Discussion wk 5-7

GAAP requires companies to use the allowance method when preparing financial statements (Averkamp, 2014).
However, the use of this method is not permitted for the purposes of reporting income taxes in the U.S. because
the IRS does not allow companies to anticipate these credit losses (Averkamp, 2014). Therefore, companies have
to use thedirect-write-off method for income tax reporting (Averkamp, 2014). In the direct write-off method,
accounts receivable is only reduced if and when a company knows for sure that a specific amount will not be
collected from that specific customer (Averkamp, 2014).
Moreover, the direct write-off method is not considered generally accepted accounting for financial purposes for
two reasons i.e. firstly, this method uses no allowance for uncollectibles, therefore, receivables are always reported
at the full amount, which is more than the business expects to collect (Harrison et al, 2013, p.300). In other
words, assets on balance sheet may be overstated (Harrison et al, 2013, p.300). Secondly, this method fails to
recognize the expense of uncollectible accounts in the same period in which the related sales revenue is earned
(Harrison et al, 2013, p.300).
Because of these two deficiencies, all large companies use the allowance method for preparing their financial
statements (Harrison, et al, 2013, p.300)

Here are the 5 basic prinicple of Cash management and how management can implement it in their own
companies:

1) Increase speed of receivables collection
This means getting cash from customers as quick as possible. Management can implement this by giving discounts
for early payment.
2) Keep inventory low
Maintaining a large inventory means that company has a lot of cash tied up. Keeping inventory levels in check
increases amount of cash on hand. Management can implement this by using computer algorithms and past data to
speculate amount of inventory needed at a particular time.
3) Monitor payment of liabilities
Companies should not stretch payments past due dates and pay all liabilities on time so that not to damage the
credit rating of the company. Management can implement this by automatic bill pay or checking bills on the same
day of the month each time.
4) Plan timing of major expenditures
Companies should plan all major expenses when the company is in time of excess cash. Management can
implement this by discussing the companies financials and strategies at meetings.
5) Invest Idle cash
This means that any excess cash should not sit idly, as it earns nothing. Managers should invest untied cash to
earn more money, there are many types of investments, but companies love risk-free investments and liquid
investments as they can pull the cash out whenever necessary. Management can implement this by hiring outside
firms whos expertise is investments can yield them the highest returns possible
Stocks Bonds
Pros Owner get dividends
Own part of the corporation
Can sell at any time
Interest paid on bonds are tax deductible



Ownership not diluted by adding owners
Able to acquire assets using others money
Paid out before stockholders in bankruptcy
Cons Dividends are not tax deductible
Risk of losing money (price fluctuates)
Owners receive only agreed upon interest
Seller must pay interest
Paid on specific time frame

1. Why do companies issue bonds when they can issue stock?
Well this stems to the principle that issuing stock means that portions of the company is being sold for cash. When
a company issues a bond that means that the company is looking for a secure loan from people that issue a secure
interest payment depending upon the bond terms.

Advantages of issuing a bond is that you do not loose a portion of the company. If you sell more the stock, the
stock you own becomes a smaller piece of the company. Therefore a controlling interest can have a way to buy out
the remaining stock and take over the business (hostile takeover?). Issuing a bond is a cheaper alternative then
getting money from the bank, usually the interest rate and the terms are better. Getting a bond is a sign that a
company is in good health because they would not do that unless they could pay back the bond eventually. Finally
that bond holders do not have a say in business matters unlike stockholders. Also when a company goes bankrupt
usually bond holders will receive a portion of their money which investors may never get back.

Drawbacks for issuing a bond the more bonds you release the more bond holders risk in loosing money. There can
be a problem when a company issues too many bonds of cash flow, because bond payments must be made and it
usually comes out of the cash section. If the company wants to expand its shareholders, having bond holders will
scare off major buyers because they would receive their money only after creditors are paid.

