Review of Chapter 8/9

Current liabilities and Contingent Liabilities Financing with Bonds versus Capital Stock Earnings per share, Interest Coverage & Debt Ratio Issuing Shares Repurchasing shares Cash Dividends and Stock Dividends Return on assets Return on equity

The Statement of Cash Flows

Chapter 12

Objective 1
Identify the purposes of the statement of cash flows

The Statement of Cash Flows

The statement of cash flows reports the entitys cash flows (cash receipts and cash payments) during the period.

Purposes of the Cash Flow Statement

The statement of cash flows serves the following purposes: 1. Predict future cash flows

2. Evaluate management decisions

3. Determine the companys ability to pay dividends to shareholders and payments to creditors 4. Show the relationship of net income to the businesss cash flows

What is Cash?
cash on hand cash in the bank cash equivalents

Cash equivalents are highly liquid, short-term investments that can be converted into cash with little delay. Money-market investments
Canadian government securities

Objective 2
Distinguish among operating, investing, and financing cash flows.

Operating, Investing, and Financing Activities

A business engages in three types of business activities: Operating activities Investing activities

Financing activities

Operating, Investing, and Financing Activities

Operating activities create revenues, expenses, gains, and losses. Investing activities include long-term assets, investments and loaning money.

Financing activities obtain cash from investors and creditors.

Two Formats for Operating Activities

Indirect Method Net income Adjustments: Depreciation, etc. Net income provided by operating activities Direct Method Collection from customers Deductions: Payment to suppliers, etc. Net income provided by operating activities $XXX

XXX $XXX $XXX

XXX $XXX

Objective 3
Prepare a statement of cash flows by the indirect method.

Cash Flows from Operating Activities

Operating activities are related to the transactions that make up net income It begins with net income, taken from the net income, and is followed by adjustments to reconcile net income to cash

Operating Activities Indirect Method

Adjustments to net income include:
Depreciation expense Gains and losses on the sale of long-term assets Changes in the current assets and current liabilities account

Operating Activities Indirect Method

Net income is adjusted for: Depreciation is an allocation of a cost; no effect on cash. Since it is deducted as an expense, it must be added back to net income (to cancel the deduction)

Gains/(Losses) results from selling long-term assets. Originally, it is added (deducted) from net income but since it doesnt represent cash (also, it is an investing activity), it must be subtracted(added) back

Operating Activities Indirect Method

Changes in the current assets and current liabilities account: Add: Decreases in current assets (not cash) Increases in current liabilities

Subtract: Increases in current assets (not cash) Decreases in current liabilities

Operating Activities Indirect Method

Start with Net income Add: Depreciation expense Losses from sales of assets Deduct: Gains from sales of assets Add/Deduct: Non-cash change in working capital Add: Decreases in current assets (not cash) Increases in current liabilities Deduct: Increases in current assets (not cash) Decreases in current liabilities

Operating Activities Indirect Method Steps

1. Determine the change in cash from last year to this year. 2. Determine the change in non-cash working capital items using the balance sheet 3. Start with net income and add back depreciation and losses and deduct any gains. 4. Add or subtract where applicable, the change (increase or decrease) in non-cash working capital items

Question #1
Net income Accounts receivable (net) Inventory Prepaid insurance Accounts payable $750,000 16,000 decrease 14,500 increase 2,900 increase 15,200 decrease

The amount of cash provided by operations is: a. $740,600 b. $750,000 c. $733,400

Investing Activities
Cash Receipts Sales of assets (investments, land, building, equipment, and so on) Collections of loans receivable Cash Payments Purchase of assets (investments,land, building, equipment, and so on) Loans to others

Cash Flow Statement: Investing Activities

Cash Flow Statement For the Year Ended December 31, 2011 (In thousands)

Cash flows from investing activities: Acquisition of property,plant&equip $(306) Loan to another company (11) Proceeds from sale of prop,plant&equip 62 Net cash used for investing activities $(255)

Computing Acquisition and Sales of Property, Plant & Equipment

Property, Plant & Equipment (Net)
Beginning balance Acquisitions Ending balance Depreciation Carrying amount of assets sold

Computing Acquisition and Sales of Property, Plant & Equipment

From the sale of property, plant & equipment:

Cash received = Carrying amount + Gain-Loss

Computing Acquisition and Sales of Investments

Investments
Beginning balance Purchases Ending balance Carrying amount of investments sold

Computing Loans Made & Their Collections

Loans and Notes Receivable
Beginning balance New loans made Ending balance Collections

Question #2
The gain portion of a gain on the sale of machinery would be shown on the cash flow statement as a. b. c. d. An increase to operating activities A decrease to investing activities An increase to investing activities A decrease to operating activities

The Indirect Method: Financing Activities

Cash Receipts Issuance of shares Sale of shares Borrowing (issuance of notes or bonds payable) Cash Payments Repurchase of shares Payment of notes or bonds payable Payment of dividends

Cash Flow Statement: Financing Activities

Cash Flow Statement (Indirect Method) For the Year Ended December 31, 2011 (In thousands)

Cash flows from financing activities: Proceeds from issuance of common shares $101 Proceeds from issuance of long-term debt 94 Payment of long-term debt (11) Payment of dividends (17) Net cash provided by financing activities $167

Computing Issuances and Payments of Long-Term Debt

Long-Term Debt
Payments
Beginning balance Issuance of new debt Ending balance

Computing Issuances and Repurchases of Shares

Common Shares
Repurchase of shares
Beginning balance Issuance of new shares Ending balance

Computing Dividend Payments

Retained Earnings
Dividend declarations and payments Beginning balance Net income Ending balance

Question #3
In 2011, ABC Company borrowed $50,000 (due in 5 years), paid dividends of $12,000, issued 2,000 shares of stock for $30 per share, purchased land for $24,000 and received dividends of $6,000. Net income was $85,000. How much should be reported as net cash provided by financing activities?

a. $110,000

b. $80,000

c. 98,000

Noncash Investing and Financing Activities

Suppose Bradshaw Corporation issued common shares valued at $320,000 to acquire a warehouse.
Warehouse Building Common Shares 320,000 320,000

Noncash Investing and Financing Activities

Non cash investing and financing activities are reported in a separate schedule. They are not reported on the cash flow statement because they do not involve cash

Measuring Cash Adequacy: Free Cash Flow

Free cash flow is the amount of cash available from operations after paying for planned investments in capital, equipment, and other long-term assets.
Free cash flow = Net cash flow from operating activities Cash outflow earmarked for investments in capital, equipment, and other long-term assets

Question #4
A firms predominate recurring source of cash over the long-run should be: a. b. c. d. Borrowing Sale of nonrecurring assets Sale of capital stock Operations

End of Chapter 12