The Statement of Cash Flows Revisited 21 The Statement of Cash Flows Revisited Chapter 21: The Statement of Cash Flows Revisited The objective of financial reporting is to provide investors and creditors with useful information, primarily in the form of financial statements. The balance sheet and the income statement—the focus of your study in earlier chapters—do not provide all the information needed by these decision makers. Here you will learn how the statement of cash flows fills the information gap left by the other financial statements. The statement lists all cash inflows and cash outflows, and classifies them as cash flows from (a) operating, (b) investing, or (c) financing activities. Investing and financing activities that do not directly affect cash also are reported. McGraw-Hill/Irwin 2011, Royal University of Law and Economics

Business CASH INFLOWS CASH OUTFLOWS Investing Activities Operating Activities Financing Activities Sale of operational assets Sale of investments Collections of loans Cash received from revenues Issuance of stock Issuance of bonds and notes Many decisions benefit from information about the company’s underlying cash flow process. Cash continually flows into and out of an active business. This graphic illustrates several examples of cash inflows and outflows classified as operating, investing and financing activities. Take a few minutes to review these examples. Purchase of operational assets Purchase of investments Loans to others Cash paid for expenses Payment of dividends Repurchase of stock Repayment of debt

Role of the Statement of Cash Flows Helps users assess . . . a firm’s ability to generate cash. a firm’s ability to meet its obligations. the reasons for differences between income and associated cash flows. the effect of cash and noncash investing and financing activities on a firm’s financial position. The statement of cash flows provides information about cash flows that is lost when reported only indirectly by the balance sheet and the income statement. The statement of cash flows helps users assess . . . a firm’s ability to generate cash. a firm’s ability to meet its obligations. the reasons for differences between income and associated cash flows. And the effect of cash and noncash investing and financing activities on a firm’s financial position.

Role of the Statement of Cash Flows Lists all cash inflows and all cash outflows by category: Operating, Investing, and Financing Cash is King! Especially during an economic downturn Explains the change in cash during the period The statement of cash flows lists all cash inflows and all cash outflows during the reporting period by category: operating, investing or financing. It explains the change in cash during the period and is required by GAAP. Many companies have experienced bankruptcy because they were unable to generate sufficient cash to satisfy their obligations. The survival and success of every business depends on its ability to create or otherwise attain cash. Cash is King! Especially during an economic downturn. Required by GAAP

Cash and Cash Equivalents Short-term, highly liquid investments. Readily converted into cash, with little or no risk of loss. Examples: money market funds Treasury bills Maturity date must not be longer than 3 months from date of purchase. Resources immediately available to pay obligations. Skilled cash mangers invest temporarily idle cash in short-term investments to earn interest on those funds, rather than maintain an unnecessarily large balance in a checking account. The FASB views short-term highly liquid investments that can be readily converted to cash, with little or no risk of loss, as cash equivalents. On the statement of cash flows, there is no differentiation between amounts held as cash and amounts held in cash equivalent investments. Examples of cash equivalents are money market funds, Treasury bills, and commercial paper. To be classified as cash equivalents, these investments must have a maturity date not longer than three months from the date of purchase. Each firm’ must establish a policy regarding which short-term highly liquid investments it classifies as cash equivalents and the policy should be disclosed in the notes to the financial statements.

Primary Elements of the Statement of Cash Flows Operating Activities Reconciliation of the Net Increase or Decrease in Cash with the Change in the Balance of the Cash Account Investing Activities Financing Activities The three primary activity classifications on the statement of cash flows are (1) operating activities, (2) investing activities, and (3) financing activities. Two other requirements are (1) the reconciliation of the net increase or decrease in cash with the change in the balance of the cash account, and (2) noncash investing and financing activities. Noncash Investing and Financing Activities

Primary Elements of the Statement of Cash Flows Operating Activities Reports the cash effects of the elements of net income. Investing Activities Reports the cash effects of the acquisition and disposition of assets (other than inventory and cash equivalents). The operating activities section reports the cash effects of the elements of net income. The investing activities section reports the cash effects of the acquisition and disposition of assets (other than inventory and cash equivalents). The financing activities section reports the cash effects of the sale or repurchase of shares, the issuance or repayment of debt securities, and the payment of cash dividends. We will discuss each of these sections in more detail in the next few slides. Financing Activities Reports the cash effects of the sale or repurchase of shares, the issuance or repayment of debt securities, and the payment of cash dividends.