The market price of a bond is determined using the current interest rate compared to the interest rate stated on
the bond. The value of a bond can be calculated as follows:

cost of bond = Market price as a percentage x par value of bonds issued
semiannual interest revenue = 1/2 the annual face interest rate the face amount of the bond


Walter T. Harrison; Charles T. Horngren; C. William (Bill) Thomas. Financial Accounting, VitalSource for DeVry
University. 9th Edition. Pearson Learning Solutions, 2013. VitalBook file. Bookshelf. pg 467. 529,536

A contingent liability is a potential liability that depends on the future outcome of past events. Examples of
contingent liabilities include: future obligations that may arise because of lawsuits, tax disputes, or alleged
violations of environmental protection laws. The rules for presentation of contingent liabilities include: 1. Accrue a
contingent liability if its probable that the loss will occur and the amount can be reasonably estimated; 2. Disclose
a contingency in a financial statement note if its reasonably possible that a loss will occur; 3. There is no need to
report a contingent loss that is unlikely to occur.
Harrison, WT., Horngren CT., Thomas CW. "Financial Accounting". 9th Edition. Pearson Publishing. (pg 524-525)
Q:how is the stockholder's equity section of corporate balance different from a single-owner?

A single owner buisness is started by one person investing their money into the buisness. Therefore all the
earnings will go directly to the one owner as no one else has stake in the company.
Corporate businesses often have shares of stock owned by investors allowing for more money to be invested, at a
faster rate, in building the corporate business. The equity earned with multiple stockholders is not soley for the
main owner but now dividends must be paid out to stockholders based on their investments. The multi-investor
stake in the company results in less autonomy as the owner may want to make riskier investments, etc. however
the stockholders have a say in the decisions being made about how the company is being run.
This difference between the two set ups is also noted in the entries of the balance sheet for a corporate vs. single
owner buisness. First sole proprietorships are not required by law to compose a balance sheet while a publicly
traded corporation is. However most single owned buisness will still create a balance sheet for their own purpose of
managing a buisness.
One main difference in the balance sheet is simply the labels. In a corporation the equity sectoin is labeled
shareholders equity, as the stockholders have a share in the corporation. However in a single owner company it is
labeled as owners equity as there is just one owner. The owners equity section differs from the shareholders equity
section , as it does not include stock shares, or dividends, since these terms are not applicable to a single owner
businesses. Sole proprietorships just need to report capital.
There is also a term referred to as treasury stock. Treasury stock is when a company will buy back its shares from
investors. This is done by many corporations as the buisness may hope to sell the stock later for a higher price, if
managment wants to regain control over the company and avoid a possible take over by the investor, and many
other reasons. This is recorded as a contra strockholders equity account.
In the assets section it may be seen that corporate businesses own stock in other buisnesses.
In the liabilities section corporate buisnesses will include bonds payable for instance which would not be seen in a
single owner business, in which there is no one to pay out bonds too.
Financial Accounting pg 582-597

In week 7, we concluded our discussion of financial statements by going over the tools that are used to analyze the
information presented in the financial statements. We learned about the purpose of the different tools of analysis.

At the end of this discussion, you should be able to use the various tools of financial statement analysis to evaluate
the short-term and long-term financial health of a business as well as its performance.

Horizontal analysis is best used for comparing year over year trends in accounts.

Ratio analysis is much more focused as we can measure liquidity, solvency, and profitability. The other major
benefit of ratio analysis is that we can compare companies of all different sizes because ratios use proportions
which adjusts for size differences between companies. We can also compare company ratios versus published
industry ratios. Robert Morris Associates produces industry ratios.

I like to think of vertical analysis as a pie chart because we can quickly see what percentage of net sales is made
up of Cost of Goods Sold and other expenses and what percentage of total assets is made up of debt and equity.

Honestly, ratio analysis and horizontal analysis are my favorite types.

As important as these tools are to assess financial health, it is also critical to look at the future vision of the
company as can be seen by the failure of Hollywood Video and Circuity City.

