8 $120 + $10 3. Poodle’s cash from operations of $40,000 was insufficient to cover its acquisitions of new plant and equipment of $60,000 and the payment of cash dividends of $40,000. Common stock of $50,000 was issued, but this was more than offset by the $100,000 needed to retire the bonds. The lack of cash from operations to cover acquisitions, pay dividends, and retire the bonds are all responsible for the large decrease in the company’s cash balance at the end of the year. CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 8 12-73 PROBLEM 12-10A STATEMENT OF CASH FLOWS USING A WORK SHEET— INDIRECT METHOD (Appendix) 1. Balance sheet: POODLE COMPANY BALANCE SHEET DECEMBER 31, 2007 (IN THOUSANDS OF DOLLARS) Cash Accounts receivable Total current assets Land Plant and equipment Accumulated depreciation Investments Total long-term assets Total assets Current liabilities Long-term note payable Common stock Retained earnings Total stockholders’ equity Total liabilities and stockholders’ equity 1 $155 – $110 2 $140 + $15 3 $100 + $200 4 $700 + $60 5 $175 + $25 $325 – $20 7 $500 + $50 8 $120 + $10 6 451 1552 $ 200 $ 3003 7604 (200)5 125 $ 985 $ 1,185 $ 3056 $ 200 $ 5507 1308 $ 680 $ 1,185 $ 2 (60) (40) (90) . 3 Depreciation expense. 4 Retirement of bonds payable.12-74 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2. 7 Cash dividends paid. Statement of cash flows work sheet (all amounts are in thousands of dollars): Accounts Cash Accounts receivable Land Plant and equipment Accumulated depreciation Investments Current liabilities Long-term note payable Bonds payable Common stock Retained earnings Totals Net increase (decrease) in cash 1 Balances 12/31/07 12/31/06 Changes 45 155 300 760 155 140 100 700 (200) 125 (305) (175) 125 (325) (25)3 0 20 (200) 0 (550) (130) 0 (100) (500) (120) (200)1 1004 (50)5 (50)6 407 0 0 0 (110) 15 2001 602 Cash Inflows (Outflows) Operating Investing Financing (15) (60) 25 (20) (100) 50 50 40 (110) Acquisition of land in exchange for note (noncash transaction). 6 Net income. Purchase of plant and equipment. 5 Issuance of common stock. Poodle’s cash from operations of $40.000 was issued. but this was more than offset by the $100.000. December 31. December 31. Statement of cash flows: POODLE COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Increase in accounts receivable Decrease in current liabilities Net cash provided by operating activities $ 50 25 (15) (20) $ 40 Cash Flows from Investing Activities Acquisitions of plant and equipment $ (60) Cash Flows from Financing Activities Payment of cash dividends Retirement of bonds Issuance of common stock Net cash used by financing activities Net increase (decrease) in cash Cash balance. pay dividends. and retire the bonds are all responsible for the large decrease in the company’s cash balance at the end of the year. The lack of cash from operations to cover acquisitions.000 and the payment of cash dividends of $40.000 needed to retire the bonds. Common stock of $50.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-75 3. 2007 $ (40) (100) 50 $ (90) $(110) 155 $ 45 Schedule of Noncash Investing and Financing Activities Acquisition of land in exchange for note $ 200 4. . 2006 Cash balance.000 was insufficient to cover its acquisitions of new plant and equipment of $60. 5 PROBLEM 12-11A STATEMENT OF CASH FLOWS—DIRECT METHOD 1.) Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (15) 11 25 (16) (90) 75 (60) (5) (5) 10 75 0 (5) 0 Explanation Sale Purchase of 125 and sale of (50) 20 sale of asset (cost of 50 less book value of 30) and (80) depreciation.12-76 FINANCIAL ACCOUNTING SOLUTIONS MANUAL ALTERNATE MULTI-CONCEPT PROBLEMS LO 4. (Cr. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. Repayment 5 Dividends (10) Net income . CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-77 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Cost of goods sold General and administrative Depreciation expense Loss on sale of plant assets Interest expense Income tax expense Net income Amount $400 240 Adjustment Cash Flows $400 – Increase in accounts receivable (11) Cash collected $389 $240 + Increase in inventory 25 – Increase in accounts payable (5) Cash payments $260 40 80 10 15 – Decrease in prepaid rent – Increase in accrued liabilities Cash payments (No cash flow effect) Not an operating activity No interest payable Cash payments 5 $ 10 + Decrease in income taxes payable Cash payments Net cash flow from operations $ 40 (16) (5) $ 19 $ 0 $ 0 $ 15 $ 5 10 $ 15 $ 80 . 