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Chapter 23: Q5CA (page 1393)

Question: CA23-5 (Purpose and Elements of SCF) GAAP requires the statement of cash flows be presented when financial statements are prepared.

Instructions

(a) Explain the purposes of the statement of cash flows.

(b) List and describe the three categories of activities that must be reported in the statement of cash flows.

(c) Identify and describe the two methods that are allowed for reporting cash flows from operations.

(d) Describe the financial statement presentation of noncash investing and financing transactions. Include in your description an example of a noncash investing and financing transaction.

Short Answer

Expert verified

Answer

  1. Cash flow statement is prepared to provideinformation to the investors and the creditors.
  2. Cash flow statement has three sections: investing,operating, andfinancing.
  3. There aretwo methods to prepare a cash flow statement: direct and indirect.
  4. Non-cash investing and financing transactions are reported by preparing a separate schedule at the bottom of the cash flow statement.

Step by step solution

01

Definition of Statement of Cash Flow

The schedule prepared by the business entity for providing a summary of all the transactions, including cash payments and receipts, is known as the statement of cash flow.

02

Purpose of the statement of cash flows

The cash flow statement is prepared for:

  1. Determining the ability of the business entity to generate cash.
  2. Determining the potential of the business entity to pay dividends and meet other cash obligations.
  3. To determine the reason behind the difference between the cash flow from operating and net income.
  4. To identify the cash and non-cash transactions related to investing and financing transactions.
03

Categories of activities reported in the statement of cash flows

Operating activities: This section of the cash flow statement reports the cash effect of all the transactions that are reported for the calculation of the net income of the business entity.

Investing activities: This section reports the transactions related to the long-term assets of the business entity affecting the cash position.

Financing activities: This section reports the transaction relating to the equity and liability affecting the cash position of the business entity.

04

Methods for reporting cash flow

Direct Method: Under the direct method, the business entity calculates the net cash flow from operation by taking the difference between the operating cash receipts and operating cash disbursement.

Indirect Method: Under the indirect method, the business entity calculates the net cash flow from operating activities by adjusting the net income with the transactions that will affect net income without affecting the cash position. After adjusting net income, the business entity adds and deducts the investing and financing transactions affecting the cash position. After this, the investing and financing transaction affecting the cash position is reported.

05

Presentation of non-cash investing and financing transaction

The business entity's non-cash investing and financing activities are reported in a separate schedule prepared at the bottom of the cash flow statement.

Example of transactions:

  1. Investing transaction: Acquisition of any fixed asset by issuing securities.
  2. Financing transaction: Conversion of debt securities into equity.

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Most popular questions from this chapter

Question:Mortonson Company has not yet prepared a formal statement of cash flows for the 2017 fiscal year. Comparative balance sheets as of December 31, 2016 and 2017, and a statement of income and retained earnings for the year ended December 31, 2017, are presented as follows.


MORTONSON COMPANY

STATEMENT OF INCOME AND RETAINED EARNINGS

FOR THE YEAR ENDED DECEMBER 31, 2017

(\(000 OMITTED)

Sales revenue

\)3,800

Expenses

Cost of goods sold

\(1,200

Salaries and benefits

725

Heat, light and power

75

Depreciation

80

Property tax

19

Patent amortization

25

Miscellaneous expenses

10

Interest

30

2,164

Income before taxes

1,636

Income tax

818

Net income

818

Retained earnings 鈥� Jan 1, 2017

310

1,128

Stock dividend declared and issued

600

Retained earnings Dec 31, 2017

\)528


MORTONSON COMPANY

COMPARATIVE BALANCE SHEETS

AS OF DECEMBER 31

(\(000 OMITTED)

Assets

2017

2016

Current assets

Cash

\)333

\(100

U.S treasury notes (available for sale)

10

50

Accounts receivables

780

500

Inventory

720

560

Total current assets

1,843

1,210

Long-term assets

Land

150

70

Building and equipment

910

600

Accumulated depreciation 鈥� building and equipment

(200)

(120)

Patent (less: amortization)

105

130

Total long-term assets

965

680

Total assets

\)2,808

\(1,890

Liabilities and stockholder鈥檚 equity

Current liabilities

Account payable

\)420

\(330

Income tax payable

40

30

Notes payable

320

320

Total current liabilities

780

680

Long-term note payable

200

200

Total liabilities

980

880

Stockholder鈥檚 equity

Common stock

1,300

700

Retained earnings

528

310

Total stockholder鈥檚 equity

1,828

1,010

Total liabilities and stockholder鈥檚 equity

\)2,808

$1,890

Instructions

Prepare a statement of cash flows using the direct method. Changes in accounts receivable and accounts payable relate to sales and the cost of goods sold. Do not prepare a reconciliation schedule.

Indicate in general journal form how the items below would be entered in a worksheet for the preparation of the statement of cash flows.

(a) Net income is \(317,000.

(b) Cash dividends declared and paid totaled \)120,000.