1. what information is desired by external users of financial statements;
2. about operating activities, investing activities, and financing activities;
see pg 711 and 721RECEIPTS
3. the definitio of asset, liability, equity, revenue, and expense:
p17-20
4. what items appear under each classification in the balance sheet;
162, 164 (intangible assets)
5. how to compute earnings per share;
p661, (p541) EPS =[ net income - preferred dividen
weighted avg # of shares of common stock
6. about a ledger account, its different parts, the rules of debit and credit, and the meaning of the
term normal balance of an account;
E2-21 pg 99, p 82-86
7. the meaning and purpose of adjusting entries, and the different types of adjusting entries;
ch3, p 152-3, (141),
8. the difference between periodic and perpetual inventory systems;
p342, 357 (COGS-periodic)367 definition, 393
9. the components of cost of merchandise inventory (e.g., invoice price less discounts plus
whatever other items are included or excluded);
p339, (344),
10. the main points of difference among the four inventory cost-flow assumptions that you learned
about.
p345, ch 6
For the problem questions worth 90 points, you should
1. know how to prepare a single-step and a multiple-step income statement and calculate certain
ratios based on the numbers in the income statement;

p 136 (single step) vs p165 (multistep) -173
current ratio = total current assets/ total current liabilitis ,

debt ratio=total liab/total asset

Gross profit = sales revenue - COGS

Gross profit rate(or %) = gross profit/ net sales

Profit margin = net income / net sales
Operating Expenses to Sales Ratio = Operating Expenses Net Sales
Inventory Turnover Ratio = Cost of Goods Sold/Average Inventory
avg inventory = [beginnign +ending] / 2

2. be able to create journal entries;

p222

3. be able to apply your knowledge of the internal control objectives and principles.

p235, p666,

Internal controls policies and procedures implemented by company management and board of directors to
accomplish the following goals:
1. Safeguard assets: to protect against waste, inefficiency and fraud
2. Encourage employees to follow company policy that ensures fair treatment of both customers and
employees
3. promote operational efficiency which minimizes waste, lower costs and increase profits
4. ensure accuracy and reliability of financial information
5. ensure compliance with legal requirements to avoid fines or other legal difficulties
The implementation of internal controls prevents fraud through strict regulations that provide a good way to
monitor what employees are doing, and how money is being spent. The internal controls for public
companies are kept up to date based on the Sarbanes-Oxley Act .
Financial accounting textbook p 235

For the essay question worth 30 points, you should know
1. about a ledger account, its different parts, the rules of debit and credit, and the meaning of
the term normal balance of an account; and
1) Assets - Normal balance is a debit (Cash, Accounts Receivable, Inventory, Prepaid Expenses, Supplies,
Equipment, Land are examples.) This means these accounts are increased by debits and decreased by
credits.

2) Liabilities- Normal balance is a credit (Accounts Payable, Salaries Payable, Unearned Revenue, Notes
Payable, Bonds Payable are examples). This means these accounts are increased by credits and
decreased by debits.

3) Stockholders' Equity - Normal balance is a credit (Common Stock, Preferred Stock, Additional Paid-in
Capital, Retained Earnings are examples). This means these accounts are increased by credits and
decreased by debits. The exceptions are expenses and dividends which reduce retained earnings.

4) Revenue - Normal balance is a credit (increases Retained Earnings)

5) Expenses - Normal balance is a debit (decreases Retained Earnings)

6) Dividends - Normal balance is a debit (decreases Retained Earnings)
(discussion summary by Dr. Wright)
Th e type of account determines how we record increases and decreases. Th e rules of debit and credit
follow in Exhibit 2-3 .
Accounting is based on a double-entry system that records dual effect on each entity. Each transaction
affects at least 2 accounts for the purpose to keep the accounting equation in balance. The T accounts
divides account into two sides. On a T.-account, the Left is debit and the Right is credit. Accounts have
normal balances that falls either on the left or right side when it increases in amount.
Increases in assets are recorded on the left (debit) side of the account. Decreases in a ssets are
recorded on the right (credit) side. You receive cash and debit the Cash account. You pay cash
and credit the Cash account.
Conversely, increases in liabilities and stockholders equity are recorded by credits. Decreases in
liabilities and stockholders equity are recorded by debits.
Analyze the impact
of business transactions
on accounts
p73

Question 12.12. (TCOs B and E) The following information is available for Partin Company.

