CHAPTER 10STATEMENT OF CASH FLOWS

MULTIPLE CHOICE 1. Which of the following is not a purpose of the statement of cash flows? a To show cash flow from operations. . b To show cash flow from financing activities. . c To show cash flow from investing activities. . d To show all investing and financing transactions. . e To show operating expenses for a period of time. .

ANS: !. Which of the following is not a t"pical cash flow under operating activities? a cash inflows from sale of goods or services . b cash inflows from interest . c cash outflows to emplo"ees . d cash outflows to suppliers . e cash inflows from sale of propert"# plant# and e$uipment .

ANS: %. Which of the following is not a t"pical cash flow under investing activities? a cash inflow from receipt of loans . b cash inflow from sale of propert"# plant# and e$uipment . c cash outflow for pa"ment of amounts borrowed . d cash outflow for loans to other entities . e cash outflow for purchase of propert"# plant# and e$uipment .

ANS: & '. Which of the following is not a t"pical cash flow under financing activities? a cash inflow from sale of e$uit" securities

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. b . c . d . e .

cash inflow from sale of bonds cash outflow for pa"ment of dividends cash outflow for loans to other entities cash outflow for pa"ment of amounts borrowed

ANS: / 0. Wor1ing capital is defined as: a total assets less intangible assets . b current assets divided b" current liabilities . c current assets less current liabilities . d total assets less current assets . e current assets less liabilities .

ANS: &

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2.

Amorti3ation of patents can be added to income in the operations section of the statement of cash flows because: a it is not a tax deductible expense . b it results in a cash inflow . c it does not re$uire the outla" of cash . d patent amorti3ation is not an expense . e it represents an inflow of cash .

ANS: & 4. Which of the following is not an item added bac1 to income in the operations section of the statement of cash flows when using the indirect presentation? a depreciation . b amorti3ation of goodwill . c increase in deferred income taxes . d amorti3ation of bond premium . e amorti3ation of patents .

ANS: / 5. Which of the following transactions is not reflected in a statement of cash flows? a sale of treasur" stoc1 . b declaration of a stoc1 dividend . c purchase of foreign subsidiar" with cash . d issuance of convertible bonds . e purchase of e$uipment with cash .

ANS: 6 7. .anagement should not use the statement of cash flows for which of the following purposes? a To determine dividend polic". . b To determine cash flow from operations. .

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To determine cash flow from investing activities. c . d To determine cash flow from financing activities. . e To determine the balance in accounts receivable. .

ANS: 1(. Tim &ompan" had sales of 8%(#(((# increase in accounts pa"able of 80#(((# decrease in accounts receivable of 81#(((# increase in inventories of 8'#(((# and depreciation expense of 8'#(((. What was the cash collected from customers? a 8%1#((( . b 8%0#((( . c 8%'#((( . d 8!0#((( . e 8!2#((( .

ANS: A

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11.

&onro" &ompan" had sales of 80(#(((# increase in accounts pa"able of 8'#(((# decrease in accounts receivable of 8%#(((# tax expense of 80#(((# and an increase in taxes pa"able of 81#(((. What was the cash outflow for taxes? a 80'#((( . b 8'#((( . c 82#((( . d 80%#((( . e 8'0#((( .

ANS: 6 1!. 9rancis &ompan" had operating expenses of 8!(#((( and depreciation expenses of 8'#(((. Assuming no other transactions# what was the cash paid for operating expenses? a 8!'#((( . b 8!!#((( . c 812#((( . d 8!(#'(( . e 8!%#((( .

ANS: & 1%. :n a statement of cash flows ;indirect method<# depreciation expense should be presented as: a a cash flow from financing activities . b a cash flow from investing activities . c a deduction from net income . d an addition to net income . e a financial activit" .

ANS: / 1'. The retirement of debt b" the issuance of common stoc1 should be presented in a statement of cash flows in which of the following sections? a supplemental schedule of noncash investing and financing activities .

