Statement of Cash Flows

Copyright Doug Hillman 2000

Purpose of Statement of Cash Flows

Provide information about cash receipts and payments during an accounting period Helps us see how financial position changes during an accounting period Only statement that collects and shows in one statement the causes of changes in cash during a financial reporting period

Copyright Doug Hillman 2000

Cash and Cash Equivalents

Cash includes currency on hand and demand deposits Cash equivalents are short-term, highly liquid investments that are

Copyright Doug Hillman 2000

Cash and Cash Equivalents

Cash includes currency on hand and demand deposits Cash equivalents are short-term, highly liquid investments that are Readily convertible to known amounts of cash

Copyright Doug Hillman 2000

Cash and Cash Equivalents

Cash includes currency on hand and demand deposits Cash equivalents are short-term, highly liquid investments that are Readily convertible to known amounts of cash So near maturity that they are not likely to change in value due to changes in interest rates

Copyright Doug Hillman 2000

Classification of Cash Receipts and Cash Payments

Operating activities Investing activities Financing activities

Copyright Doug Hillman 2000

Operating Activities
Transactions that generally involve producing and delivering goods and providing services Inflows selling goods and services, interest and dividend revenue Outflows inventory, salary exp, interest exp

Copyright Doug Hillman 2000

Investing Activities
Buying and selling plant assets and securities, and making loans and collecting on them Inflows sale of plant assets and investment securities, collecting loans Outflows purchasing plant assets, investment securities

Copyright Doug Hillman 2000

Financing Activities
Obtaining resources from owners and providing return, and obtaining resources from creditors and repaying principal Inflows issuing stock, bonds, other short and long-term borrowing Outflows purchasing treasury stock, repaying principal, cash dividends

Copyright Doug Hillman 2000

Other Cash Flow Considerations

Generally, information on gross receipts and payments more relevant When issuing long-term debt to retire other debt, show both Noncash investing and financing Acquiring plant assets by issuing notes payable Converting bonds payable into common stock

Copyright Doug Hillman 2000

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Basic Interpretation of Statement of Cash Flows

Overall, how successful has management been in generating and investing cash flows? How does accrual basis net income compare with cash basis?

Copyright Doug Hillman 2000

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Basic Interpretation of Statement of Cash Flows

What cash uses have been made for investing activities, and to what extent has cash from operations been sufficient to pay for these investments? What sources and uses have been generated from financing activities?

Copyright Doug Hillman 2000

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Direct versus Indirect Method for Operating Activities

Direct shows major classes of gross cash receipts and cash payments Difference is net cash provided by, used in, operating activities Indirect starts with net income (loss) and adjusts for revenues and expenses that did not cause changes in cash FASB encourages use of the direct method

Copyright Doug Hillman 2000

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Direct Method
Goal to convert each income statement item from accrual to cash basis First, identify the balance sheet account(s) that relate to each income statement item Next, combine the change in the balance sheet account with the income statement amount

Copyright Doug Hillman 2000

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Cash Receipts from Customers

Cash receipts from customers relates sales to change in accounts receivable If accounts receivable decreased during the period, we collected more cash than amount reported as sales revenue If accounts receivable increased during the period, we collected less cash that amount reported as sales revenue

Copyright Doug Hillman 2000

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Cash Receipts from Customers

Take sales amount and Add decrease in accounts receivable OR Subtract increase in accounts receivable

Copyright Doug Hillman 2000

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Cash Payments to Suppliers

Cash Payments to Suppliers relates cost of goods sold to change in merchandise inventory and change in accounts payable First use cost of goods sold and change in inventory to calculate purchases If inventory increased during the period, we purchased more goods than we sold If inventory decreased during the period, we purchased fewer goods than we sold

Copyright Doug Hillman 2000

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Cash Payments to Suppliers

To calculate purchases, take cost of goods sold amount and Add increase in inventory OR Subtract decrease in inventory This gives us accrual purchases