Sales $598,000
Sales returns and
allowances
20,000
Cost of goods sold 398,000
Selling expense 69,000
Administrative expense 25,000
Interest expense 19,000
Interest revenue 20,000

2. about an accounting information system and its components (e.g., ledger accounts, trial
balance, etc.).

Harrison, W. T., & Horngren, C. T. (2013).Financial accounting (9th ed.). Boston: Pearson.(p.
An accounting information system (AIS) is a structure that a business uses to collect, store, manage,
process, retrieve and report its financial data so that it can be used by accountants, consultants,
business analysts, managers, chief financial officers (CFOs), auditors and regulatory and tax agencies. AIS
consists of six main parts: people, procedures and instructions, data, software, information technology
infrastructure and internal controls. The people are the users that access the AIS such as the
accountants, managers, CFOs, auditors and consultants. The procedures and instructions are the
methods the company uses to collect, store, retrieve and process data that is in the AIS. Information is
received from everywhere but there is a strict protocol that is followed and coded into the software for
entry into the AIS. The data component is all the financial information that is pertinent to the business.
For example, sales orders, tax information, general ledgers, payroll and so on. The software component
of an AIS are the programs that are designed and used to allow ease of access to all the information and
communication between departments. The information technology infrastructure is the hardware that
is needed in order to run the software and supplicant applications. This will consist of the servers,
computers, printers, storage memory drives and so on. The internal controls are the security measures
that are implemented to control who has access to the AIS and restriction to how much sensitive
information can be viewed and data entry done. These can be setup with password and user logins for
example.
http://www.investopedia.com/articles/professionaleducation/11/accounting-information-
systems.asp

FINAL
7. Exam Questions
There are 14 randomly selected multiple choice questions each worth 5 points, for a total of 70
points. Some of the multiple choice questions are problem based.
There are 5 randomly selected essay questions each worth 36 points, for a total of 180 points.
Of the 5 essay questions, 4 of the essay questions are problem based because this is an
accounting course.
The Final Exam covers all course TCOs and Weeks 17.
The Final Exam consists of 2 pages, which can be completed in any order. You may go back and
forth between the pages.

For the multiple choice questions worth a total of 70 points, you should know
1. the characteristics of the corporate form of business;
p583
2. about the term cash dividend;
p600
3. which accounts have debit or credit balances;
assets = liabil + equity ( beginning + net income - dividend); net income = reven - expen
debit = credit (except for expenses and divdend)
normal balance p 86
4. the difference between cash-basis versus accrual-basis of accounting;
p137
5. the meaning and implications of using FIFO, LIFO, and weighted average cost-flow assumptions;
p349
6. how to calculate depreciation using the straight-line method;
p408 (ch7)

In order to reduce income tax payments, I would use the accelerated depreciation method of the double-
declining-balance. This is because the DDB method computes the depreciation by a constant percentage
that is twice the depreciation rate of the straight line method. In doing so, the fastest tax deductions are
available and thereby lower the amount of required income tax payments. This frees up or conserves
cash for the company to use elsewhere - reinvest in themselves, pay expenses, etc.

Harrison et. al. (2010). Financial Accounting (8th Ed.). Boston, MA: Pearson Education. pp.420-425.
411-420.


A manager who wants to reduces taxes on the Income Statement should select a declining balance
method for depreciation because this will reduce taxes on the Income Statement.

On the other hand to maximize profits on the Income Statement, the company would select the straight-
line method.