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cash flows from operating activities b . c cash flows from investing activities . d cash flows from financing activities . e supplemental schedule to reconcile net income to net cash provided b" operations .

ANS: A 10. The statement of cash flows became a re$uired statement in which "ear? a 1770 . b 1745 . c 1741 . d 1754 . e 177% .

ANS: /

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12.

Which of the following should not be considered as part of =cash and cash e$uivalents=? a cash on hand . b cash on deposit . c highl" li$uid investments . d investments in short)term securities ;>7( da" maturit"< . e cash restricted for retirement of bonds .

ANS: 14. Which of the following accounts will not be considered when computing cash flow from operations? a accounts receivable . b inventories . c e$uipment . d accounts pa"able . e taxes pa"able .

ANS: & 15. Which of the following accounts is not part of wor1ing capital? a cash . b accounts receivable . c inventor" . d accounts pa"able . e investments .

ANS: 17. Which of the following is the focus for the statement of cash flows? a cash . b cash and cash e$uivalents . c current assets

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. d wor1ing capital . e none of the answers are correct .

ANS: 6 TRUE/FALSE 1. The statement of cash flows is presented on a wor1ing capital basis. ANS: 9 !. Wor1ing capital is considered to be one of the prime indicators of li$uidit". ANS: T %. The income statement does not fairl" represent the cash from operations. ANS: T '. /epreciation expense reduces operating income but does not re$uire the use of cash. ANS: T 0. With the indirect method of presenting cash from operations# the income statement is essentiall" presented on a cash receipts and cash pa"ments basis. ANS: 9 2. A cash outflow will be generated b" an increase in a liabilit". ANS: 9 4. Within an individual account# there ma" be an explanation of both a source and a use of cash. ANS: T 5. The operating cash flow?current maturities of long)term debt and current notes pa"able is a ratio that indicates long)term# debt)pa"ing abilit". ANS: 9 7. The operating cash flow?total debt ratio is one that indicates a firm@s abilit" to meet its current maturities of debt. ANS: 9 1(. &ash flow per share is usuall" higher than earnings per share.

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ANS: T 11. &ash flow per share is a better indication of a firm@s abilit" to ma1e capital expenditure decisions and pa" dividends than is earnings per share. ANS: T 1!. &ash flow per share can be viewed as a substitute for earnings per share in terms of a firm@s profitabilit". ANS: 9 1%. The statement of cash flows should be reviewed for several time periods in order to determine the maAor sources of cash and the maAor uses of cash. ANS: T 1'. Bnl" cash flow transactions are presented in the statement of cash flows# including supporting schedules. ANS: 9 10. The conversion of long)term bonds into common stoc1 is an example of a transaction involving two financing activities with no cash flow effect. ANS: T

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12. ANS: T

The purchase of e$uipment using cash is an investing activit".

14. Ca"ment of cash dividends is an operating activit". ANS: 9 15. The ac$uisition of land using notes pa"able is an example of a noncash transaction. ANS: T 17. Sale of e$uipment for cash is an operating activit". ANS: 9 !(. A supporting schedule to the statement of cash flows ma" include noncash flow items. ANS: T PROBLEMS 1. The statement of cash flows was added as a re$uired financial statement to overcome deficiencies of the income statement and balance sheet. ,e$uired: 6riefl" describe the purpose of each of these three financial statements. :ndicate in "our answer how the statement of cash flows helped overcome the shortcomings of the other two statements. ANS: The income statement presents revenues# expenses# and earnings for a given period of time. The balance sheet presents assets# liabilities# and e$uit" at the end of the fiscal period. The statement of cash flows presents inflows and outflows of cash categori3ed as operating# investing# and financing. Neither the income statement nor the balance sheet provide detailed information on cash flows.

!. ,e$uired: :ndicate the effect of each of the following transactions on cash and wor1ing capital. -se D to indicate an increase# ) to indicate a decrease# and ( for no effect. a . b . c . d . e . &ollect accounts receivable ,ecogni3e depreciation expense Ca" taxes pa"able Curchase fixed assets for cash Sell common stoc1

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f. g . h .