Cash Flows from Operating Activities Inflows from: customers. interest and dividends. + Cash Flows from Operating Activities _ Outflows to: suppliers of goods. salaries and wages. interest on debt. income taxes. Cash flows from operating activities are both inflows and outflows of cash that result from activities reported on the income statement. In other words, this classification of cash flows includes the elements of net income, but reported on a cash basis. The cash inflows in this section include cash collected from customers and cash received from interest and dividends. Cash outflows include cash paid to suppliers for the purchase of goods, as well as cash paid for salaries, interest, and income taxes.

Direct Method or Indirect Method of Reporting Cash Flows from Operating Activities Reports the cash effects of each operating activity Direct Method Starts with accrual net income and converts to cash basis Indirect Method Two Formats for Reporting Operating Activities There are two acceptable formats for presenting the cash flows from operating activities. The direct method reports the cash effects of each operating activity directly on the statement of cash flows. When using the indirect method, the operating section starts with accrual net income and coverts to cash basis. Note that no matter which format is used, the same amount of net cash flows operating activities is generated. Note that no matter which format is used, the same amount of net cash flows operating activities is generated.

Direct Method Under the direct method, the cash effect of each operating activity is reported directly in the statement. Here is an example of the direct method of the operating section of a statement of cash flows for United Brands Corporation (UBC). Under the direct method, the cash effect of each operating activity is reported directly in the statement. For example, it is clear that we received $98 million from customers and paid $50 million to suppliers. The method is named for the fact that the cash effect of each operating activity (i.e., income statement item) is reported directly on the statement of cash flows. For instance, UBC reports “cash received from customers” as the cash effect of sales activities, “cash paid to suppliers” as the cash effect of cost of goods sold, and so on. Then, UBC simply omits from the presentation any income statement items that do not affect cash at all, such as depreciation expense.

Indirect Method By the indirect method, we arrive at net cash flow from operating activities indirectly by starting with reported net income and working backwards to convert that amount to a cash basis. Here is an example of the indirect method of the operating section of a statement of cash flows for UBC. Notice that we arrive at the same $22 million of net cash flows from operating activities using either the direct method or the indirect method. In the indirect method, the net cash increase or decrease from operating activities is derived indirectly by starting with reported net income on an accrual basis and working backwards to convert that amount to a cash basis. Using either method we arrive at the same $22 of net cash flows from operating activities. In the indirect method, the net cash increase or decrease from operating activities is derived indirectly by starting with reported net income on an accrual basis and working backwards to convert that amount to a cash basis. By this approach, the net cash increase or decrease from operating activities ($22 million in our example) is derived indirectly by starting with reported net income and working backwards to convert that amount to a cash basis. As we see later in the chapter, UBC’s net income is $12 million. Using the indirect method, UBC would replace the previous presentation of net cash flows from operating activities with the one shown on this slide.

Cash Flows from Investing Activities Inflows from: Sale of long-term assets used in the business. Sale of investment securities (stocks and bonds). Collection of nontrade receivables. + Cash Flows from Investing Activities Outflows to: Purchase of long-term assets used in the business. Purchase of investment securities (stocks and bonds). Create nontrade receivables. Companies frequently invest cash to replace or expand productive facilities such as property, plant and equipment. Investments might be made in other assets as well, such as securities of other firms of nontrade receivables. Cash flows from investing activities are both inflows and outflows of cash caused by the acquisition and disposition of assets. Included in this classification are cash payments to acquire (1) property, plant and equipment and other productive assets (except inventories), (2) investment in securities (except cash equivalents and trading securities), and (3) nontrade receivables. When these assets later are liquidated, any cash receipts from their disposition also are classified as investing activities. The cash flows in this section are illustrated in the examples in this slide. _

Cash Flows from Financing Activities Inflows from: Sale of shares to owners. Borrowing from creditors through notes, loans, mortgages, and bonds. + Cash Flows from Financing Activities Outflows to: Owners in the form of dividends or other distributions. Owners for the reacquisition of shares previously sold. Creditors as repayment of the principal amounts of debt. _ Cash flows from financing activities are both inflows and outflows of cash resulting from the external financing of a business. Included in this classification are cash inflows from (1)the sale of common stock, and (2)the issuance of bonds and other debt securities. Subsequent transactions related to these financing transactions, such as a buyback of stock, the repayment of debt, and the payment of cash dividends to shareholders, also are classified as financing activities. The cash flows in this section are illustrated in the examples in this slide.