7. the journal entry for the issuance of bonds (at par, discount, or premium) and for the issuance
of stock (at par or above par);
p550, bond price x #bonds x quoted percentage = issuing price
p589
8. how to determine the market value of a bond;
? - to calculate market value of bond, need to find out the present value of all the future cash
payments promised by the bond
9. the various adjustments that are made to net income in arriving at net cash flow from operating
activities;
net income
+ expense (depreciation/depletion/amortiza)
+loss of sale (end balance - beginning balance = net sale)
-gain on sale
- increase in current asset
+decrease in current asset
+increase in current liab
-decrease in current liab
= net cash for operating activities
10. the different tools of financial statement analysis, and how each tool is used, as well as the
different names for certain tools of analysis;
ch13, 775 horizontal, vertical, ratio analysis
- ratio analysis does not evaluate marketability of product
- commonmeasure of profitability is retunr on common stockholder's equity ration
- helth company =
majority cash from operations (not the "use" of cash),
investing activities include more purchases than sales of long-term assets,
and financing activities not dominated by borrowing!
11. ratio analysis - pg 785, 801
12. long term-creditors - interested in evaluating solvency
13.


Williams, J. (2012). Financial and Managerial Accounting. pp 626. 16th Edition.

14. the different ratios, why or how those ratios are used, and which external user is interested in a
certain ratio. Below is a list of helpful illustrations that provide illustrative examples of ratios.

1. Days Sales Outstanding will show how much the company collected in accounts receivables during the
collection period, with a low number of days means that the company gets the cash faster.
Equation 1: (Net Sales)/(365 days) = Average Daily Sales
Equation 2: ( (Beginning Net Receivables + Ending Net Receivables) / 2) / Average Daily Sales
Equation 2 shows the Average Net Receivables by taking the average between the beginning and ending account
amounts.
2. Accounts Receivable Turnover shows how much is collected from accounts receivable as another source of
income for the company.
Equation: (Net Sales) / (Average Accounts Receivables) = Accounts Receivable Turnover
3. The Quick Ratio will show if and how quickly the company can pay current liabilities using cash, short term
investments and accounts receivable.
Equation: (Cash + Short Term Investments + Accounts Receivable) / Total Current Liabilities = Quick Ratio
Financial Accounting, pages 306-307.
There are different ratios used in financial analysis all of which are geared towards
approaching financial activities for its internal and external users to make sound financial
decisions. They can be used to identify companys strengths and weaknesses and establish
trends that can help predictions for future market activity. Data generated from these ratios
take a multi-dimensional approach to viewing all the different facets within organizational
finance helping to ensure that a company maintains its stability and profitability.

Different tools to analyze financial statements are important for a number of reasons. First off, comparing the
ratios of different companies may be helpful in understanding their performance and health, but using

1.horizontal / trend analysis (percentage changes from year to year) and overview past financial information with
current information (subtract current from previous / previous year) a way that allows the viewer to understand
the extent of increase or decrease in specified areas

(Current Year Amount - Prior Year Amount) x 100
Prior Year Amount

2. vertical analysis/ common-size can help show the way that they have been trending over time. is listed as a
percentage of the base. In doing so, one can compare companies of considerably different sizes.
= each income statement item / net sales (revenue) if net sales is the base

For the problem-based essay questions worth a total of 144 points, you should know
1. how to calculate the different ratios that you learned in this class;
Target copr pdf - how to calculate horizontal analysi
1) The cash flow provided by operations decreased by 2% ($5,325 minus $5,434) divided by $5,434).
This decrease was due to deferred income taxes, gain on receivables held for sale, and other non-current
assets.

2) The cash flow provided by investing activities decreased by 31.7% ($2,855 minus $4,180) divided by
$4,180). This decrease was due to a significant decrease in expenditures for property and equipment.

3) The cash flow required for financing activities increased by 16.3% ($2,488 minus $2,140) divided by
$2,140). This increase was due to reductions of short-term debt without any additions to short-term debt.

2012
2011 Calculation
Percentage
change
Operating 5,325 5,434 5434-5325/5434 2% decrease
Investing 2855 4180 4180-2855/4180 31.6% decrease
Financing 2488 2140 2140-2488/2140 16.2% increase
The decrease in operating value can be accounted to the decrease in the deferred income taxes noted
between 2012 adn 2011. There was also a decrease in noncash gains and losses. The accounts payable
and other liabilities also showed a decreased value between the two years.

