1. Chapter 8 The Statement of Cash Flows

2. 8-1 Multi-Step vs. Single-Step Income Statement Multiple-stepSingle-step Sales Revenue Net Sales a Total Revenue Cost of Goods Sold Gross Profit b Total Expenses Operating Expenses Income from operations c Non-operating items Net Income d a Sales - Sales returns - Sales Discounts b Net sales - Cost of goods sold c Gross profit - Operating expenses d Income from operations + Other revenue/gains - other expenses/losses Other Revenues and Gains Other Expenses and Losses Interest revenue from notes receivable and marketable securities Interest expense on notes and loans payable Dividend revenue from investments in capital stock Casualty losses from recurring causes such as vandalism and accidents Rent revenue from subleasing a portion of the store Losses from the sales of abandonment of property, plant, and equipment Gain from sale of property, plant and equipment Loss from strikes by employees and suppliers

3. 8-2 Typical Receipts and Payments Classified by Activity Operating activities Cash inflows: Cash inflows: From sale of goods or services. From sale of goods or services. From returns on loans (interest) and on equity securities (dividends). From returns on loans (interest) and on equity securities (dividends). Cash outflows: Cash outflows: To suppliers for inventory. To suppliers for inventory. To employees for services. To employees for services. To government for taxes. To government for taxes. To lenders for interest. To lenders for interest. To others for expenses. To others for expenses. Investing activities Cash inflows: Cash inflows: From sale of property, plant, and equipment. From sale of property, plant, and equipment. From sale of debt or equity securities of other entities. From sale of debt or equity securities of other entities. From collection of principal on loans to other entities. From collection of principal on loans to other entities. Cash outflows: Cash outflows: To purchase property, plant, and equipment. To purchase property, plant, and equipment. To purchase debt or equity securities of other entities. To purchase debt or equity securities of other entities. To make loans to other entities. To make loans to other entities. Financing activities Cash inflows: Cash inflows: From sale of equity securities (company’s own stock). From sale of equity securities (company’s own stock). From issuance of debt (bonds and notes). From issuance of debt (bonds and notes). Cash outflows: Cash outflows: To stockholders as dividends. To stockholders as dividends. To redeem long-term debt or reacquire capital stock. To redeem long-term debt or reacquire capital stock.

4. 8-3 Information Sources for Activities OPERATING ACTIVITIES Analyze Income statement items Changes in noncash current asset and current liability items FINANCING ACTIVITIES Analyze increases and decreases in long-term liability and stockholders’ equity items INVESTING ACTIVITIES Analyze increases and decreases in investments and long-term asset items

5. 8-4 Format of the Statement of Cash Flows COMPANY NAME Statement of Cash Flows Period Covered Cash flows from operating activities (List of individual items) (List of individual items) Net cash provided (used) by operating activities Net cash provided (used) by operating activitiesXXXXX Cash flows from investing activities (List of individual inflows and outflows) (List of individual inflows and outflows) Net cash provided (used) by investing activities Net cash provided (used) by investing activitiesXXXXX Cash flows from financing activities (List of individual inflows and outflows) (List of individual inflows and outflows) (Net cash provided (used) by financing activities (Net cash provided (used) by financing activitiesXXXXX Net increase (decrease) in cash XXX Cash at beginning of period XXX Cash at end of period XXX Noncash investing and financing activities (List of individual noncash transactions) (List of individual noncash transactions)XXX

6. 8-5 Converting Net Income to Net Cash Provided (Used) by Operating Activities Accrual Basis of Accounting Cash Basis of Accounting Earned Revenue NetIncome Adjust Revenues to Cash Receipts Net Cash Provided by OperatingActivities Incurred Expenses Adjust Expenses to Cash Disbursements INDIRECT METHOD 1.Begin with net income and adjust for income statement items that did not effect cash. 2.Reconcile net income to net cash provided (used) by operating activities. DIRECT METHOD 1.Adjust each item on the income statement from the accrual basis to the cash basis. 2.Major classes of operating cash receipts and cash payments are reported. OR

7. 8-6 Operating Activities – Indirect Method Adjustments for Noncash Items Adjustments for noncash charges and credits Noncash charges and credits Add to (Deduct from) Net Income Depreciation Expense Add Patent amortization expense Add Depletion expense Add Loss on sale of equipment Add Gain on sales of equipment Deduct Adjustments to convert net income to net cash provided by operating activities. All noncash expenses are added to net income, and all noncash revenues are subtracted from net income.