,eali3e cash surrender value of officer@s life insurance :ncrease deferred income taxes ;long)term liabilit"< Amorti3e of premium on bonds pa"able

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ANS: a . b . c . d . e . f. g . h . &ash D ( ) ) D D ( ( Wor1ing &apital ( ( ( ) D D ( (

%. ,e$uired: :ndicate whether each of the following would be under Bperating ;B<# :nvesting ;:<# 9inancing ;9<# or whether the item would not appear ;N< on the statement of cash flows. a . b . c . d . e . f. g . h . i. A. Curchase of treasur" stoc1 &ash paid to suppliers Net loss :ssuance of bonds pa"able for cash Croceeds from sale of e$uipment Sale of inventor" for cash :ssuance of long)term debt for cash xercise of stoc1 options b" officers Ca"ment of cash dividend &ollection of accounts receivable

ANS: a . b . c 9 B B

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. d . e . f. g . h . i. A.

9 : B 9 9 9 B

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,e$uired: Clace an E in the appropriate columns for each of the following situations. Situation Bperatin g Activit" :nvesting Activit" 9inancing Activit" D ffect on &ash ) Non) cash Trans) action

a. Ca"ing off accounts pa"able b. :ssuance of bonds for cash c. Sale of land for cash d. ,etirement of common stoc1 with cash e. Ac$uired land for common stoc1

ANS: Situation Bperatin g Activit" E E E E E :nvesting Activit" 9inancing Activit" D E E E E E ffect on &ash ) Non) cash Trans) action

a. Ca"ing off accounts pa"able b. :ssuance of bonds for cash c. Sale of land for cash d. ,etirement of common stoc1 with cash e. Ac$uired land for common stoc1

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0.

Fones &lothing Store presented the following statement of cash flows for the "ear ended /ecember %1# !(1(. Fones &lothing Store Statement of &ash 9lows 9or the Gear nded /ecember %1# !(1( a . b . c . d . e . f. g . h . i. A. 1 . &ash received: 9rom sales to customers
$200,000

:nterest income
10,000

+oans from ban1s

50,000

9rom sale of propert"# plant# and e$uipment

100,000

9rom issuance of common stoc1 9rom issuance of bonds Total cash received &ash pa"ments: 9or dividends 9or purchase of stoc1 of another compan" 9or purchase of e$uipment 9or ac$uisition of inventor" To emplo"ees Total cash pa"ments Net increase in cash
150,000 200,000 80,000 60,000 $510,000 $100,000 150,000 100,000 $610,000

$ 20,000

,e$uired: a Crepare a statement of cash flows in proper form. . b &omment on the maAor flows of cash. .

ANS: a . Fones &lothing Store Statement of &ash 9lows 9or the Gear nded /ecember %1# !(1(

&ash flows from operating activities: ,eceived from sales to customers :nterest income received Ca"ment for inventor" Ca"ment to emplo"ees

$ 200,000 10,000 (80,000) (60,000)

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Net increase from operating activities &ash flows from investing activities: ,eceived from sale of propert"# plant# and e$uipment Ca"ment for stoc1 of another compan" Ca"ment for purchase of e$uipment Net decrease from investing activities
70,000

$ 100,000 (150,000) (200,000) $(250,000 )

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&ash flows from financing activities: ,eceived from loans from ban1s 9rom issuance of common stoc1 9rom issuance of bonds Ca"ment of dividends Net increase from financing activities Net increase in cash
$ 50,000 150,000 100,000 (20,000) $ 280,000 100,000 $

b .

Fones &lothing Store had a maAor inflow of funds from financing activities of 8!5(#((( and a maAor outflow of funds for investing activities of 8!0(#(((. Bperating activities generated a net increase of 84(#(((.

