Statement of Cash Flows Professor Eric Carstensen MiraCosta College http://www.miracosta.edu/instruction/accounting/index.html

Why do We Prepare this Statement? Reconciles Net Income to the amount of Cash on the Balance Sheet Credit Sales and Purchases Borrowing / Repayment of Loans Purchases and Disposal of PP&E Changes in Contributed Capital Payment of Dividends Reports Sources of Funds and Uses of Funds

General Format of the Statement (Indirect Method) Net Income add: depreciation expense decreases in Current Assets increases in Current Liabilities loss on disposal of assets less: increases in Current Assets decreases in Current Liabilities gain on disposal of assets equals: Net Cash Flow from Operating Activities purchase of PP&E disposal of PP&E purchase / sale of other investments Net Cash Flow from Investing Activities change in short term notes payable change in long term debt change in paid-in capital payment of dividends Net Cash Flow from Financing Activities change in cash cash at beginning of period cash at end of period

Financials and Other Information EJ Company's Year 2 Income Statement: Comparative Balance Sheets for Two (2) Years: Sales $ 890,000 Assets Year 1 Year 2 COGS 570,000 Cash 20,000 40,000 Gross Margin 320,000 A/R 110,000 130,000 Op. Expenses 210,000 Inventory 190,000 170,000 Op. Income Prepaids 10,000 Loss on Disposal Total Current Assets 340,000 350,000 Income Before Taxes 90,000 Taxes 30,000 Long Term Investments Net Income $ 60,000 Property, Plant & Equipment 420,000 550,000 EJ Company's Year 2 RE Statement: Accum. Depreciation (110,000) (120,000) Net Property, Plant & Equipment 310,000 430,000 Year 1 Retained Earnings $ 110,000 add: Net Income 60,000 Total Assets $ 680,000 $ 810,000 less: Dividends equals: Year 2 Retained Earnings $ 160,000 Liabilities A/P 140,000 120,000 Unearned Revenue Other Information: Total Current Liabilities 160,000 150,000 a. Equipment that had cost $90,000 and on which Long Term Note Payable there was $40,000 of accumulated deprec- iation was sold in Year 2 for $30,000 cash. Total Liabilities 300,000 b. Replacement equipment was purchased for $220,000 in cash. Equity c. Year 2 depreciation expense was $50,000. Common Stock 250,000 d. Cash dividends of $10,000 were paid in Retained Earnings the current year. Total Owners' Equity 360,000 510,000 Total Liabilities & Equity

Cash Flow from Operating Activities Net Income 60,000 1 we add back depreciation as it is a non cash expense; add: depreciation expense 50,000 (debit deprec expense, credit accum deprec) 2 decrease in Inventory 20,000 we add back the change in inventory as it is also non-cash; 3 decrease in Prepaids 10,000 (debit COGS, credit inventory) 4 increase in Unearned Revenue we add back change in prepaids for the same reason; 5 loss on disposal of assets (debit insurance expense, credit prepaid insurance) 6 less: increases in A/R (20,000) unearned revenue happens when we receive cash and have 7 decreases in A/P yet performed a service / delivered a product equals: Net Cash Flow from Operating Activities 130,000 we add back the loss on disposal to negate its effect on net income; we will account for cash as part of investing we subtract the increase in A/R; we recognized sales but did not receive cash we subtract the decrease in A/P, as cash payments are used to reduce this liability

Cash Flow from Investing Activities 1 purchase of PP&E (220,000) 2 disposal of PP&E 30,000 equals: Net Cash Flow from Investing Activities (190,000) purchase of PP&E is subtracted as it is a use of cash (debit PP&E, credit cash) cash received at disposal is added as it is a source of cash (debit cash, debit accumulated depreciation; credit asset, credit loss on disposal for our example) * We would also include and gain or loss on sales of other investments (such as loans to subsidiaries, stock from another company, etc.,)

Cash Flow from Financing Activities 1 change in long term debt (10,000) 2 change in paid-in capital 100,000 3 payment of dividends equals: Net Cash Flow from Financing Activities 80,000 change in long term debt is subtracted, as it is a use of cash (debit long term debt, credit cash) change in paid-in capital is added, as it is a source of cash (debit cash, credit paid-in captial) payment of dividends is subtracted, as it is a use of cash (debit dividends, credit cash)

Summary Statement of Cash Flows Net Cash Flow from Operating Activities 130,000 Net Cash Flow from Investing Activities (190,000) Net Cash Flow from Financing Activities 80,000 1 change in cash 20,000 2 cash at beginning of period 3 cash at end of period 40,000 equals the three net cash flows added together from year 1 balance sheet equals change in cash plus beginning cash ==> which is also the amount of cash shown on year 2 balance sheet

Complete Statement of Cash Flows Net Income 60,000 add: depreciation expense 50,000 decrease in Inventory 20,000 decrease in Prepaids 10,000 increase in Unearned Revenue loss on disposal of assets less: increases in A/R (20,000) decreases in A/P equals: Net Cash Flow from Operating Activities 130,000 purchase of PP&E (220,000) disposal of PP&E 30,000 Net Cash Flow from Investing Activities (190,000) change in long term debt (10,000) change in paid-in capital 100,000 payment of dividends Net Cash Flow from Financing Activities 80,000 change in cash cash at beginning of period cash at end of period 40,000