The decrease in investing activities can be accounted to the decrease in expenditures for property and
equipment between 2012 adn 2011. There was even a minor decrease in 'other investments'

The company noted an increase in financing activities probably due to the higher payout of dividends and
the increase in stock that was bought back by the company.


Target
Statement of Cash flows:
2012 2011

Operating act. 5,325 5,434 109/5,434 2% Decrease

Investing act. (2,855) (4,180) 1,325/4,180 31.6% Decrease

Financing act. (2,488) (2,140) 348/2,140 16.2% Increase

Operating Activities demonstrated a overall 2% decrease due to a 103% decrease in the differed income tax and a
significant decrease of 16% in accounts receivable from 2012 to 2011.
Investing activities demonstrated a decrease by 31.6% due mostly to a 25% reduction in expenditures for property
and equipment.
Financing activity demonstrated a 16.2% increase mostly due to a approximate 16 % increase in
dividends paid and increase in reacquisition of stock bought back.


2. how to prepare an income statement and statement of retained earnings;
p 188: E3-40B practice
3. how to prepare the schedule of expected cash collections from customers and the schedule of
expected cash payments for purchases of inventory;
p723 (ch6)
4. how to prepare journal entries including adjusting entries; and
p152, 90, 159, 182
5. how to classify various items on the statement of cash flows.
p702-3, 711,734, 737 (ch12), 721

The statement of cash flows is important because along with the other accounting statements such as the balance
sheet it helps to give full insight into a companies financial activities.
This statement shows the cash receipts and cash payments over a certain time period. There are four main
purposes. It can predict future cash flow based on the past/previous financial patterns of the company. It can
evaluate management decisions as it is the best way to determine how a manager is getting cash and if they are
properly spending the cash. This statement determines a companies ability to pay dividends and interest. This is
important because it is vital information to stockholders who want assurance that their dividends will be paid in a
timely fashion. Lastly this is an important statement as it demonstrates the relationship between income and cash
flow. This helps to assess if there is proper and financially reasonable expenditure of cash.
The statement of cash flow does not solely deal with cash, it can work with cash equivalents taht could be
liquidated in the future, such as investments.
Essentially the statement of cash flow is extremley important for investors and managers to determing how a
company makes profit/cash and what is done with that cash. It is a way to reassess monetary spending and where
possible cutbacks are etc.
It is important to be able to asses where the profit made is going. It could be possible for the total income to be
reported and seem like a good profitable value but it is not until the cash flow statement is viewed and it is seen
how that money is used that a company can be properly assessed, as all the profit could be tied up in investors,
etc.
Financial Accounting 698-705
The statement of cash flows is important largely because the income statement is completed on the basis of
accrual accounting. With that said, while revenues and expenses may be reported on the income statement, they
may not have actually been collected or paid, respectively. So one reason the cash flows statement is required is
to simplify this discrepancy. It integrates the information and provides the information of who was paid and when,
and when the company actually received the cash. Another reason for the cash flows statement is that the cash
from operating activities is compared to the net income - if the cash is greater than the net income, the company's
net earnings or income are said to be "high quality" since the reported income is largely turned into cash for the
company. This statement obviously shows the flow of cash - thereby indicating whether or not the company is
bringing in more cash than it is using. If so, it may be able increase its dividend, repurchase a portion of its stock,
pay its debts, expand, etc - all good things for stockholder value.
On page 6 of IBM's 10Q below, you will find a statement of cash flows.

http://www.sec.gov/Archives/edgar/data/51143/000110465909060554/a09-26663_110q.htm

For 2009, IBM brought in over $14 billion in cash flow from their operating activities but spent $4 billion on
investments and over $13 billion on financing activities. Of this $13 billion, they paid back $7 billion in debt, bought
back $4 billion in stock, and paid $2 billion in dividends.

When a company buys back stock, they are showing the investors that they have confidence in the company's
prospects while reducing the shares outstanding.

By reducing the shares outstanding, the denominator in the Earnings Per Share (EPS) becomes smaller so given
the same Net Income the Earnings Per Share will rise.