2. The balance sheet for /ecember %1# !(1(# /ecember %1# !((7# and the income statement for the "ear ended /ecember %1# !(1(# for ,oc1et &ompan" follows. ,oc1et &ompan" 6alance Sheet /ecember %1# !(1( and !((7 !(1( Assets &ash Accounts receivable# net :nventor" +and 6uilding and e$uipment Accumulated depreciation Total assets +iabilities and Stoc1holders@ $uit" Accounts pa"able :ncome taxes pa"able Wages pa"able &urrent notes pa"able &ommon stoc1 ,etained earnings Total liabilities and stoc1holders@ e$uit"
$ 25,000 60,000 80,000 50,000 130,000* (85,000) $ 260,000

!((7
$20,000 70,000 100,000 50,000 115,000 (70,000) $285,000

$ 30,000 4,000 5,000 50,000** 110,000*** 61,000 $260,000

$ 35,000 3,000 3,000 60,000 100,000 84,000 $285,000

H /uring !(1( cash pa"ments for building and e$uipment 810#(((. HH /uring !(1( cash paid for retirement of notes pa"able 81(#(((. HHH /uring !(1( cash received from issuance of stoc1.

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,oc1et &ompan" :ncome Statement 9or the Gear nded /ecember %1# !(1( Sales +ess expenses: &ost of goods sold Selling and administrative expenses ;includes depreciation of 810#(((< :nterest expense Total expenses :ncome before taxes :ncome tax expense Net income
$500,000 $330,000 90,000 5,000 425,000 $ 75,000 30,000 $ 45,000

Note: &ash dividends of 825#((( were paid during !(1(. ,e$uired: a Crepare the statement of cash flows for !(1(. ;Cresent cash flows from operations using the . indirect approach.< b &ompute the ratio operating cash flow?current maturities of long)term debt and current . notes pa"able. c &omment on the statement of cash flows and the ratio computed in ;b<. .

ANS: a. ,oc1et &ompan" Statement of &ash 9lows 9or the Gear nded /ecember %1# !(1( &ash flow from operating activities: Net income Add;deduct< items not affecting operating cash: /epreciation expense /ecrease in receivables /ecrease in inventor" Accounts pa"able decrease :ncome taxes pa"able increase Wages pa"able increase Net increase in cash flow from operations &ash flow from investing activities: &ash pa"ments for building and e$uipment &ash flow from financing activities: &ash from issuance of stoc1 &ash paid for retirement of notes pa"able &ash dividends paid Net cash outflow from financing activities
$ 45,000 15,000 10,000 20,000 (5,000) 1,000 2,000 $ 88,000

$(15,000)

$ 10,000 (10,000) (68,000) $(68,000)

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Net increase in cash b .

5,000

&ash from operations?&urrent maturities of long)term debt and current notes pa"able. I 1.42 times

855#((( 80(#((( c .

Significant cash inflow came from operating activities# 855#(((# while significant outflow went to financing activities;825#(((<. .ost of the outflow for financing activities went for dividends ;825#(((<.

The ratio &ash from operations?&urrent maturities of long)term debt and current notes pa"able was 1.42 times. This indicates significant li$uidit" from operations to cover current debt.

4. The following statements are presented for .elvin &ompan". .elvin &ompan" 6alance Sheet /ecember %1# !(1(# and !((7 Assets &ash .ar1etable securities# Trade accounts receivable# less allowances of %2 in !(1( and 15 in !((7 :nventories# 9:9B Crepaid expenses Total current assets :nvestments Cropert"# plant# and e$uipment: +and 6uildings and improvements .achiner" and e$uipment +ess allowances for depreciation Joodwill Total assets +iabilities and Shareholders@ $uit" Accounts pa"able Accrued pa"roll Accrued taxes Total current liabilities +ong)term debt /eferred income taxes Shareholders@ e$uit": !(1(
$ 625 260 1,080 930 230 $3,125 $ 820

