Chapter 12, Problem 7AE

a.

To determine

Prepare the operating activities section of the statement of cash flows under the direct method.

Explanation of Solution

Statement of cash flows: Statement of cash flows reports all the cash transactions which are responsible for inflow and outflow of cash and result of these transactions is reported as ending balance of cash at the end of reported period. Statement of cash flows includes the changes in cash balance due to operating, investing, and financing activities.

Cash flows from operating activities: Cash flows from operating activity represent the net cash flows from the general operation of the business by comparing the cash receipt and cash payments.

Direct method: The direct method uses the cash basis of accounting for the preparation of the statement of cash flows. It takes into account those revenues and expenses for which cash is either received or paid.

The below table shows the way of calculation of cash flows from operating activities using direct method:

Cash flows from operating activities (Direct method)

Add: Cash receipts.

Cash receipt from customer

Less: Cash payments:

To supplier

Interest expense

For operating expenses

Income tax expenses

Net cash provided from or used by operating activities

Table (1)

The operating activities section of the statement of cash flows under the direct method:

J Company
Statement of Cash Flows (Partial) - Direct Method
2017
Details	Amount ($)	Amount ($)
Cash flows from operating activities:
Collections from customers (Refer Note 1)	$273,000
Payment of rent (Refer Note 2)	(35,800)
Payment of utilities (Refer Note 3)	(18,150)
Payment of operating expenses (Refer Note 4)	(80,200)
Net cash provided by operating activities		$138,850

Table (2)

Working notes:

Note 1: Calculate the amount of receipts from customers.

$\begin{array}{l}\text{Amount of}\\ \text{collection}\\ \text{from customer}\end{array}]\text{= }\left[\begin{array}{l}\left(\text{Sales revenue}\right)\text{+}\\ \left(\text{Beginning accounts receivable}\right)\end{array}\right]-\left(\begin{array}{l}\text{Ending}\\ \text{accounts receivable}\end{array}\right)$

$\begin{array}{c}\begin{array}{l}\text{Amount of}\\ \text{collection}\\ \text{from customer}\end{array}]\text{= }\left[\$268,000\text{+}\$62,000\right]-\left(\$57,000\right)\\ =\$330,000-\$57,000\\ =\$273,000\end{array}$

Note 2: Calculate the amount of payment of rent.

$\begin{array}{l}\text{Amount of}\\ \text{rent paid}\end{array}]\text{= }\left[\begin{array}{l}\left(\text{Rent expense}\right)\text{+}\\ \left(\text{Ending prepaid rent}\right)\end{array}\right]-\left(\begin{array}{l}\text{Beginning}\\ \text{prepaid rent}\end{array}\right)$

$\begin{array}{c}\begin{array}{l}\text{Amount of}\\ \text{rent paid}\end{array}]\text{= }\left[\$36,000\text{+}\$1,100\right]-\left(\$1,300\right)\\ =\$37,100-\$1,300\\ =\$35,800\end{array}$

Note 3: Calculate the amount of payment of utilities.

$\begin{array}{l}\text{Amount of utilities}\\ \text{expense paid}\end{array}]\text{= }\left[\begin{array}{l}\left(\text{Utilities expense}\right)\text{+}\\ \left(\text{Beginning utilities payable}\right)\end{array}\right]-\left(\begin{array}{l}\text{Ending}\\ \text{utilities payable}\end{array}\right)$

$\begin{array}{c}\begin{array}{l}\text{Amount of utilities}\\ \text{expense paid}\end{array}]\text{= }\left[\$18,300\text{+}\$750\right]-\left(\$900\right)\\ =\$19,050-\$900\\ =\$18,150\end{array}$

Note 4: Calculate the amount of payment of operating expenses.

$\begin{array}{l}\text{Amount of operating}\\ \text{expense paid}\end{array}]\text{= }\left[\begin{array}{l}\left(\text{Operating expense}\right)\text{+}\\ \left(\text{Beginning operating payable}\right)\end{array}\right]-\left(\begin{array}{l}\text{Ending}\\ \text{operating payable}\end{array}\right)$

$\begin{array}{c}\begin{array}{l}\text{Amount of operating}\\ \text{expense paid}\end{array}]\text{= }\left[\$79,100\text{+}\$22,400\right]-\left(\$21,300\right)\\ =\$101,500-\$21,300\\ =\$80,200\end{array}$

Conclusion

Therefore, the cash flows from operating activities using direct method is $138,850.

b.

To determine

Prepare the operating activities section of the statement of cash flows under the indirect method.

Explanation of Solution

Cash flows from operating activities: Operating activities refer to the normal activities of a company to carry out the business.

Indirect method: Under this method, the following amounts are to be adjusted from the Net Income to calculate the net cash provided from operating activities.

The below table shows the way of calculation of cash flows from operating activities:

Cash flows from operating activities (Indirect method)

Add: Decrease in current assets

Increase in current liability

Depreciation expense and amortization expense

Loss on sale of plant assets

Deduct: Increase in current assets

Decrease in current liabilities

Gain on sale of plant assets

Net cash provided from or used by operating activities

Table (3)

The operating activities section of the statement of cash flows under the indirect method:

J Company
Statement of Cash Flows - Indirect Method (Partial)
2017
Details	Amount ($)	Amount ($)
Operating activities:
Net income		134,600
Adjustments to reconcile net income to net cash from operating activities:
Changes in operating assets and liabilities
Add: Decrease in accounts receivable	5,000
Decrease in prepaid rent	200
Increase in utilities payable	150
Less: Decrease in operating expense payable	-1,100	4,250
Net cash provided by operating activities		$138,850

Table (4)

Working note:

Prepare the schedule in the changes of current assets and liabilities:

Schedule in the Change of Assets and Liabilities
Details	Amount ($)			Adjustment in Operating Activities
Accounts	2017	2016	Increase/ (Decrease)
Accounts receivable	57,000	62,000	(5,000)	Add
Prepaid rent	1,100	1,300	(200)	Add
Utilities payable	900	750	150	Add
Operating expense payable	21,300	22,400	(1,100)	Less

Table (5)

Conclusion

Therefore, the cash flows from operating activities using indirect method is $138,500.