EPS is a key metric used by analysts when valuing stock.
Looking at the cash flow statement, first focusing on the operating activities it is obvious to notice that there is a
good increase in net cash between 2008 and 2009. This is always encouraging as it shows company growth. The
main difference arose from the " changes in operating assets and liabilities, net of acquisitions/divestitures". This
section includes non-cash current assets and liabilities. So the company must have had an increase in the accounts
receivable and other non cash current assets.
Looking at the company's expenses over the two year period focuses on the investing activities. About half as
much money was used in investing activities in 2009 than in 2008. The biggest cut back was in the money spent in
acquisition of businesses.
The financing activities show much more financial activity in 2009 than 2008. More money was spent to settle debt,
and a higher dividend was paid. Half as much money was spent in repurchasing common stock.
On Sep 30 2008 the company had a higher value of cash and cash equivalent than in 2009. However it is important
to note the use of the cash, and I feel as if IBM made good use of their net cash in 2009 by making a more stable
company through paying off debt, and buying back common stock.
Dividends are distributions to stockholders which can be paid in cash, stock, or other property.

Dividends are not tax-deductible for the corporation so it is often more advantageous to issue debt rather than
stock because interest expense is tax-deductible.

Dividends paid can be found within the financing section of the Statement of Cash flows.
The primary purpose of the statement of cash flows is to provide information about an entitys cash receipts and
cash payments during a period. A secondary objective is to provide information on a cash basis about its operating,
investing, and financing activities. The statement of cash flows therefore reports cash receipts, cash payments, and
net change in cash resulting from operating, investing, and financing activities of an enterprise during a period. The
information is presented in a format that reconciles the beginning and ending cash balances.

The information in a statement of cash flows should help investors, creditors, and others assess the following:

The entitys ability to generate future cash flows.
The entitys ability to pay dividends and meet obligations.
The reasons for the difference between net income and net cash flow from operating activities.
The cash and non-cash investing and financing transactions during the period.

A new company would normally have negative operating net cash flow, and consequently, would not be able to
generate enough cash flow from operations to cover its investing activities. Much of its cash flow would come from
financing activities (sale of stock, bonds etc.). A more mature company like IBM would have stronger operating
cash flow and would be able to use this money to invest in the business, buy back stock, or pay dividends.

Important items to understand:

The purpose of the statement of cash flows.
How to prepare a statement of cash flows using the indirect method.

For the essay question worth a total of 36 points, you should know
1. the objectives of internal control and the internal-control principles, and you should be able to
assess the strengths and weaknesses of internal control.

pg 238

As defined by our text, Internal Control refers to an organizational plan and a system of procedures
implemented to safe guard assets from waste, inefficiency and fraud. Its in place to encourage employees
to follow company policy and to work towards a common goal that allows for fair treatment of both
customers and employee. Its used to promote operational efficiency to minimize waste, which lowers cost
and increases profit. It also allows a company toensure accurate, reliable accounting records that will
allow for identification any potential company loss through bad business. It is also intended to comply with
legal requirements set forth by regulatory agencies such as the SEC, IRS and state, local, and
international governing bodies. If this is not followed companies they can be fined and in extreme cases
top executives can even be charged and serve prison time. US congress has even passed laws to require
companies that sell publicly traded stock to maintain a system of internal controls and to require auditing
reports to support reliability. This sets the platform for Financial Responsibility which was embodied within
the Sarbanes-Oxley Act of 2002 (SOX) which revamped the provisions of public companies.

References: Harrison, Walter T., Charles Horngren, C. William Thomas. Financial Accounting, VitalSource
for DeVry University, 9th Edition. Pearson Learning Solutions, 02/2013. VitalBook file. p. 235-236
Internal control is a system that prevents fraud from within the company. Every internal control system should
consider the following.
1. owners and top managers must conduct themselves in an ethical manner. It has been shown that when
unethical behavior is observed by employees, employees are then more likely to indulge in unethical or even
fraudulent behavior themselves.
2. develop a system that accurately records incoming and outgoing assets as they occur.
3. separation of duties. people who handle cash should have no access to the books and vice versa. Also,
departments should also be physically separate and each department should only have access to information
pertinent to their duties. All information and resources should be have passwords and firewalls or locked away.
Additionally, there should be checks and balances in place, approvals for certain transactions, and safeguards to
protect from theft.
4. A good monitoring system for all these controls. This can be built into a computer system, having internal audits
and external audits. In general, one transaction should never be followed through from beginning to end by one
person.
Financial Accounting chapter 4, starting on page 234