Reconciliation with Change in Cash Balance The net amount of cash inflows and outflows reconciles the change in the company’s beginning and ending cash balances. For example, assume that UBC’s net increase in cash is $9 million and the Cash beginning balance is $20 million. The cash reconciliation would be as follows: To reinforce the fact that the net amount of cash inflows and outflows explains the change in the cash balance, the statement of cash flows includes a reconciliation of the net increase or decrease in cash with the company’s beginning and ending cash balances. For example, assume that UBC’s net increase in cash is $9 million and the Cash beginning balance is $20 million. The reconciliation would show that the net increase in cash reconciles with the change in the company’s beginning and ending cash balances.

This slide illustrates UBC’s statement of cash flows This slide illustrates UBC’s statement of cash flows. Earlier we showed how to arrive at net cash flows from operating activities using either the direct or indirect method. UBC reports as investing activities the cash paid to purchase both land and a short-term investment. The other two investing activities reported are cash receipts for the sale of assets—equipment and land—that were acquired in earlier years. The specific transactions creating these cash flows are described in a later section of this chapter. Net cash flows from financing activities is the difference between the inflows and outflows of the financing activities. The cash received from the sale of common stock is reported as a financing activity. Since the sale of common stock is a financing activity, providing a cash return (dividend) to common shareholders also is a financing activity. Similarly, when the bonds being retired were issued in a prior year, that cash inflow was reported as a financing activity. In the current year, when the bonds are retired, the resulting cash outflow is likewise classified as a financing activity. At first glance, it may appear inconsistent to classify the payment of cash dividends to shareholders as a financing activity when, as stated earlier, paying interest to creditors is classified as an operating activity. But remember, cash flows from operating activities should reflect the cash effects of items that enter into the determination of net income. Interest expense is a determinant of net income. A dividend, on the other hand, is a distribution of net income and not an expense. 21 - 15

Noncash Investing and Financing Activities Significant investing and financing transactions not involving cash also are reported (usually in a disclosure note). Acquiring an asset by incurring a debt payable to the seller. Acquiring an asset by entering into a capital lease. Converting debt into common stock or other equity securities. Exchanging noncash assets or liabilities for other noncash assets or liabilities. Significant investing and financing transactions not involving cash are reported in a separate schedule or in a disclosure note. Examples of noncash transactions that would be reported include: Acquiring an asset by incurring a debt payable to the seller. Acquiring an asset by entering into a capital lease. Converting debt into common stock or other equity securities. Exchanging noncash assets or liabilities for other noncash assets or liabilities. The Noncash Investing and Financing Activities disclosure for UBC includes the acquisition of $20 million of equipment by issuing a 12%, 5-year note.

U.S. GAAP and IFRS The FASB and IASB are working together on a project, Financial Statement Presentation, to establish a common standard for presenting information in the financial statements. The FASB and IASB are working together on a project, Financial Statement Presentation, to establish a common standard for presenting information in the financial statements, including classifying and displaying line items and aggregating line items into subtotals and totals. This standard will have a dramatic impact on the format of financial statements. An important part of the proposal involves the organization of elements of the balance sheet (statement of financial position), statement of comprehensive income (including the income statement), and statement of cash flows into a common set of classifications. Each of the financial statements will include classifications by operating, investing, and financing activities, providing a “cohesive” financial picture that stresses the relationships among the financial statements. Operating and investing activities will be included within a new category, “business” activities. Each statement also will include three additional groupings: discontinued operations, income taxes, and equity (if needed).

U.S. GAAP and IFRS Based on the joint FASB and IASB Financial Statement Presentation project, the statement of cash flows is slated to change in several ways. Operating and Investing cash flows will be categorized as “Business” activities and some cash flows may switch categories. The statement will have three additional groupings: income taxes, discontinued operations, and equity (if needed). Direct method will be required. Eliminate the concept of “cash equivalents” in favor of cash only. Based on the joint FASB and IASB Financial Statement Presentation project, the statement of cash flows is slated to change in several ways. Operating and Investing cash flows will be categorized as “Business” activities and some cash flows may switch categories. Under the new “management approach,” cash flows will be classified based on how related assets and liabilities are used by management. For instance, expenditures for property, plant and equipment likely would be classified as operating, because those assets are used in the “core” business. Investing activities would be limited primarily to investments in stock, bonds, and other securities. The statement will have three additional groupings: income taxes, discontinued operations, and equity (if needed). The statement of cash flows will no longer permit a choice between the direct method and the indirect method, but will require the direct method, reasoning that it provides more useful information to investors. Another change is to eliminate the concept of cash equivalents in favor of cash only.

