Transcript Financial Accounting and Accounting Standards

Chapter
6-1
Warfield
Weygandt
Kieso
CHAPTER 6
STATEMENT OF CASH FLOWS
INTERMEDIATE ACCOUNTING
Principles and Analysis
2nd Edition
Chapter
6-2
Learning Objectives
1.
Indicate the primary purpose of the statement of cash
flows.
2.
Distinguish among operating, investing, and financing
activities.
3.
Identify sources of information for preparing the
statement of cash flows.
4.
Differentiate between net income and net cash provided by
operating activities.
5.
Determine net cash from investing and financing activities.
6.
Prepare a statement of cash flows.
7.
Analyze the statement of cash flows.
Chapter
6-3
Statement of Cash Flows
Purpose and
Format
Chapter
6-4
Statement
Preparation
Purpose
Classifications
First year of
operations
Significant noncash
activities
Format
Preparation
Indirect and direct
methods
Second year of
operations
Summary of indirect
method
Using Cash Flows
to Evaluate a
Company
Free cash flow
Assessing liquidity
and solvency
Limitations
Purpose of the Statement of Cash Flows
Primary purpose:
To provide information about
cash receipts,
cash payments, and the
net change in cash resulting from
 operating,
 investing, and
 financing activities
of a company during the period.
Chapter
6-5
LO 1 Indicate the usefulness of the statement of cash flows.
Purpose of the Statement of Cash Flows
Provides answers to the following:
Where did the cash come from during the
period?
What was the cash used for during the period?
What was the change in the cash balance during
the period?
Chapter
6-6
LO 1 Indicate the usefulness of the statement of cash flows.
Classification of Cash Flows
Operating
Activities
Income
Statement
Items
Investing
Activities
Generally
Long-Term
Asset Items
The term “Cash” =
Cash and cash equivalents.
Chapter
6-7
Financing
Activities
Generally
Long-Term
Liability
and
Equity Items
LO 2 Distinguish among operating, investing, and financing activities.
Classification of Cash Flows
Cash and Cash Equivalent
Text Footnote 2
2 The basis recommended by the FASB for the statement of
cash flows is actually “cash and cash equivalents.” Cash
equivalents are short-term, highly liquid investments that
are both: (a) readily convertible to known amounts of cash,
and (b) so near their maturity that they present insignificant
risk of changes in interest rates. Generally, only investments
with original maturities of three months or less qualify under
this definition. Examples of cash equivalents are Treasury
bills, commercial paper, and money market funds purchased
with cash that is in excess of immediate needs.
Chapter
6-8
LO 2 Distinguish among operating, investing, and financing activities.
Classification of Cash Flows
Classification of Typical Inflows and Outflows
Illustration 6-1
Income
Statement
Items
Chapter
6-9
LO 2 Distinguish among operating, investing, and financing activities.
Classification of Cash Flows
Classification of Typical Inflows and Outflows
Illustration 6-1
Generally
Long-Term
Asset Items
Chapter
6-10
LO 2 Distinguish among operating, investing, and financing activities.
Classification of Cash Flows
Classification of Typical Inflows and Outflows
Illustration 6-1
Generally
Long-Term
Liability and
Equity Items
Chapter
6-11
LO 2 Distinguish among operating, investing, and financing activities.
Significant Noncash Transactions
Examples:
Issuance of common stock to purchase assets.
Conversion of bonds into common stock.
Issuance of debt to purchase assets.
Exchanges of plant assets.
Reported at the bottom of the statement of cash
flows or in a separate note to the financial
statements.
Chapter
6-12
LO 2 Distinguish among operating, investing, and financing activities.
Format of the Statement of Cash Flows
Order of Presentation:
1.
Operating activities.
2.
Investing activities.
3.
Financing activities.
Indirect Method
Direct Method
Report inflows and outflows from investing and
financing activities separately.
Chapter
6-13
LO 2 Distinguish among operating, investing, and financing activities.
Format of the Statement of Cash Flows
Review:
The FASB encourages the use of the
indirect method over the direct method.
True
Chapter
6-14
False
LO 2 Distinguish among operating, investing, and financing activities.
Format of the Statement of Cash Flows
Illustration 6-2
Chapter
6-15
LO 2 Distinguish among operating, investing, and financing activities.