12-78 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: BANNACK CORP. June 30. 2007 $ (75) (5) $ (80) $ (15) 40 $ 25 $ 389 2. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED JUNE 30. however. differ in the information reported to the reader of the statement of cash flows. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections from customers Cash payments for: Inventory General and administrative Interest Income taxes Total cash payments Net cash provided by operating activities $(260) (19) (15) (15) $(309) $ 80 Cash Flows from Investing Activities Sale of land Purchase of plant and equipment Sale of plant and equipment Net cash used by investing activities $ 90 (125) 20 $ (15) Cash Flows from Financing Activities Repayment of long-term loan Payment of cash dividends Net cash used by financing activities Net decrease in cash Cash balance. 2006 Cash balance. It is true that the amount of cash flow from operating activities is the same regardless of which method (direct or indirect) is used. June 30. The direct method shows the actual inflows and outflows of cash. while the indirect method arrives at the same amount by reconciling net income to cash flow from operating activities. . The two methods. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.6 12-79 PROBLEM 12-12A STATEMENT OF CASH FLOWS—INDIRECT METHOD 1. Repayment 5 Dividends (10) Net income .) Cash Accounts receivable Inventory Prepaid rent Land Plant and equipment Accumulated depreciation Accounts payable Other accrued liabilities Income tax payable Long-term bank loan payable Common stock Retained earnings Total (15) 11 25 (16) (90) 75 (60) (5) (5) 10 75 0 (5) 0 Explanation Sale Purchase of 125 and sale of (50) 20 sale of asset (cost of 50 less book value of 30) and (80) depreciation.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 4. (Cr. The two methods. 2006 Cash balance. however. . differ in the information reported to the reader of the statement of cash flows. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED JUNE 30. 2007 $ 10 80 10 (11) (25) 16 5 5 (10) $ 80 $ 90 (125) 20 $ $(75) (5) $(80) $ 40 $ 25 2.12-80 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Statement of cash flows: BANNACK CORP. while the indirect method arrives at the same amount by reconciling net income to cash flow from operating activities. It is true that the amount of cash flow from operating activities is the same regardless of which method (direct or indirect) is used. June 30. 2007 (IN THOUSANDS OF DOLLARS) Cash Flow from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation expense Loss on sale of plant assets Increase in accounts receivable Increase in inventory Decrease in prepaid rent Increase in accounts payable Increase in other accrued liabilities Decrease in income taxes payable Net cash provided by operating activities Cash Flow from Investing Activities Sale of land Purchase of plant and equipment Sale of plant and equipment Net cash used by investing activities (15) Cash Flow from Financing Activities Repayment of long-term loan Payment of cash dividends Net cash used by financing activities Net decrease in cash (15) Cash balance. The direct method shows the actual inflows and outflows of cash. June 30. 5 12-81 PROBLEM 12-13A STATEMENT OF CASH FLOWS—DIRECT METHOD 1. Changes in account balances and explanations (in thousands of dollars): Net Change Dr. No. the six-month Treasury bills are properly classified as current assets.) Cash U.