Preparation of the Statement of Cash Flows A spreadsheet can be used to ensure that no reportable activities are inadvertently overlooked. Reconstructing the events and transactions that occurred during the period helps identify the operating, investing and financing activities to be reported. The objective in preparing the statement of cash flows is to identify all transactions and events that represent operating, investing, or financing activities and to list and classify those activities in proper statement format. A difficulty in preparing a statement of cash flows is that typical accounting systems are not designed to produce the specific information we need for the statement. At the end of a reporting cycle, balances exist in accounts reported in the income statement (sales revenue, cost of goods sold, etc.) and the balance sheet (accounts receivable, common stock, etc.). However, the ledger contains no balances for cash paid to acquire equipment, or cash received from sale of land, or any other cash flow needed for the statement. As a result, it’s necessary to find a way of using available information to reconstruct the various cash flows that occurred during the reporting period. In situations involving relatively few transactions, it is possible to prepare the statement of cash flows by merely inspecting the available data and logically determining the reportable activities. Usually, it is more practical to use some systematic method of analyzing the available data to ensure that all operating, investing, and financing activities are detected. To identify the activities to be reported on the statement, we use available data to reconstruct the events and transactions that involved operating, investing, and financing activities during the year. A common approach is to use either a manual or electronic spreadsheet to organize and analyze the information used to prepare the statement. Whether the statement of cash flows is prepared by an unaided inspection and analysis or with the aid of a systematic technique such as spreadsheet analysis, the analytical process is the same. An important advantage gained by using a spreadsheet is that it ensures that no reportable activities are inadvertently overlooked. Let’s see how to use a spreadsheet to prepare a Statement of Cash Flows on the next few slides. Let’s see how to use a spreadsheet to prepare a Statement of Cash Flows on the next few slides.

We begin by entering the beginning and ending balances for each account on the comparative balance sheet and income statement. The changes columns will be used later to explain the increase or decrease in each account balance. Here are the comparative balance sheets of United Brands Corporation for the years ended December 31, 2010 and 2011. All dollar amounts are expressed in millions. We begin by entering the beginning and ending balances for each account on the comparative balance sheet and income statement. The changes columns will be used later to explain the increase or decrease in each account balance. On the next slide, we will continue to look at the income statement accounts on the spreadsheet. 21 - 20

The beginning balances for income statement accounts are always zero. The beginning balances for income statement accounts are always zero because the accounts have been closed. Our goal is to determine the change in account balances during the period. The next slide will show the statement of cash flows items on the spreadsheet. The beginning balances for income statement accounts are always zero. 21 - 21

Next we allocate space on the spreadsheet for the statement of cash flows. Part I Next we allocate space on the spreadsheet for the statement of cash flows. Part II In the next slide we will start to enter entries on the spreadsheet to reconstruct the changes that have occurred. Spreadsheet entries duplicate the actual journal entries used to record the transactions as they occurred during the year. At this point, they are only entered on the spreadsheet and are not recorded in the accounting records. Spreadsheet entries duplicate the actual journal entries used to record the transactions as they occurred during the year. They are only entered on the spreadsheet and are not recorded in the accounting records. 21 - 22

Let’s start by analyzing Sales Revenue and its related account Accounts Receivable by looking at the relationship in a T-account format. Let’s start by analyzing Sales Revenue and its related account Accounts Receivable by looking at the relationship in a T-account format. We had a beginning balance of $30, credit sales of $100, and an ending balance of $32. So, how much cash did we receive from customers? 21 - 23

Let’s see how to post this entry to the spreadsheet. We can see from this analysis that cash received from customers must have been $98 million. Let’s see how to post this entry to the spreadsheet. To make the account balance properly, we know that $98 million was the amount of cash received from customers during the period. 21 - 24