Copyright Doug Hillman 2000

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Cash Payments to Suppliers

Second use purchases and change in accounts payable to calculate cash payments to suppliers If accounts payable increased during period, we paid less cash than purchases If accounts payable decreased during period, we paid more cash than purchases

Copyright Doug Hillman 2000

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Cash Payments to Suppliers

To calculate cash payments to suppliers, take purchases amount and Add decrease in accounts payable OR Subtract increase in accounts payable

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Other Expenses That Affect Cash

Cash payments for expenses relate the expense to a change in an accrued expense account or a prepaid expense Cash payments for wages relates wages expense and change in wages payable Cash payments for office supplies relates office supplies expense and changes in office supplies
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Copyright Doug Hillman 2000

Other Expenses That Affect Cash

To calculate cash payments for expenses, take the expense amount and Add decrease in accrued expense
OR

Subtract increase in accrued expense

OR

Add increase in prepaid expense

OR

Subtract decrease in prepaid expense

Copyright Doug Hillman 2000

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Other Revenues That Affect Cash

Cash receipts for revenues relate the revenue to a change in an unearned revenue account or accrued revenue Cash receipts from interest relates interest revenue and change in interest receivable Cash receipts from subscriptions relates subscriptions revenue and changes in unearned subscriptions
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Copyright Doug Hillman 2000

Other Revenues That Affect Cash

To calculate cash receipts from revenues, take the revenue amount and Add decrease in accrued revenue
OR

Subtract increase in accrued revenue

OR

Add increase in unearned revenue

OR

Subtract decrease in unearned revenue

Copyright Doug Hillman 2000

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Indirect Method for Operating Activities

Starts with net income(loss) from the income statement. Adjusts for revenues and expenses that did not cause a change in cash Results in same total as direct method FASB encourages use of direct Believes that reconciliation of net income to cash provided by operations is useful information

Copyright Doug Hillman 2000

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Indirect Method Step 1

Net income Add Expenses that did not use cash and losses on sale of noncurrent assets Subtract Gains on sales of noncurrent assets

Copyright Doug Hillman 2000

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Indirect Method Step 2

Add Decreases in operating current assets Increases in operating current liabilities Subtract Increases in operating current assets Decreases in operating current liabilities

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Cash Flows from Investing Activities

Analyze changes in nonoperating current assets and noncurrent assets If equipment increased, there was a purchase of new equipment If equipment decreased, there was a disposal of old equipment If there was more than one change, analyze each separately Identify the cash flow from each transaction

Copyright Doug Hillman 2000

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Cash Flows from Financing Activities

Analyze changes in nonoperating current liabilities, noncurrent liabilities, paid-in capital, and nonoperating changes to retained earnings(dividends) If bonds increased, there was an issuance of bonds If paid-in capital increased, there was an issuance of stock
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Copyright Doug Hillman 2000

Cash Flows from Financing Activities

If dividends were declared, combine amount declared with change in dividends payable to get cash dividends If there was more than one change, analyze each separately Identify the cash flow from each transaction

Copyright Doug Hillman 2000

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Steps in Preparing Statement of Cash Flows

Compute the net change in cash and cash equivalents Compute the amount of net cash provided by (used in) operating activities by direct method Prepare the reconciliation of net income to net cash provided by (used in) operating activities by indirect method

Copyright Doug Hillman 2000

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Steps in Preparing Statement of Cash Flows

Compute the amount of net cash provided by (used in) investing and financing activities Prepare the statement of cash flows

Copyright Doug Hillman 2000

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Interpretation of Information in Statement of Cash Flows

Overall, how successful has management been in generating and investing cash flows during the period? How does accrual net income compare with cash net income?

Copyright Doug Hillman 2000

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Interpretation of Information in Statement of Cash Flows

What cash uses have been made for investing activities and to what extent has cash from operations been sufficient to pay for these investments? What sources and uses have been generated from financing activities?

Copyright Doug Hillman 2000

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