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 2. Treasury bills Accounts receivable Inventory Land Buildings and equipment Accumulated depreciation Patents Accounts payable Taxes payable Notes payable Term notes payable Common stock Retained earnings Total (25) 25 (75) 25 20 60 (40) (20) (40) 10 100 0 (20) (20) 0 Explanation Purchase Purchase Depreciation expense Amortization Retirement of note (20) Stock dividend (40) Net income 20 Stock dividend . because they have a maturity in excess of three months. Treasury bills are not cash equivalents. Instead.S.S. 2. the U. (Cr. 491 $ 990 + Increase in inventory 25 – Increase in accounts payable (40) Cash payments $ 975 No payable $ 195 No payable $ 70 No cash flow effect No payable* $ 2 No cash flow effect No payable $ 2 No payable $ 45 $ 12 + Decrease in income tax payable* 10 Cash payments $ 22 Net cash flow from operations $ 180 *The current liability Taxes Payable is assumed to relate entirely to income taxes rather than property taxes.416 Cost of goods sold 990 Salaries and benefits Heat.12-82 FINANCIAL ACCOUNTING SOLUTIONS MANUAL Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Amount $1. .416 + Decrease in accounts receivable 75 Cash collected $1. and power Depreciation Property taxes Patent amortization Miscellaneous expense Interest expense Income tax expense 195 70 40 2 20 2 45 12 Net income $ 40 Adjustment Cash Flows $1. light. 491 $ (975) (195) (70) (2) (2) (45) (22) $(1.S. December 31.311) $ 180 Cash Flows from Investing Activities Purchase of U. 2007 $ (100) $ (25) 75 $ 50 Note: It is questionable whether or not the stock dividend is a significant noncash activity. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collections from customers Cash payments for: Inventory Salaries and benefits Heat.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-83 Statement of cash flows: SHEPARD COMPANY STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2006 Cash balance. December 31. If it is determined to be significant. and power Property taxes Miscellaneous activities Interest Income taxes Total cash payments Net cash provided by operating activities $ 1. . Treasury bills Acquisition of land Acquisition of buildings and equipment Net cash used by investing activities $ (25) (20) (60) $ (105) Cash Flows from Financing Activities Retirement of notes payable Net decrease in cash Cash balance. it should be shown on a supplemental schedule of noncash activities. light. Changes in operating assets and liabilities is the last adjustment to reconcile net income to net cash provided by operating activities.000 and net cash provided by operating activities is $80. 4.523.655. such as accounts receivable. and accounts payable have a different effect on net income than they do on cash.000. a decrease in accounts receivable requires an addition to net income to arrive at net cash provided by operating activities. 2. However. inventory. Life Time Fitness uses the indirect method to prepare the operating activities section of its statement of cash flows.3 DECISION CASE 12-1 READING AND INTERPRETING LIFE TIME FITNESS’S STATEMENT OF CASH FLOWS: OPERATING ACTIVITIES 1. For example. The largest adjustment to reconcile net income to net cash provided by operating activities is depreciation and amortization of $29. Thus.431. Net income amounts to $28.” Cash equivalents include unrestricted cash accounts and highly liquid debt instruments purchased with original maturities of three months or less. The second note in the report includes a section titled “Cash and Cash Equivalents. Depreciation and amortization are expenses that have been deducted in the determination of net income.000. Life Time Fitness chooses to net all of these items in one adjustment on its statement of cash flows. resulting in a difference of $51. 5. A loss on disposing of property is added back for the same reason that depreciation and amortization are added back. The loss is deducted to arrive at net income but because it does not use any cash it is added back.12-84 FINANCIAL ACCOUNTING SOLUTIONS MANUAL D E C IS ION C AS E S READING AND INTERPRETING FINANCIAL STATEMENTS LO 2. The first item on the statement is net income and then various adjustments are made to reconcile this amount to the net cash provided by operating activities. a decrease in accounts receivable for the period is an indication that a company collected more in cash from its customers than in sales to them. 3. they do not decrease the amount of cash and therefore they must be added back in reconciling net income to net cash provided by operating activities.908.000. The various current assets and liabilities. . 243)/$14. In both of the two prior years the net cash provided by operating activities was larger than purchases of property and equipment.000)/($35.853.119.4) 2.