First, $2 million is debited to Accounts Receivable to account for the total change in the account. Then, $100 million is credited to Sales Revenue to account for the total change in the account. To reconstruct what happened using journal entries in the middle columns, first, $2 million is debited to Accounts Receivable to account for the total change in the account. Then, $100 million is credited to Sales Revenue to account for the total change in the account. The difference between these two amounts is the amount of cash received from customers, $98 million. This is the amount we need to make on the Cash Flow portion of the worksheet to make our entry balance. 21 - 25

The final part of this entry is a $98 million entry on the Statement of Cash Flows under Cash Inflows from Customers. The final part of this entry is a $98 million entry on the Statement of Cash Flows under Cash Inflows from Customers. 21 - 26

The $12 million increase in the Short-term Investments account is due to the purchase of short-term investments during the year. Next, let’s skip ahead and look at the analysis of Short-term Investments. The $12 million increase in the Short-term Investments account is due to the purchase of short-term investments during the year. (In the textbook, entry number 12 illustrates the analysis of the Short-term Investment account.) Note that in the textbook, entry number 12 illustrates the analysis of the Short-term Investment account. 21 - 27

The final part of this entry is a $12 million entry on the Statement of Cash Flows under Investing Activities. The final part of this entry is a $12 million entry on the Statement of Cash Flows under Investing Activities. Now, let’s look at a noncash transaction. 21 - 28

In entry number 14, we find that a note payable was issued as payment for a building. Investing in a new building is a significant investing activity and financing the acquisition with long-term debt is a significant financing activity. x x Now, let’s look at a noncash transaction. In entry number 14, we find that a note payable was issued as payment for a building. Investing in a new building is a significant investing activity and financing the acquisition with long-term debt is a significant financing activity. Notice that no cash was involved in the transaction. Noncash investing and financing transactions may be denoted by the small letter x. Remember that significant investing and financing transactions not involving cash are reported in a separate schedule or in a disclosure note. 21 - 29

After entering all the transactions, this is what the balance sheet portion of the spreadsheet looks like. x x After entering all the transactions, this is what the balance sheet portion of the spreadsheet looks like. 21 - 30

And, after entering all the transactions, this is what the income statement portion of the spreadsheet looks like. In preparing the spreadsheet to this point, we analyzed each account on both the balance sheet and the income statement and have accounted for the change in the balance of each account. When a transaction entered on the spreadsheet included an operating, investing, or financing activity, we entered that portion of the entry under the corresponding heading of the cash flows section of the worksheet. After entering all the transactions, this is what the income statement portion of the spreadsheet looks like. 21 - 31

After entering all the transactions, this is what the statement of cash flows portion of the spreadsheet looks like. Finally, after entering all the transactions, this is what the statement of cash flows portion of the spreadsheet looks like. The spreadsheet is now complete and the statement of cash flows can be prepared directly from the information in this section of the spreadsheet. 21 - 32

Here is the Statement of Cash Flows prepared using the direct method. Here is the Statement of Cash Flows prepared based on the worksheet, using the direct method. 21 - 33

Typical Classification of Interest and Dividends U.S. GAAP vs. IFRS Consistent with U.S. GAAP, cash flows are classified as operating, investing, or financing. Typical Classification of Interest and Dividends Operating Activities Dividends Received Interest Received Interest Paid Investing Activities Financing Activities Dividends Paid Operating Activities Investing Activities Dividends Received Interest Received Financing Activities Dividends Paid Interest Paid Both U.S. GAAP and international standards require a statement of cash flows. Both currently also classify cash flows as operating, investing, or financing. However, there are different classifications used for cash flows from interest and dividends. The U.S. standard designates cash outflows for interest payments and cash inflows from interest and dividends received as operating cash flows. Dividends paid to shareholders are classified as financing cash flows. IAS No. 7, on the other hand, allows more flexibility. Companies can report interest and dividends paid as either operating or financing cash flows and interest and dividends received as either operating or investing cash flows. Interest and dividend payments usually are reported as financing activities. Interest and dividends received normally are classified as investing activities.

Preparing an SCF: The Indirect Method Getting There through the Back Door The indirect method derives the net cash increases or decreases from operating activities indirectly by starting with reported net income and “working backwards” to convert that amount to a cash basis. Here is the same information for the operating activities section presented using the indirect method. Remember that the indirect method derives the net cash increases or decreases from operating activities indirectly by starting with reported net income and “working backwards” to convert that amount to a cash basis. Notice that the indirect method yields the same $22 million net cash flows from operating activities as does the direct method.

