Chapter IE, Problem 10IE

1)

To determine

Introduction:

Cash Flow Statements:

• Cash flow statements are an integral part of the financial statements of a company. They reflect the direction and movement of the cash inflows and outflows during a reporting period. The cash inflows and outflows are segregated into the following activities:

1. Cash flows from Operating activities
2. Cash flows from Investing activities
3. Cash flows from Financing activities

There are two methods of preparing cash flow statements:

• Direct Method − It measures the actual cash inflows and cash outflows that are affected during a particular reporting period. The actual cash flows do not include non-cash items and items that are recorded owing to the accrual principle.

• Indirect Method −It measures the cash inflows and cash outflows that are affected during a particular reporting period including the non-cash items and items that are recorded owing to the accrual principle.

To Prepare:

Cash flow from operating activities.

Answer to Problem 10IE

Solution:

Cash flow from operating activities is $333,042.

Explanation of Solution

Particulars	Amount($)
Cash flows from Operating Activities
Net Income	$ 250,982.50
Add: Non-Cash and Non-Operating Expenses
Depreciation	$ 112,000.00
Change in Current Assets and Current Liabilities
Increase in Stock	$ (2,212.50)
Decrease in Accounts Receivable	$ 60,000.00
Decrease in Accounts Payable	$ (87,728.00)
Net cash flows from operating activities	$ 333,042.00

• The Cash flow statements measure the cash inflows and cash outflows that are affected during a particular reporting period including the non-cash items and items that are recorded owing to the accrual principle.

• Cash inflows and outflows from both balance sheet accounts such as accounts receivable, accounts payable, inventory, etc. as well as income statement accounts such as Sales, Depreciation Expense, etc. and the changes in the values from the preceding period and the effect of the same on the net income is detailed in the cash flow statement of the current year.

• Operating Activities refer to the results from operations of the business. This includes cash inflows from sale of goods and services and cash outflows to fund the expenses of the operations. The operating activities also capture change in balance sheet accounts such as change in values of inventory or change in closing balances of accounts payables, etc.

• The net income from operations is the starting point to prepare the cash flow statements. The net income is calculated after giving effect to the non-cash expenses and hence, the same must be added back to arrive at the actual Net Income. Hence, the Depreciation Expenses are added.

• The next step is to ascertain the effect of changes to the current assets and current liabilities. Increase in current liabilities means a positive effect on the cash flows and are hence, added to the net income for the year. Hence, the Change in beginning and ending balances of accounts payable is added to the income for the year.

• The next step is to ascertain the effect of changes to the current assets and current liabilities. Increase in current assets means an adverse effect on the cash flows and are hence, deducted from the net income for the year. Decrease in current assets means a positive effect on the cash flows and are hence, added to the net income for the year.

• Hence, the Change in beginning and ending balances of Inventory is reduced from the income for the year and Change in beginning and ending balances of Accounts receivable are added back to the income for the year.

Conclusion

Hence, the cash flows from operating activities has been calculated.

2)

To determine

Introduction:

Cash Flow Statements:

• Cash flow statements are an integral part of the financial statements of a company. They reflect the direction and movement of the cash inflows and outflows during a reporting period. The cash inflows and outflows are segregated into the following activities:

1. Cash flows from Operating activities
2. Cash flows from Investing activities
3. Cash flows from Financing activities

There are two methods of preparing cash flow statements:

• Direct Method − It measures the actual cash inflows and cash outflows that are affected during a particular reporting period. The actual cash flows do not include non-cash items and items that are recorded owing to the accrual principle.

• Indirect Method −It measures the cash inflows and cash outflows that are affected during a particular reporting period including the non-cash items and items that are recorded owing to the accrual principle.

To Prepare:

Cash flow statements using Indirect Method.

Explanation of Solution

• The Cash flow statements measure the cash inflows and cash outflows that are affected during a particular reporting period including the non-cash items and items that are recorded owing to the accrual principle.

• Cash inflows and outflows from both balance sheet accounts such as accounts receivable, accounts payable, inventory, etc. as well as Income statement accounts such as Sales, Depreciation Expense, etc. and the changes in the values from the preceding period and the effect of the same on the net income is detailed in the cash flow statement of the current year.

• Operating Activities refer to the results from operations of the business. This includes cash inflows from sale of goods and services and cash outflows to fund the expenses of the operations. The operating activities also capture change in balance sheet accounts such as change in values of inventory or change in closing balances of accounts payables, etc.

• The net income from operations is the starting point to prepare the cash flow statements. The net income is calculated after giving effect to the non-cash expenses and hence, the same must be added back to arrive at the actual Net Income. Hence, the Depreciation Expenses are added.

• The next step is to ascertain the effect of changes to the current assets and current liabilities. Increase in current liabilities means a positive effect on the cash flows and are hence added to the net income for the year. Hence, the Change in beginning and ending balances of accounts payable is added to the income for the year.

• The next step is to ascertain the effect of changes to the current assets and current liabilities. Increase in current assets means an adverse effect on the cash flows and are hence deducted from the net income for the year. Decrease in current assets means a positive effect on the cash flows and are hence, added to the net income for the year.

• Hence, the Change in beginning and ending balances of Inventory is reduced from the income for the year and Change in beginning and ending balances of Accounts receivable are added back to the income for the year.

• Cash flows from investing activities are calculated by considering changes in the fixed and non-current assets of the business such as changes in values of plant and investments. There are no changes or cash flows from investing activities for the year.

• Cash flows from financing activities are calculated by considering changes in the long term and non-current liabilities of the business such as changes in value of notes payable, common stock and cash dividends paid. Dividends paid every year are a part of financing activities.

• The sum of the net results of cash flows from operating, investing and financing activities results in the net cash generated/used up during the year. This is added to the opening balance of cash and cash equivalents and should match with the closing balance of cash and cash equivalents.

Conclusion

Hence, the cash flow statements have been prepared.