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 3 12-85 DECISION CASE 12-2 READING AND INTERPRETING LIFE TIME FITNESS’S STATEMENT OF CASH FLOWS: INVESTING AND FINANCING ACTIVITIES 1.000 + $13. Purchases of property and equipment are the company’s largest use of cash in the investing activities section of the statement.674.315.084 = (5. .928. Purchases of property and equipment require large amounts of cash and it can be seen that much of the cash needed to grow the business came from borrowing and the initial public offering of stock.000 + $8.949.925.674.986.000 + $6. The company’s ratio is negative in 2004 because it invested large amounts in property and equipment to open new fitness centers.000)/5) = ($76. from the prior year. The former increased by $44. Because the initial public offering was in 2004.398. resulting in positive cash flow adequacy ratios in those years. or $80. 3. Repayments increased by $68. Purchases increased by $156. from the prior year. Cash flow adequacy ratio: (Net cash provided by operations – Capital expenditures)/ Average annual debt maturing over next five years = ($80.000 – $0.000 – $156. The cash flow adequacy ratio gives the user an indication of whether or not the company is generating sufficient cash from its operations to repay its debts. or $42. construction of new fitness centers and the addition of more fitness equipment are all crucial to the company’s strategy to grow its business.000.867. this amount increased by $80. These large purchases are balanced by the stock issued to the public for the first time and longterm borrowings which were significantly larger than in the prior year.000 – $41.000.000 – $18.000. or $50.398.000 – $1. after taking into consideration the need to make necessary expenditures on new plant and equipment.040. Proceeds from borrowings and proceeds from an initial public offering are the two largest sources of cash from financing activities.000 + $6. 2.853.000.431.327.000.359.000.251. LO 7 DECISION CASE 12-3 COMPUTING AND INTERPRETING LIFE TIME FITNESS’S CASH FLOW ADEQUACY 1. Repayments on long-term borrowings are the largest use of cash in the financing activities section of Life Time Fitness’s statement of cash flows. or $115. Purchases of additional land.000. ) Cash Accounts receivable Inventory Prepayments Land Plant and Equipment Accumulated depreciation Long-term investments Patents Accounts payable Other accrued liabilities Taxes payable Dividends payable Short-term Notes payable Long-term Notes payable Bonds payable Common stock Retained earnings Total 30 50 150 (15) 1.020) 0 Explanation Issued bonds to acquire 700 and cash for 355 Purchase Depreciation expense Sale Amortization Paid dividends Reclassification of note Reclassification of note Issued for land Issued stock 1.5 DECISION CASE 12-4 DIVIDEND DECISION AND THE STATEMENT OF CASH FLOWS—DIRECT METHOD 1. Changes in account balances and explanations (in thousands of dollars): Net Change Dr.055 1.700 (250) (400) (100) (70) (60) (70) 200 (200) 200 (700) (500) (1. (Cr.020 Net income .12-86 FINANCIAL ACCOUNTING SOLUTIONS MANUAL MAKING FINANCIAL DECISIONS LO 1. 450 – Decrease in prepayments (15) – Increase in accrued liabilities (60) – Depreciation included on income statement (250) – Amortization included on income statement (100) Cash paid for operating expenses $1.000 Cost of goods sold 4.500 + Increase in inventory 150 – Increase in accounts payable (70) Cash paid to suppliers $4.000 – Increase in accounts receivable (50) Cash collected from customers $7.950 $4.385 .020 Adjustment Cash Flows $8.025 No interest payable $ 350 $ 680 – Increase in taxes payable (70) Cash paid for taxes $ 610 Net cash flow from operations $1.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-87 Conversion of income statement items to a cash basis (in thousands of dollars): Income Statement Sales revenue Amount $8.500 Operating expenses 1.580 $1.450 Interest expense Income tax expense 350 680 Net income $1. 025) (350) (610) $ 6. Because the company invested heavily in new plant and equipment during 2007.385. 