8. 8-7 Operating Activities – Indirect Method Adjustments For Current Assets and Liabilities Adjustments for Current Items For Changes In: Add to Net Income Deduct from Net Income Current assets DecreasesIncreases Current liabilities IncreasesDecreases For Changes in Individual Accounts: Add to Net Income Deduct from Net Income Accounts receivable DecreaseIncrease InventoryDecreaseIncrease Prepaid expenses DecreaseIncrease Accounts payable IncreaseDecrease Accrued expenses payable IncreaseDecrease Adjustments to convert net income to net cash provided by operating activities. All changes in current assets are handled in a similar manner and all changes in current liabilities are handled in a similar manner, but the adjustments are exactly the opposite.

9. 8-8 Cash Flows from Operating Activities – Indirect Method Problem Data DEMONSTRATION COMPANY Comparative Balance Sheet Accounts December 31 Current Assets 20032002Change Accounts receivable Accounts receivable$30,000$39,000 $9,000 Decrease Prepaid rent Prepaid rent15,00010,000 5,000 Increase Inventory Inventory20,00018,000 2,000 Increase Current Liabilities Accounts payable Accounts payable18,00012,000 6,000 Increase Interest payable Interest payable6,0002,000 4,000 Increase Taxes payable Taxes payable3,0005,000 2,000 Decrease DEMONSTRATION COMPANY Income Statement For the Year Ended December 31, 2005 Revenues Sales revenue Sales revenue Gain on sale of land Gain on sale of land Total revenues Total revenues$400,00020,000$420,000 Expenses Cost of goods sold Cost of goods sold Operating expenses Operating expenses Depreciation expense Depreciation expense Interest expense Interest expense Income tax expense Income tax expense Total expenses Total expenses280,00075,00015,0008,0007,000385,000 Net Income $35,000 Using the data provided, prepare the cash flows from operating activities section of the statement of cash flows using the indirect method.

10. 8-8 Cash Flows from Operating Activities – Indirect Method (continued) DEMONSTRATION COMPANY Statement of Cash Flows (Indirect Method) For the Year Ended December 31, 2004 Cash flows from operating activities Net Income Net Income Adjustments to reconcile net income to net cash provided by operating activities Adjustments to reconcile net income to net cash provided by operating activities Depreciation expense Depreciation expense Gain on sale of land Gain on sale of land Decrease in accounts receivable Decrease in accounts receivable Increase in prepaid rent Increase in prepaid rent Increase in inventory Increase in inventory Increase in accounts payable Increase in accounts payable Increase in interest payable Increase in interest payable Decrease in taxes payable Decrease in taxes payable Net cash provided by operating activities Net cash provided by operating activities$15,000(20,000)9,000(5,000)(2,000)6,0004,000(2,000)$35,0005,000$40,000

11. 8-9 Cash Flows from Operating Activities – Direct Method Problem Data DEMONSTRATION COMPANY Comparative Balance Sheet Accounts December 31, 2005 20052004Change Current assets Accounts receivable Accounts receivable Prepaid rent Prepaid rent Inventory Inventory$30,00015,00020,000$39,00010,00018,000 $9,000 Decrease 5,000 Increase 2,000 Increase Current liabilities Accounts payable Accounts payable Interest payable Interest payable Taxes payable Taxes payable18,0006,0003,00012,0002,0005,000 6,000 Increase 4,000 Increase 2,000 Decrease DEMONSTRATION COMPANY Income Statement For the Year Ended December 31, 2005 Revenues Sales revenue Sales revenue Gain on sale of land Gain on sale of land Total revenues Total revenues$400,00020,000$420,000 Expenses Cost of goods sold Cost of goods sold Operating expenses Operating expenses Depreciation expense Depreciation expense Interest expense Interest expense Income tax expense Income tax expense Total expenses Total expenses280,00075,00015,0008,0007,000385,000 Net Income $35,000 Using the provided data, prepare the cash flows from operating activities section of the statement of cash flows using the direct method.

12. 8-9 Cash Flows from Operating Activities – Direct Method (continued) Accrual Basis AddDeduct Cash Flows Sales$400,000 9,000 A/R $409,000 (+) Gain on sale of land 20,000 20,000 Gain -0- Cost of goods sold 280,000 2,000 Inv. 6,000 A/P 276,000 (-) Operating expenses 75,000 5,000 P. Rent 80,000 (-) Depreciation expense 15,000 15,000 Depre. -0- Interest expense 8,000 4,000 Int. Pay. 4,000 (-) Income tax expense 7,000 2,000 Tax. Pay. 9,000 (-) Net Income $35,000 Cash from operating activities $40,000 DEMONSTRATION COMPANY Statement of Cash Flows (Direct Method) For the Year Ended December 31, 2005 Cash flows from operating activities Cash receipts from customers Cash receipts from customers Cash payments Cash payments To suppliers To suppliers For operating expenses For operating expenses For interest For interest For income taxes For income taxes Net cash provided by operating activities Net cash provided by operating activities$276,00080,0004,0009,000$409,000$369,000$40,000