Preparing the Statement of Cash Flows
Three Sources of Information:
1. Comparative balance sheets
2. Current income statement
3. Additional information
Three Major Steps:
Step 1. Determine the net increase/decrease in cash.
Step 2. Determine net cash provided/used by operating
activities.
Step 3. Determine net cash provided/used by investing
and financing activities.
Chapter
6-16
LO 3 Identify sources of information for preparing the statement of cash flows.
Indirect and Direct Methods
Convert net income from an
accrual basis to a cash basis.
Use either indirect or direct
format.
Both methods arrive at same
totals.
Investing and financing
activities are the same for both
methods.
Chapter
6-17
LO 3 Identify sources of information for preparing the statement of cash flows.
Preparation of Statement of Cash Flows
Indirect Method
Determining the Net
Increase/Decrease In Cash
(Step 1)
Illustration 6-4
Chapter
6-18
LO 3 Identify sources of information for preparing the statement of cash flows.
Preparation of Statement of Cash Flows
Indirect Method
Determining Net Cash
Provided/Used by
Operating Activities (Step 2)
Illustration 6-6
Chapter
6-19
LO 4 Differentiate between net income and net
cash provided by operating activities.
Preparation of Statement of Cash Flows
Indirect Method
Adjusts net income for items not affecting cash.
Illustration 6-9
Common adjustments to Net Income (Loss):
Depreciation and amortization expense.
Gain or loss on disposition of long-term assets.
Change in current assets and current liabilities.
Chapter
6-20
LO 4 Differentiate between net income and net
cash provided by operating activities.
Preparation of Statement of Cash Flows
Review:
The net increase (decrease) in cash
reported on the statement of cash flows
should reconcile the beginning and ending
cash balances reported in the comparative
balance sheets.
True
Chapter
6-21
False
LO 4 Differentiate between net income and net
cash provided by operating activities.
Operating Activities—Indirect Method
Exercise: Krauss Company’s financial statements for the year ended
December 31, 2007, contained the following condensed information.
Revenues from fees
Operating expenses
Depreciation expense
Loss on sale of equipment
Income before income tax
Income tax
Net income
Accounts receivable
Accounts payable
Income taxes payable
Chapter
6-22
2007
$ 840,000
624,000
60,000
26,000
130,000
40,000
$ 90,000
$
37,000
41,000
4,000
2006
Change
$ 54,000
31,000
8,500
$ (17,000)
10,000
(4,500)
LO 4 Differentiate between net income and net
cash provided by operating activities.
Operating Activities—Indirect Method
Prepare the operating activities section of the statement of
cash flows using the indirect method (Step 2).
Cash flows from operating activities
Net income
Adjustment to reconcile net income
to net cash provided by operating activities:
Depreciation expense
Loss on sale of equipment
Decrease in accounts receivable
Increase in accounts payable
Decrease in income taxes payable
Net cash provided by operating activities
Chapter
6-23
$ 90,000
60,000
26,000
17,000
10,000
(4,500)
198,500
LO 4 Differentiate between net income and net
cash provided by operating activities.
Operating Activities—Indirect Method
Review:
Under the accrual basis of accounting, net
income is usually the same as net cash flow
from operating activities.
True
Chapter
6-24
False
LO 4 Differentiate between net income and net
cash provided by operating activities.
Operating Activities—Indirect Method
Review:
When accounts receivable decrease during
a period, cash-basis revenues are higher
than revenues reported on an accrual
basis.
True
Chapter
6-25
False
LO 4 Differentiate between net income and net
cash provided by operating activities.
Preparation of Statement of Cash Flows
Determining Net Cash Flow from Investing and
Financing Activities (Step 3)
Exercise (a): Plant assets that had cost $20,000 6 years
before and were being depreciated on a straight-line basis
over 10 years with no estimated scrap value were sold for
$5,300.
Plant assets (cost)
$ 20,000
Accumulated depreciation ([$20,000 / 10] x 6)
12,000
Book value at date of sale
8,000
Sale proceeds
Loss on sale
Chapter
6-26
(5,300)
$
LO 5
2,700
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Statement of Cash Flows
O
Cash flow from operating activities
Net income
Adjustment to reconcile net income to cash:
Loss on sale
Cash from operations
I
Cash flow from investing activities
Proceeds from sale of plant asset
Cash from investing activities
F
2,700
5,400
Cash flow from financing activities
Cash from financing activities
Net Change in Cash
Chapter
6-27
$
LO 5
$
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Exercise (b): During the year, 10,000 shares of
common stock with a stated value of $10 a share
were issued for $43 a share.