2006 Cash balance. The profit margin of 12. STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31.12-88 FINANCIAL ACCOUNTING SOLUTIONS MANUAL 2.580) For operating expenses For interest For income taxes Total cash payments Net cash provided by operating activities Cash Flows from Investing Activities Sale of long-term investments Acquisition of land Acquisition of plant and equipment Net cash used by investing activities Cash Flows from Financing Activities Issuance of additional common stock Payment of 2006 cash dividend Net cash provided by financing activities Net increase in cash Cash balance. .565 $ 1. Bailey should have no problem in paying its tenth annual dividend of $1 per share. Assuming that a large portion of the bonds is not due to be retired in 2008.655) $ 500 (200) $ 300 $ 30 450 $ 480 $ $ 700 200 3.000 indicates that the company is generating a very significant amount of cash from the business. Bailey will need to pay $200.700) $(1.000 in 2008 to retire the short-term notes payable.385 $ 400 (355) (1. 2007 Supplemental Schedule of Noncash Investing and Financing Activities Acquisition of land by issuance of bonds Reclassification of long-term notes due within next year $ 7. should be able to safely pay a cash dividend in 2008 of $250. Bailey Corp.000 (note that there are now 250. Statement of cash flows: BAILEY CORP.950 $ (1.000 shares of stock outstanding). December 31. December 31. it would be important to know how soon any of the bonds payable will be due for retirement. it should not need to reserve large amounts of cash for capital expenditures in the near future. In assessing the company’s cash needs in future years. 2007 (IN THOUSANDS OF DOLLARS) Cash Flows from Operating Activities Cash collected from customers Cash payments: For inventory (4.75% indicates that management is doing a good job of controlling costs. The cash provided by operating activities of $1. First. is the main reason for our problems. such as office supplies and rent.CHAPTER 12 • THE STATEMENT OF CASH FLOWS LO 1. Cash flow from operations Net income (loss) Adjustments: Depreciation expense Increase in accounts receivable Increase in inventories Increase in prepayments Increase in accounts payable Decrease in accounts payable Net cash flow from operations Year 1 Year 2 Year 3 Year 4 $(10) $ (2) $15 $20 30 (32) (26) 0 15 25 (5) (8) 0 3 15 (12) (5) (10) 14 (20) (9) (5) (5) $ (2) (4) $ (4) $(23) $13 2. The buildup of various current assets. inventories. Memo to the president: TO: President FROM: Student’s name DATE: XX/XX/XX SUBJECT: Cash flow As you are aware. we must find ways to limit our purchases of inventory and maintain products on hand at a minimum. the company needs to take full advantage of the credit terms offered by our suppliers and not pay open accounts any sooner than is necessary. such as accounts receivable. for the last two years. we need to do a better job of collecting our receivables in a timely fashion. our company has made significant strides in improving our profitability. . The summary shows that in our second year we did a good job of generating cash from operations but that the results have not been as good in the last two years. I have enclosed for your review a four-year summary of cash flow from operations. Please call me at your earliest convenience to discuss how we can improve our efforts in this critical area. respectively. whenever possible.6 12-89 DECISION CASE 12-5 EQUIPMENT REPLACEMENT DECISION AND CASH FLOWS FROM OPERATIONS 1. Third. we should limit the amount of items we prepay. of the need to generate sufficient cash flow operations to make the necessary capital expenditures to replace existing equipment. our operations have drained $2 million and $4 million of cash from the treasury in these years rather than the desired result of generating cash to help pay for capital expenditures. Specifically. Second. and prepayments. We are all also aware. Finally. however. Our net losses in the first two years have been replaced with profits of $15 million and $20 million. December 31. The net approach to reporting the transaction.6 DECISION CASE 12-6 LOAN DECISION AND THE STATEMENT OF CASH FLOWS— INDIRECT METHOD 1. December 31. Revised statement: MEGA ENTERPRISES STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31. 