Slide

3-1

Chapter
STATEMENT OF CASH
13 FLOWS

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3-2
Purpose of the Statement of Cash
Flows
Provides information about the cash receipts
and cash payments of a business entity
during the accounting period.
Helps investors with questions about the
company’s:
 Ability to generate positive cash flows.
 Ability to meet its obligations and to pay
dividends.
 Need for external financing.
 Investing and financing transactions for the
period.

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Classification of Cash Flows

The Statement of Cash Flows must

include the following three sections:
 Cash Flows from Operating Activities
 Cash Flows from Investing Activities
 Cash Flows from Financing Activities

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Operating Activities

Inflows from:
 Sales to customers.
 Interest and dividends
received. + Cash
Flows
Outflows to: from
 Suppliers of merchandise Operating
and services.
 Employees.
_ Activities
 Lenders for interest.
 Governments for taxes.

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Investing Activities
Inflows from:
 Selling investments and plant
assets.
 Collecting of principal on loans.
+ Cash
Flows
from
Outflows to:
 Payments to acquire
Investing
investments and plant assets. _ Activities
 Purchase debt or equity
investments.
 Make loans.
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Financing Activities

Inflows from:
 Short-term and long-term
borrowing.
 Owners (for example, from + Cash
issuing stock).
Flows
from
Outflows to: Financing
 Repayments of borrowed
funds.
_ Activities
 Owners for dividends.
 Purchase treasury stock.

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Cash and Cash Equivalents

Cash Cash
Equivalents Currency

 Short-term, highly liquid investments.

 Readily convertible into cash.
 So near maturity that market value is unaffected by
interest rate changes.
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3-9

The operating
cash flows section Let’s look at
can be prepared the Direct
using either the Method for
direct method or preparing the
the indirect Statement of
method. Cash Flows.
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Direct Method
Cash Received from Customers
 Accrual basis revenue includes sales that
did not result in cash inflows.
 Can be computed as:

Decrease in
+ receivables =

Cash Received from

Net Sales
Customers
Increase in
– receivables =
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3-11
Direct Method
Cash Received from Customers
The A/R balance was $80,000 on 12/31/02 and
$110,000 on 12/31/03. If accrual sales revenue
for 2003 was $900,000, what was cash basis
revenue?

Decrease in
+ receivables =
Net Sales Cash Received from
$900,000 Customers
Increase in
– receivables =
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3-12
Direct Method
Cash Received from Customers
The A/R balance was $80,000 on 12/31/02 and
$110,000 on 12/31/03. If accrual sales revenue
for 2003 was $900,000, what was cash basis
revenue?

Decrease in
receivables

Net Sales Cash Received from

$900,000 Customers = $870,000
$30,000
Increase in
– receivables =
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3-13

Now that we
understand the
process, let’s look at
some simplified
formulas for
computing direct
method cash flows.
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3-14
Direct Method
Interest and Dividends Received

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Direct Method
Cash Paid for Merchandise
Step 1

Step 2

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Direct Method
Cash Paid for Merchandise

How much did Lug Lite pay for inventory in

2003?
Inventory, 1/1/03 $ 130,000 A/P, 1/1/03 $ 23,000
Inventory, 12/31/03 $ 165,000 A/P, 12/31/03 $ 35,000
COGS, 12/31/03 $ 900,000

Purchases for 2003 were $935,000.

a. $900,000
b. $923,000 Purchases = $900,000 + $35,000
c. $947,000 Cash Paid for Merchandise in 2003
d. $877,000 was $923,000.
Cash Paid = $935,000 - $12,000
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Direct Method
Cash Payments for Expenses
After deducting depreciation and other
noncash expenses, the cash paid for expenses
is affected by
(1) whether the expense was prepaid, and
(2) whether the expense was accrued.

{ {
+ Increase in + Decrease in
Cash Paid for prepaid expenses accrued liabilities
= Expenses
Expenses - Decrease in - Increase in
prepaid expenses accrued liabilities

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Now, let’s
prepare a direct
method
Statement of
Cash Flows for
Grate Big
Company.
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3-19

Direct Method - Example

Grate Big Company
Comparative Balance Sheets - Assets

December 31,
2002 2003
Cash $ 60,000 $ 70,370
Accounts Receivable, net 27,000 35,000
Inventory 230,000 200,000
Trading Securities - 25,000
Equipment, net 500,000 425,000
Investment in Tiny Co. 100,000 130,000
Total Assets $ 917,000 $ 885,370