Shares sold
Chapter
6-28
10,000
Market value per share
$
Value of shares
$430,000
LO 5
43
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Statement of Cash Flows
O
Cash flow from operating activities
Net income
Adjustment to reconcile net income to cash:
$
Cash from operations
I
F
Cash flow from investing activities
Cash from investing activities
Cash flow from financing activities
Sale of common stock
Cash from financing activities
Net Change in Cash
Chapter
6-29
LO 5
430,000
$
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Exercise (c): The company sustained a net loss for
the year of $50,000. Depreciation amounted to
$22,000, and a gain of $9,000 was realized on the
sale of land for $39,000 cash.
Chapter
6-30
LO 5
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Statement of Cash Flows
O
Cash flow from operating activities
Net loss
Adjustment to reconcile net income to cash:
Depreciation expense
Gain on sale
Cash from operations
I
Cash flow from investing activities
Sale of land
Cash from investing activities
F
22,000
(9,000)
39,000
Cash flow from financing activities
Cash from financing activities
Net Change in Cash
Chapter
6-31
$ (50,000)
LO 5
$
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Exercise (d): During the year, treasury stock costing
$47,000 was purchased.
Chapter
6-32
LO 5
Determine net cash from investing and financing activities.
Preparation of Statement of Cash Flows
Statement of Cash Flows
O
Cash flow from operating activities
Net income (loss)
Adjustment to reconcile net income to cash:
Cash from operations
I
Cash flow from investing activities
Cash from investing activities
F
Cash flow from financing activities
Purchase of company stock
Cash from financing activities
Net Change in Cash
Chapter
6-33
LO 5
(47,000)
$
Determine net cash from investing and financing activities.
Statement of Cash Flows
Statement of Cash Flows
O
Cash flow from operating activities
Net income (loss)
Adjustment to reconcile net income to cash:
Depreciation expense
Loss on sale
Gain on sale
Cash from operations
$ (50,000)
22,000
2,700
(9,000)
(34,300)
Cash flow from investing activities
I
F
Cash flow from financing activities
Sale of common stock
Purchase of company stock
Cash from financing activities
Net Change in Cash
Chapter
6-34
5,400
39,000
44,400
Sale of plant assets
Sale of land
Cash from investing activities
430,000
(47,000)
383,000
$ 393,100
LO 6 Prepare a statement of cash flows.
Summary of Conversion to Net Cash Provided
by Operating Activities—Indirect Method
Illustration 6-18 & 19
Chapter
6-35
LO 6 Prepare a statement of cash flows.
Using Cash Flows to Evaluate a Company
Free Cash Flow
Amount of discretionary cash flow a company has for
purchasing additional investments, retiring its debt,
purchasing treasury stock, or adding to its liquidity.
Chapter
6-36
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Liquidity
Current Cash
Debt Coverage
Ratio
=
Cash Provided by
Operating Activities
Average Current Liabilities
Ratio indicates whether the company can pay off its
current liabilities from its operations. A ratio near
1:1 is good.
Chapter
6-37
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Liquidity
Chapter
6-38
Illustration 6-23
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Solvency
Cash Debt
Coverage
Ratio
=
Cash Provided by
Operating Activities
Average Total Liabilities
Ratio indicates a company’s ability to repay its
liabilities from net cash provided by operating
activities, without having to liquidate the assets
employed in its operations.
Chapter
6-39
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Solvency
Chapter
6-40
Illustration 6-24
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Review
The current cash debt coverage ratio is often used to
assess
a. financial flexibility.
b. liquidity.
c. profitability.
d. solvency.
Chapter
6-41
LO 7 Analyze the statement of cash flows.
Using Cash Flows to Evaluate a Company
Typical
Company
Product Life
Cycle
Chapter
6-42
LO 7 Analyze the statement of cash flows.
Limitations of the Statement of Cash Flows
1. Cash flow from operations is not accrual
net income.
2. Cash flow from operations can be
misleading (Worldcom fraud).
Chapter
6-43
LO 7 Analyze the statement of cash flows.
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Chapter
6-44