(c) Equipment was purchased for \(114,000.

(d) Equipment that originally cost \)40,000 and had accumulated depreciation of \(32,000 was sold for \)10,000.

Question: (Worksheet Preparation) Below is the comparative balance sheet for Stevie Wonder Corporation.

Particulars

Dec 31, 2017

Dec 31, 2016

Cash

\(16,500

\)21,000

Short-term investments

25,000

19,000

Accounts receivables

43,000

45,000

Allowance for doubtful accounts

(1,800)

(2,000)

Prepaid expenses

4,200

2,500

Inventory

81,500

65,000

Land

50,000

50,000

Buildings

125,000

73,500

Accumulated depreciation 鈥� Buildings

(30,000)

(23,000)

Equipment

53,000

46,000

Accumulated depreciation 鈥� equipment

(19,000)

(15,500)

Delivery equipment

39,000

39,000

Accumulated depreciation 鈥� delivery equipment

(22,000)

(20,500)

Patents

15,000

0

\(379,400

\)300,000

Accounts payable

\(26,000

\)16,000

Short-term note payable

4,000

6,000

Accrued payable

3,000

4,600

Mortgage payable

73,000

53,400

Bond payable

50,000

62,500

Common stock

140,000

102,000

Paid-in-capital in excess of par

10,000

4,000

Retained earnings

73,400

51,500

\(379,400

\)300,000

Dividends in the amount of $15,000 were declared and paid in 2017.

Instructions

From this information, prepare a worksheet for a statement of cash flows. Make reasonable assumptions as appropriate. The short-term investments are considered available-for-sale and no unrealized gains or losses have occurred on these securities

Chapman Company, a major retailer of bicycles and accessories, operates several stores and is a publicly traded company. The comparative balance sheet and income statement for Chapman as of May 31, 2017, are as follows. The company is preparing its statement of cash flows.

CHAPMAN COMPANY

COMPARATIVE BALANCE SHEET

AS OF MAY 31

2017 2016

Current assets Cash \( 28,250 \) 20,000

Accounts receivable 75,000 58,000

Inventory 220,000 250,000

Prepaid expenses 9,000 7,000

Total current assets 332,250 335,000

Plant assets

Plant assets 600,000 502,000

Less: Accumulated depreciation鈥攑lant assets 150,000 125,000

Net plant assets 450,000 377,000

Total assets \(782,250 \)712,000

Current liabilities

Accounts payable \(123,000 \)115,000

Salaries and wages payable 47,250 72,000

Interest payable 27,000 25,000

Total current liabilities 197,250 212,000

Long-term debt

Bonds payable 70,000 100,000

Total liabilities 267,250 312,000

Stockholders鈥� equity

Common stock, \(10 par 370,000 280,000

Retained earnings 145,000 120,000

Total stockholders鈥� equity 515,000 400,000

Total liabilities and stockholders鈥� equity \)782,250 \(712,000

CHAPMAN COMPANY

INCOME STATEMENT

FOR THE YEAR ENDED MAY 31, 2017

Sales revenue \)1,255,250

Cost of goods sold 722,000

Gross profit 533,250

Expenses Salaries and wages expense 252,100

Interest expense 75,000

Depreciation expense 25,000

Other expenses 8,150

Total expenses 360,250

Operating income 173,000

Income tax expense 43,000

Net income \( 130,000

The following is additional information concerning Chapman鈥檚 transactions during the year ended May 31, 2017.

1. All sales during the year were made on account.

2. All merchandise was purchased on account, comprising the total accounts payable account.

3. Plant assets costing \)98,000 were purchased by paying \(28,000 in cash and issuing 7,000 shares of stock.

4. The 鈥渙ther expenses鈥� are related to prepaid items.

5. All income taxes incurred during the year were paid during the year.

6. In order to supplement its cash, Chapman issued 2,000 shares of common stock at par value.

7. Cash dividends of \)105,000 were declared and paid at the end of the fiscal year.

Instructions

(a) Compare and contrast the direct method and the indirect method for reporting cash flows from operating activities.

(b) Prepare a statement of cash flows for Chapman Company for the year ended May 31, 2017, using the direct method. Be sure to support the statement with appropriate calculations. (A reconciliation of net income to net cash provided is not required.)

(c) Using the indirect method, calculate only the net cash flow from operating activities for Chapman Company for the year ended May 31, 2017.

Krauss Company鈥檚 income statement for the year ended December 31, 2017, contained the following condensed information.

Service revenue \(840,000

Operating expenses (excluding depreciation) \)624,000

Depreciation expense 60,000

Loss on sale of equipment 26,000 710,000

Income before income taxes 130,000

Income tax expense 40,000

Net income \( 90,000

Krauss鈥檚 balance sheet contained the following comparative data at December 31.

2017 2016

Accounts receivable \)37,000 $54,000

Accounts payable 41,000 31,000

Income taxes payable 4,000 8,500

(Accounts payable pertains to operating expenses.)

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