!((7
$ 499 370 820 870 220 $2,779 $ 600

130 760 2,100 $2,990 1,100 $1,890 500 $6,335

127 670 1,400 $2,197 890 $1,307 550 $5,236

$1,200 100 300 $1,600 900 300

900 80 200 $1,180 750 280

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&ommon stoc1 ,etained earnings Total liabilities and shareholders@ e$uit" .elvin &ompan" :ncome Statement 9or the Gear nded /ecember %1# !(1( Net sales &ost of goods sold Jross profit Selling# administrative# and general expenses Bperating income :nterest expense :ncome before income taxes :ncome taxes Net income Net income per share Note: 0(( shares of common stoc1 were outstanding. .elvin &ompan" Statement of &ash 9lows 9or the Gear nded /ecember %1# !(1( &ash flows from operating activities: Net income AdAustments to reconcile net income to net cash provided b" operating activities: /epreciation Amorti3ation :ncrease in accounts receivable :ncrease in inventories :ncrease in prepaid expenses :ncrease in accounts pa"able :ncrease in accrued pa"roll :ncrease in accrued taxes Net cash provided b" operating activities &ash flows from investing activities: Butflow for investments Butflow for propert"# plant# and e$uipment Net cash outflow for investing activities &ash flows from financing activities: :nflow from issuance of bonds :nflow from deferred taxes /ividends paid Net cash outflow for investing activities Net increase in cash and cash e$uivalents

1,000 2,535 $6,335

1,000 2,026 $5,236

$8,000 3,900 $4,100 2,600 $1,500 100 $1,400 400 $1,000 $ 2.00

$1,000

$210 50 (260) (60) (10) 300 20 100

350 $1,350

$(220) (793) (1,013)

$ 150 20 (491) $ (321) 16

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a .

,e$uired: &ompute the following for !(1(: 1 . ! . % . ' . 0 . 2 . wor1ing capital current ratio acid)test ratio ;conservative< operating cash flow?current maturities of long)term debt and current notes pa"able operating cash flow?total debt operating cash flow per share ,eview the statement of cash flows and comment on significant items.

b .

1.

!. &omment on cash dividends in relation to net income and net cash provided b" operating activities. c . 1 . ! . Which items appearing on the cash flow statement do not directl" represent cash flow? Wh" are these items disclosed on the cash flow statement?

ANS: a 1 Wor1ing &apital: . . 8%#1!0 ) 81#2(( I 81#0!0 ! . &urrent ,atio I &urrent Assets?&urrent +iabilities 8%#1!0 81#2(( % . I 1.70 &ash $uivalents D .ar1etable Securities D Net ,eceivables &urrent +iabilities 82!0 D 8!2( D 81#(5( 81#2(( ' . I 81#720 81#2(( I 1.!%

Acid)Test ,atio I

Bperating &ash 9low?&urrent .aturities of +ong)Term /ebt and &urrent Notes Ca"able 81#%0(?( I N?A

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0 .

Bperating &ash 9low?Total /ebt 81#%0(?8!#5(( I '5.!K

2.

Bperating &ash 9low Cer Share I 81#%0( ) 8( 0(( I 8!.4(

&ash 9low ) Creferred /ividends &ommon Shares Butstanding

b.

1.

!. c . 1 . ! .

Net cash provided b" operating activities was 81#%0(# cash outflow for investing was 81#(1%# and net cash outflow for financing activities was 8%!1. &ash outflow for propert"# plant# and e$uipment was significant in relation to cash provided b" operations. &ash dividends represent '7K of net income and %2K of cash provided b" operating activities. /epreciationL amorti3ation. The cash flows from operating activities is presented using the indirect approach. This approach starts with net income and adAusts to net cash provided b" operating activities. Since the noncash items of depreciation and amorti3ation have been considered to be expenses on the income statement# the" need to be added bac1.

5. The income statement and other selected data for Cat Jibson &ompan" is shown below. Cat Jibson &ompan" Accrual 6asis :ncome Statement 9or the Gear nded /ecember %1# !(1( Net sales xpenses &ost of goods sold Selling and administrative expense Total expenses :ncome before income taxes :ncome taxes Net income
$900,000 550,000 133,000 $683,000 217,000 65,400 $151,600

Bther data: a &ost of goods sold includes depreciation expense of 8!(#(((. . b Selling and administrative expense includes goodwill amorti3ation of 81(#(((. . c /ecrease in deferred income taxes ;a liabilit" account<# 80#(((.