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Direct Method - Example

Grate Big Company
Comparative Balance Sheets - Liabilities and Equity
December 31,
2002 2003
Accounts Payable $ 15,000 $ 12,000
Salaries Payable 7,000 5,000
Interest Payable 11,950 7,350
Income Tax Payable 20,000 17,000
Notes Payable, Bob's Bank 70,000 60,000
Bonds Payable 250,000 150,000
Premium on Bonds Payable 5,000 4,000

Common Stock 450,000 500,000

Retained Earnings 88,050 130,020
Total Liabilities and Equity $ 917,000 $ 885,370
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Direct Method - Example

Grate Big Company
Income Statement Amounts
For the Year Ending December 31, 2003

Sales Revenues $ 800,000

Cost of Goods Sold 560,000
Depreciation Expense 5,000
Interest Expense 28,050
Income Tax Expense 27,980
Salary Expense 80,000
Other Expenses 71,000
Amortization of Bond Premium 1,000
Gain on Sale of Equipment 3,000
Extraordinary Loss 30,000
Equity in Investee Income 40,000
Net Income $ 41,970
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Direct Method - Example

Additional Information
 Trading Securities were purchased during 2003
at a cost of $25,000.
 Equipment with a book value of $40,000 was
sold during the year for $43,000.
 Equipment with a book value of $30,000 was
destroyed during a freak flood in 2003. There
was no insurance.
 Grate Big holds a 25% investment in Tiny Co.
and accounts for it using the Equity Method.

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Direct Method - Example

Additional Information
 Grate Big’s tax rate is 40%.
 The Notes Payable to Bob’s Bank carry a 12%
rate. The payments are due on the first day of
each month.
 The Bonds Payable carry a 9% rate. Interest is
payable semiannually on July 1 & Jan. 1.
 Grate Big sold stock during 2001 for $50,000.
 Grate Big received $10,000 dividends from Tiny
Co.

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Direct Method - Example

Cash Received from Customers

Sales Revenues $ 800,000

Less: Increase in A/R (8,000)
Cash Received from Customers $ 792,000

Cash Paid to Employees

Salary Expense $ 80,000
2000
Add: Decrease in Salary Payable 2,000
Cash Paid to Employees $ 82,000

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Direct Method - Example

Cash Paid for Inventory

Cost of Goods Sold $ 560,000
Add : Decrease in A/P 3,000
Less: Decrease in Inventory (30,000)
Cash Paid for Inventory $ 533,000

Cash Paid for Interest

Interest Expense $ 28,050
2000
Add: Decrease in Interest Payable 4,600
Cash Paid for Interest $ 32,650

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Direct Method - Example

Cash Paid for Taxes

Income Tax Expense $ 27,980
2000
Add: Decrease in Taxes Payable 3,000
Cash Paid for Taxes $ 30,980

Other Operating Cash Flows

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Direct Method - Example

Cash Flows From Operating Activities

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Grate Big Company

Equipment with a bookofvalue
Statement CashofFlows
For the
$40,000 Period
was sold Ending December 31, 2003
for $43,000.
I. Operating Cash Flows $ 27,370
II. Investing Cash Flows
Bonds Payable decreased from
Proceeds
$250,000 from saleduring
to $150,000 of Equipment
2003. 43,000
III. Financing Cash Flows
Proceeds from sale of Stock $ 50,000
Principal paid on Bonds (100,000)
Principal paid on Notes (10,000) (60,000)
Net Cash Flows for the Period $ 10,370
Notes Payable decreased from
Add: Beginning
$70,000 Cashduring
to $60,000 Balance
2003. 60,000
Ending Cash Balance $ 70,370

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Grate Big Company

Statement of Cash Flows
For the Period Ending December 31, 2003
Notice that the Ending $ 27,370
I. Operating Cash Flows
Cash Balance per the
II. Investing Cash Flows
Statement of Cash Flows
Proceeds from sale of Equipment
agrees with the 12/31/03 43,000
III. Financing Cash Cash
Flows balance on the
Proceeds from saleBalance
of Stock Sheet.
$ 50,000
Principal paid on Bonds (100,000)
Principal paid on Notes (10,000) (60,000)
Net Cash Flows for the Period $ 10,370
Add: Beginning Cash Balance 60,000
Ending Cash Balance $ 70,370

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Let’s look at the

Indirect Method
that is used by
over 97% of all
companies.

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3-31

Indirect Method

Changes in current assets and current

liabilities as shown on the following table.