2007 (IN MILLIONS OF DOLLARS) Cash Flows from Operating Activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Gain on sale of California business Depreciation and amortization Increase in accounts receivable Decrease in inventory Decrease in accounts payable Increase in other accrued liabilities Net cash used by operating activities $ 65 (150) 56 (19) 27 (42) 18 $ (45) Cash Flows from Investing Activities Acquisitions of other businesses Acquisitions of plant and equipment Sale of other businesses Net cash provided by investing activities $(234) (125) 450 $ 91 Cash Flows from Financing Activities Additional borrowings Repayments of borrowings Cash dividends paid Net cash used by financing activities Net decrease in cash Cash balance.12-90 FINANCIAL ACCOUNTING SOLUTIONS MANUAL ETHICAL DECISION MAKING LO 1. 2006 Cash balance. 2. The gain of $150 million should have been deducted from net income to arrive at cash flow from operations. which require that the actual amount of cash received from the sale of $450 million be shown as an investing activity inflow. The issue involves the appropriate reporting and disclosure of the transaction rather than the net change in cash for the period. This is not in accordance with generally accepted accounting principles. 2007 $ 150 (180) (50) $ (80) $ (34) 42 $ 8 . as opposed to the correct approach under GAAP. does not have an effect on the increase or decrease in cash for the period. Mega reported the sale of the business by netting the gain against the cash proceeds and thus reporting the book value of $300 million as an investing activity inflow. The controller has not acted ethically in this situation.CHAPTER 12 • THE STATEMENT OF CASH FLOWS 12-91 3. (Note: The notes would be classified as held to maturity securities because Rangers expects to hold them until maturity.2 Best Buy’s receivables increased during the year that ended February 26.) 2. . REAL WORLD PRACTICE 12. Rangers must report the purchase on the statement of cash flows as a cash outflow from investing activities. As controller. REAL WORLD PRACTICE 12.3 DECISION CASE 12-7 CASH EQUIVALENTS AND THE STATEMENT OF CASH FLOWS 1. 2005. their purchase should be classified as an investing activity for purposes of preparing a statement of cash flows. the netting of the sale transaction grossly overstates the cash flow from operating activities and understates the cash flow from investing activities. only those investments in highly liquid securities with an original maturity to the investor of three months or less should be classified as cash equivalents. LO 2.1 Best Buy uses the indirect method in the operating activities section of the statement of cash flows. but the company does not have a choice in its presentation of the notes. and therefore the difference must be deducted from net income in the operating activities section of the statement. You are sympathetic to his desire to minimize the net cash outflow for investing activities. An increase in receivables means that the company sold more than it collected in cash during the year. above. nor does the decision on classification rest with you as controller. It appears that the controller intentionally misreported the transaction on the statement of cash flows to influence the bank’s appraisal of the ability of Mega to generate cash from its ongoing operations. According to current accounting standards. Because the Treasury notes do not mature until ten months after they are purchased. As shown in 2. The first line on the statement is net income and the necessary adjustments are made to reconcile net income to net cash provided by operating activities. you need to explain to the treasurer that accounting standards do not allow the company to classify the treasury notes as cash equivalents. The officer is aware that the bank intends to rely on cash generated from operations for repayment of the loans. 000. The amount of income tax expense on the income statement is based on accrual accounting concepts.000 in income taxes during the year that ended February 26. For example. This is not necessarily the amount that appears as expense on the income statement for the year.3 Best Buy paid $241.12-92 FINANCIAL ACCOUNTING SOLUTIONS MANUAL REAL WORLD PRACTICE 12. any taxes owed at the end of the year would be included in the tax expense but would not be considered a cash outflow. 2005. .