Section 404 of the SOX act requires a company's annual report to include an internal control report of management
that contains:
A statement of management's responsibility for establishing and maintaining adequate internal control
over financial reporting for the company;
A statement identifying the framework used by management to conduct the required evaluation of the
effectiveness of the company's internal control over financial reporting;
Management's assessment of the effectiveness of the company's internal control over financial reporting
as of the end of the company's most recent fiscal year, including a statement as to whether or not the
company's internal control over financial reporting is effective.
A statement that the registered public accounting firm that audited the financial statements included in
the annual report has issued an attestation report on management's assessment of the registrant's
internal control over financial reporting.
I feel that section 404 allows for consistent standard for management's report on internal control among different
types of publicly traded companies. This would help investors to fully understand and compare the quality of
various management internal control reports, and therefore make better informed decisions on where to invest.

http://www.sec.gov/rules/final/33-8238.htm#iib2


During the 90s and early 2000s, some companies (Enron, Worldcom, Qwest) were involved with massive
fraud. Corporations began creating false revenue streams, hid their losses, and falsified sales. With this, the SOX
Act and section 404 was introduced and was designed to set a standard and monitor the companys internal
controls. Although I am not a fan of government overreach and heavy regulations, I find the implementation of
this law was necessary to prevent massive fraud. As mentioned above, compliance with the law may result in
more expensive internal costs. I found a survey that asked companies if their cost increased or decreased, 29%
had an increase and 48% had a decrease. Some reasons for increase in cost were companies implementing new IT
systems or other large acquisitions. Some reasons for a decrease included more automated controls and a
restructured business and financial system.
http://www.financialexecutives.org/KenticoCMS/Financial-Executive-Magazine/2012_07/Sarbanes-Oxley--A-
Decade-Later.aspx#axzz399flNCFm

Internal controls are designed to safeguard assets and enhance the accuracy and reliability of financial reporting as
explained in your text.

The internal control procedures are:

1) Smart hiring practices and Separation of duties
2) Comparisons and Compliance Monitoring
3) Adequate records
4) Limited Access
5) Proper approvals

These procedures are the ones to utilize as you identify strengths and weaknesses in your Case Study 2 paper due
at the end of next week.

Sarbanes-Oxley, although expensive, has firmly entrenched management as being responsible for the internal
controls of the company. This is vital since the tone is really set at the top.

Thank you for your efforts once again this week.
Question 1.1.
(TCO A) Below you will find selected information (in millions) from Coca-Cola Co.s 2012 Annual Report:
Income Taxes Payable $471
Short-term Investments and
Marketable Securities
8,109
Cash 8,442
Other non-current Liabilities 10,449
Common Stock 1,760
Receivables 4,812
Other Current Assets 2,973
Long-term Investments 10,448
Other Non-current Assets 3,585
Property, Plant and Equipment 23,486
Trademarks 6,527
Other Intangible Assets 20,810
Allowance for Doubtful
Accounts
53
Accumulated Depreciation 9,010
Accounts Payable 8,680
Short Term Notes Payable 17,874
Prepaid Expenses 2,781
Other Current Liabilities 796
Long-Term Liabilities 14,736
Paid-in-Capital in Excess of Par
Value
11,379
Retained Earnings 55,038
Inventories 3,264
Treasury Stock 35,009

Other information taken from the Annual Report:
Sales Revenue for 2012 $48,017
Cost of Goods Sold for 2012 19,053
Net Income for 2012 9,019
Inventory Balance on 12/31/11 3,092
Net Accounts Receivable Balance on 12/31/11 4,920
Total Assets on 12/31/11 79,974
Equity Balance on 12/31/11 31,921