Components of Net Income that Do Not Increase or Decrease Cash Depreciation Expense Loss on Sale of Equipment Adding these items back to net income restores net income to what it would have been had depreciation and the loss not been subtracted at all. The indirect method simply reverses the differences between the accrual-based income statement and cash flows from operations. Amounts that were subtracted in determining net income but did not reduce cash are added back to net income to reverse the effect of their having been subtracted. Examples of these amounts are depreciation expense and loss on sale of equipment. Similarly, amounts that were added in determining net income but did not increase cash are subtracted from net income to reverse the effect of their having been added. An example of this is the gain on sale of land. Subtracting the gain reverses the effect of the gain having been added to net income. Gain on Sale of Land

Components of Net Income that Do Increase or Decrease Cash For components of net income that increase or decrease cash, but by an amount different from that reported on the income statement, net income is adjusted for changes in the balances of related balance sheet accounts to convert the effects of those items to a cash basis. For components of net income that increase or decrease cash, but by an amount different from that reported on the income statement, net income is adjusted for changes in the balances of related balance sheet accounts to convert the effects of those items to a cash basis. The table on this slide illustrates when a change in current assets (other than cash and cash equivalents) and current liabilities should be added or subtracted to arrive at net cash flows from operating activities. For example, if accounts receivable increase during the year, the amount of the increase should be subtracted from net income. If accounts payable increase during the year, the amount of the increase should be added to net income. Note: Cash and cash equivalents, short-term investments in securities available for sale, dividends payable, and short-term payables to financial institutions are excluded from this category.

Comparison with the Direct Method This graphic compares the indirect method with the direct method using the data of United Brands Corporation. To better illustrate the relationship between the two methods, the adjustments to net income using the indirect method are presented parallel to the related cash inflows and cash outflows of the direct method. The income statement is included in the graphic to demonstrate that the indirect method also serves to reconcile differences between the elements of that statement and the cash flows reported by the direct method. When the direct method of Cash Flows from Operating Activities is used, a reconciliation of net income to net cash flows from operations is required to be presented in a separate schedule. Since the indirect method is a reconciliation of net income to net cash flows from operating, no additional schedule is required when using the indirect method.

Appendix 21A: Spreadsheet for the Indirect Method A spreadsheet is equally useful in preparing a statement of cash flows whether we use the direct or the indirect method of determining cash flows from operating activities. Appendix 21A: Spreadsheet for the Indirect Method A spreadsheet is equally useful in preparing a statement of cash flows whether we use the direct or the indirect method of determining cash flows from operating activities. The format of the spreadsheet differs only with respect to operating activities. The analysis of transactions for the purpose of identifying cash flows to be reported is the same.

Appendix 21B: The T-Account Method of Preparing the Statement of Cash Flows The T-Account method serves the same purpose as a spreadsheet in assisting in the preparation of a statement of Cash Flows. Appendix 21B: The T-account method of preparing the Statement of Cash Flows. An alternative to the spreadsheet approach is the T-account method. The T-Account method serves the same purpose as a spreadsheet by using a systematic approach to reconstruct the transactions that caused changes in each account balance during he year. The form of the two methods differs only be whether the entries for those transactions are recorded on a spreadsheet or in T-Accounts. Some accountants feel that the T-Account method is less time-consuming, and the choice is simply a matter of personal preference.

Appendix 21B: The T-Account Method of Preparing the Statement of Cash Flows Draw a T-account for each income statement and balance sheet account. The T-account for cash should be drawn considerably larger. Enter each account’s net change on the appropriate side (debit or credit) of the uppermost portion of each T-account. Reconstruct the transactions that caused changes in each account balance during the year and record the entries for those transactions directly in the T-accounts. After all account balances have been explained by T-account entries, prepare the statement of cash flows from the cash T-account, being careful also to report noncash investing and financing activities. The T-account method serves the same purpose as a spreadsheet in assisting in the preparation of a statement of cash flows. The following five steps outline the T-account method: Draw a T-account for each income statement and balance sheet account. The T-account for cash should be drawn considerably larger. Enter each account’s net change on the appropriate side (debit or credit) of the uppermost portion of each T-account. Reconstruct the transactions that caused changes in each account balance during the year and record the entries for those transactions directly in the T-accounts. After all account balances have been explained by T-account entries, prepare the statement of cash flows from the cash T-account, being careful also to report noncash investing and financing activities.

End of Chapter 21 End of chapter 21.