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. d . e . f. g .

:ncrease in accounts receivable# 8!(#(((. :ncrease in accounts pa"able# 81(#(((. :ncrease in inventories# 8%(#(((. /ecrease in income taxes pa"able# 8!(#(((.

,e$uired: a Crepare a cash basis income statement. . b Crepare the cash flows from operating activities using the indirect approach. .

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ANS: a. Cat Jibson &ompan" :ncome Statement ;&ash 6asis< 9or the Gear nded /ecember %1# !(1( &ollections from customers: Sales :ncrease in receivables &ash paid for merchandise: &ost of goods sold :ncrease in inventor" :ncrease in accounts pa"able /epreciation expense &ash pa"ments for selling and administrative: Selling and administrative expense Joodwill amorti3ation &ash pa"ments for income taxes: :ncome taxes /ecrease in deferred income taxes /ecrease in income taxes pa"able Net cash inflow
$900,000 (20,000)

$880,000

$550,000 30,000 (10,000) (20,000)

(550,000)

$133,000 (10,000) (123,000)

$ 65,400 5,000 20,000

(90,400) $116,600

b .

&ash 9lows from Bperating Activities

$151,600

Net income AdAustments to reconcile net income to cash provided b" operating activities: /epreciation Joodwill amorti3ation /ecrease in deferred income taxes :ncrease in accounts receivable :ncrease in accounts pa"able :ncrease in inventories /ecrease in income taxes pa"able Net cash provided b" operating activities

$ 20,000 10,000 (5,000) (20,000) 10,000 (30,000) (20,000) $116,600

7. ,e$uired: 9or each of the following situations# give a li1el" reason or explanation. a. 9or Fones &ompan"# net cash provided b" operating activities is significantl" less than net income.

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* !(11 &engage +earning. All ,ights ,eserved. This edition is intended for use outside of the -.S. onl"# with content that ma" be different from the -.S. dition. .a" not be scanned# copied# duplicated# or posted to a publicl" accessible website# in whole or in part.

b. c.

Significant cash outflows were used for investing activities. The ratio operating cash flow?total debt decreases# while the ratio operating cash flow?current maturities of long)term debt and current notes pa"able increases.

ANS: a This could be caused b" significant increases in current assets that relate to operations or . decreases in current liabilities that relate to operations. The most li1el" reason is a significant increase in accounts receivable and?or inventor". b Significant funds were li1el" used for investments and?or propert"# plant# and e$uipment. . c Total debt decreased in relation to cash flow# while current maturities of long)term debt and . current notes pa"able increased in relation to cash flow. This indicates that the compan"@s abilit" to pa" current debt has decreased# while the compan"@s abilit" to pa" total debt has increased.

1(. +isted below are several ratios. a Bperating cash flow?current maturities of long)term debt and current notes pa"able . b Bperating cash flow?total debt . c Bperating cash flow per share . d Bperating cash flow?cash dividends . ,e$uired: .atch the letter that goes with each formula. MMMMM 1. MMMMM !. Bperating &ash 9low &ash /ividends Bperating &ash 9low &urrent .aturities of +ong)Term /ebt and &urrent notes Ca"able MMMMM %. MMMMM '. Bperating &ash 9low Total /ebt Bperating &ash 9low ) Creferred /ividends &ommon Shares Butstanding

ANS: 1 d .

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* !(11 &engage +earning. All ,ights ,eserved. This edition is intended for use outside of the -.S. onl"# with content that ma" be different from the -.S. dition. .a" not be scanned# copied# duplicated# or posted to a publicl" accessible website# in whole or in part.

! . % . ' .

a b c

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* !(11 &engage +earning. All ,ights ,eserved. This edition is intended for use outside of the -.S. onl"# with content that ma" be different from the -.S. dition. .a" not be scanned# copied# duplicated# or posted to a publicl" accessible website# in whole or in part.