Cash Flows
Net
from Operating
Income
Activities

+ Losses and + Noncash

- Gains expenses such as
depreciation and
amortization.

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Indirect Method

Use this table when adjusting Net Income

to Operating Cash Flows.

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Let’s prepare a
complete
Statement of
Cash Flows
using the
Indirect Method.
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Indirect Method - Example

Joe’s Place has prepared the Balance Sheet

as of March 31, 2003, and March 31, 2002.
The Income Statement for the year ended
3/31/03 has also been prepared. Joe
needs help preparing the Statement of
Cash Flows.

Joe’s
Place

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Indirect Method - Example

The $8,000 gain was the

Joe's Place
result of selling
Income land
Statement
costing $32,000
For the for $40,000
Year Ending 3/31/03
during the period.
Revenues $ 727,000
Operating Expenses (748,000)
Depreciation Expense (6,000)
Gain on Sale of Land 8,000
Net Loss $ (19,000)

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Indirect Method - Example

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Indirect Method - Example

Joe’s Place issued $50,000

of no par common stock to
settle the $50,000 note
payable.

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Indirect Method - Example

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Indirect Method - Example

With the indirect method, always

start with the net income or net
loss for the period.

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Indirect Method - Example

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Indirect Method - Example

Accounts receivable decreased.

3/31/03 3/31/02
$23,000 - $40,000 = $(17,000)

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Indirect Method - Example

Accounts payable increased.

3/31/03 3/31/02
$38,000 - $27,000 = $11,000

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Indirect Method - Example

Inventory increased.
3/31/03 3/31/02
$350,000 - $300,000 = $50,000

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Indirect Method - Example

Salaries payable decreased.

3/31/03 3/31/02
$ 9,000 - $14,000 = $(5,000)
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Indirect Method - Example

Add back non-cash expenses.

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Indirect Method - Example

Subtract gains.

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Indirect Method - Example

The operating cash

flows amount comes
from the schedule
just prepared.

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3-48

Indirect Method - Example

Land originally costing $32,000

was sold for $40,000.

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Indirect Method - Example

Dividends of $20,000 were paid to

owners during the year.

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Indirect Method - Example

Compute the net change in cash

for the period.

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Indirect Method - Example

Complete the Statement of Cash

Flows by reconciling beginning
cash to ending cash.

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3-52

Indirect Method - Example

Note that the ending

cash amount ties
back to the Joe’s
Place Balance Sheet
at 3/31/03.

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Indirect Method - Example

In addition, on the face

of the statement or in a
supplemental
schedule, disclose the
$50,000 noncash
financing activity.

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Indirect Method - Example

In addition, cash
interest payments and
cash tax payments
must also be disclosed
separately.

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Managing Cash Flows

Cash Budgets are used by management to plan and

forecast future cash flows.

A C a s h B udg e t c a n be us e d to:

Force m anagem ent to coordinate activities.

Provide m anagers w ith advance notice of available resources.

Provide targets useful in evaluating perform ance.

Provide advance w arnings of potential cash shortages.

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Managing Cash Flows

 Increase collection of accounts

receivables.
 Keep inventory low.
 Delay payment of liabilities.
 Plan timing of major expenditures.
 Invest idle cash.

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Cash Budgeting
3-57

Cash Budget
May June July August
Beginning cash balance $ 27,500 $ 15,000 $ - $ -
Add: Cash receipts 3,500
Total available cash $ 31,000

Less: Cash disbursements 16,000

Excess (deficiency) of
available cash over cash
disbursements $ 15,000
Financing needed
Financing repayments -
Ending cash balance $ 15,000

The ending cash balance of one month becomes the

beginning cash balance of the next month.
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Cash Budgeting
3-58

Cash Budget
May June July August
Beginning cash balance $ 27,500 $ 15,000 $ 10,000 $ 10,000
Add: Cash receipts 3,500 2,000 9,000 14,000
Total available cash $ 31,000 $ 17,000 $ 19,000 $ 24,000

Less: Cash disbursements 16,000 18,000 6,000 8,000

Excess (deficiency) of
available cash over cash
disbursements $ 15,000 $ (1,000) $ 13,000 $ 16,000
Financing needed 11,000 - -
Financing repayments - - 3,000 6,000
Ending cash balance $ 15,000 $ 10,000 $ 10,000 $ 10,000

Financing is needed in June because the company

must maintain a minimum cash balance of $10,000.
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End of Chapter 13

Chester, ol’
buddy, I wonder if
you could help
me with a little
cash flow
problem I’m
having?
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