Chapter 13, Problem 21E

A.

To determine

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

Answer to Problem 21E

T Industries
Statement of Cash Flows - Direct Method (Partial)
Year Ended June 30
Details	Amount ($)	Amount ($)
Cash flows from operating activities:
Add: Cash receipt:
Cash received from customers	522,760
Total cash receipt		522,760
Less: Cash payments:
Cash payment for merchandise	(302,400)
Cash payment for operating expenses	(99,960)
Cash payment for income taxes	(24,360)
Total cash payments		(426,720)
Net cash provided by operating activities		$96,040

Explanation of Solution

Statement of cash flows: It is one of the financial statement that shows the cash and cash equivalents of a company for a particular period. It determines the net changes in cash through reporting the sources and uses of cash due to the operating, investing, and financing activities of a company.

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.

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.

Cash Receipts: It encompasses all the cash receipts from sale of goods and on account receivable.

Cash Payments: It encompasses all the cash payments that are made to suppliers of goods and all expenses that are paid.

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

Cash flows from operating activities (Direct method)

Add: Cash receipts.

Cash receipt from customer

Less: Cash payments:

To supplier

For operating expenses

Income tax expenses

Net cash provided from or used by operating activities

Table (1)

Working notes:

Calculate the amount of cash received from customers:

$\begin{array}{c}\left(\begin{array}{l}\text{Cash received }\\ \text{from customers}\end{array}\right)=\left[\text{Sales}\text{revenue }\left(\begin{array}{l}+\text{Decrease in Accounts Receivable}\\ \text{OR}\\ -\text{Increase in Accounts Receivable}\end{array}\right)\right]\\ =\left(\text{Sales}\text{revenue + Decrease in Accounts Receivable}\right)\\ =\left(\$511,000+\$11,760\right)\\ =\$522,760\end{array}$

Calculate the amount of cash paid for merchandise:

$\begin{array}{c}\text{Cash paid for merchandise}=\left[\begin{array}{c}\text{Cost of Goods Sold}\\ \left(\begin{array}{l}+\text{Decrease in Accounts Payable}\\ \text{/Increase in Inventory}\\ \text{OR}\\ -\text{Increase in Accounts Payable}\\ \text{ /Decrease in Inventory}\end{array}\right)\end{array}\right]\\ =\left(\begin{array}{c}\text{Cost of goods sold }\\ \text{+ Decrease in} \text{Accounts Payable }\\ +\text{Increase in Inventory}\end{array}\right)\\ =\$290,500+\$7,980+\$3,920\\ =\$302,400\end{array}$

Calculate the amount of cash paid for operating expenses:

$\begin{array}{c}\begin{array}{l}\text{Cash paid for }\\ \text{operating expenses}\end{array}\}=\left[\begin{array}{l}\text{Operating expenses other than depreciation}\\ \left(\begin{array}{l}+\text{Decrease in accrued expense payable}\\ \text{Increase in prepaid expenses}\\ \text{OR}\\ -\text{Increase in accrued expense}\text{tax payable}\\ \text{Decrease in prepaid expenses}\end{array}\right)\end{array}\right]\\ =\left(\begin{array}{l}\text{Operating expenses other than depreciation}\\ -\text{ Increase in accrued expense payable}-\\ \text{Decrease in prepaid expenses}\end{array}\right)\\ =\left(\$105,000-\$1,260-\$3,780\right)\\ =\$99,960\end{array}$

Calculate the amount of cash payments for income taxes.

$\begin{array}{c}\left(\begin{array}{l}\text{Cash payments for}\\ \text{ income taxes}\end{array}\right)=\left[\text{Income tax expense }\left(\begin{array}{l}+\text{Decrease in income tax payable}\\ \text{OR}\\ -\text{Increase in income tax payable}\end{array}\right)\right]\\ =\left(\text{Income tax expense}\text{+ Decrease in income tax payable}\right)\\ =\left(\$21,700+\$2,660\right)\\ =\$24,360\end{array}$

Conclusion

Therefore, the net cash provided by operating activities under direct method is $96,040.

B.

To determine

Explain the Company’s cash flows from operating activities under direct method.

Explanation of Solution

The direct method shows the cash receipts (inflows) and payments (outflows) generated from daily operations. Cash received from operating activities is determined by deducting the cash payments from cash receipts. The individual cash receipts and payments are reported in the Cash Flows from Operating Activities section.

In the indirect method, adjusts the accrual basis net income for revenues and expenses. Thus, it does not involve the cash receipt or cash payment to arrive at cash flows from operating activities.