Chapter 12 - PowerPoint Presentation

Slide1

Chapter 12

Statement of Cash Flows

PowerPoint Authors:

Brandy Mackintosh

Lindsay

HeiserSlide2

Learning Objective 12-1

Identify cash flows arising

from operating, investing,

and financing activities. Slide3

Operations

Cash received and paid

for day-to-day activities

with customers, suppliers,

and employees.

Investing

C

ash paid and received

from buying and sellinglong-term assets.

FinancingCash received and paidfor exchanges withlenders and stockholders.

Business Activities and Cash Flows

The Statement of Cash Flows focuses attention on: Slide4

Cash

Checking and Savings Accounts

Cash Equivalents

Highly liquid short-term investments

within three months of maturity.

Business Activities and Cash Flows

CurrencySlide5

Classifying Cash Flows

UNDER ARMOUR, INC.

Statement of Cash Flows

For the Year Ended December 31, 2010

(in millions)

Net cash provided (used) by operating activities

Net cash provided (used) by investing activitiesNet cash provided (used) by financing activitiesNet Change in Cash and Cash EquivalentsCash and cash equivalents, beginning of yearCash and cash equivalents, end of year

$ 37 (41)

7 3 187 $ 190 Slide6

Cash inflows and outflows that directly relate to revenues and expenses reported on the Income Statement.

Operating ActivitiesSlide7

Investing Activities

Under Armour’s 2010 Investing ActivitiesSlide8

Financing Activities

Under Armour’s 2010 Financing ActivitiesSlide9

Relationships Between Classified Balance Sheet and Statement of Cash Flow (SCF) CategoriesSlide10

Relationship to Other Financial Statements

Information needed to prepare a Statement of Cash Flows:

Comparative Balance Sheets.

Income Statement.

Additional details concerning

selected accounts.Slide11

Relationship to Other Financial Statements

Recall that the basic Balance Sheet equation is:

We can recast the equation as follows:

The following equation is true:

From this basic Balance Sheet equation, we

develop our model to solve for the change in cash

:Slide12

Direct and Indirect Reporting

of Operating Cash Flows

We will concentrate on the indirect method for now, and we

will look at the direct method again later in the chapter.

Same resultSlide13

Learning Objective 12-2

Report cash flows from operating activities, using

the indirect method.Slide14

Cash Flows from Operating Activities - Indirect Method

Net Income

Cash Flows from Operating Activities - Indirect Method

Changes in Current Assets and Current Liabilities.

+ Losses and - Gains

+ Noncash expenses such as Depreciation and Amortization.

The indirect method adjusts Net Income

by analyzing noncash items. Slide15

Use this table when adjusting Net Income to operating cash flows using the

indirect method

.

Relationships to the Balance Sheet and the Income Statement

Change in account

balances during the yearSlide16

Use the following financial statements for Under Armour, Inc. and prepare the Statement of Cash Flows for the year ended December 31, 2010.

Statement of Cash Flows

Indirect Method ExampleSlide17

Statement of Cash Flows

Indirect Method ExampleSlide18

Statement of Cash Flows

Indirect Method ExampleSlide19

The Statement of Cash Flows using the indirect method will begin with Under Armor, Inc.’s Net Income from the Income Statement.

Statement of Cash Flows

Indirect Method ExampleSlide20

Direct and Indirect Reporting

of Operating Cash Flows

When using the indirect method, start with accrual basis Net Income and adjust it for:

items that

are

included in Net Income but do not involve cash, and

items that are not included in Net Income but do involve cash.Slide21

Next, adjust for the non-cash items included

in Net Income.

For Under Armour, the only non-cash adjustment

is for Depreciation Expense. Slide22

Accumulated Depreciation increased by $17, from $70 in the 2009 Balance Sheet to $87 in the 2010 Balance sheet. The same $17 is shown as Depreciation Expense in the 2010 Income Statement.

To complete the Cash Flows from Operating Activities section, we must examine comparative Balance Sheets to determine the changes in current assets and current liabilities from the beginning of the period to the end of the period.Slide23

These five items were shown earlier in the current portions of Under

Armour’s

comparative Balance Sheets for 2009 and 2010Slide24

Learning Objective 12-3

Report cash flows from investing activities.Slide25

Reporting Cash Flows from Investing Activities

We will need this additional data to prepare

the investing portion of the statement.

No disposals or impairments of Equipment or Intangibles occurred

Equipment costing $30 million and Intangibles costing $11 million were purchased with Cash.Slide26

Under

Armour

, Inc., has two investing activities on the Statement of Cash Flows that required the use of Cash:

Purchase of Equipment, and

Purchase of Intangibles and Other Assets.

Reporting Cash Flows from Investing ActivitiesSlide27

Learning Objective 12-4

Report cash flows from financing activities. Slide28

Reporting Cash Flows from Financing Activities

We will need this additional data to prepare

the financing portion of the statement.

No Dividends were declared or paid.

Long-term Debt of $5 million was paid.

$9 million in new long-term loans were issued.

Shares of Stock were issued for $3 million.Slide29

Reporting Cash Flows from Financing Activities

Long-term Debt increased because of $9 in

new loans during the year. The long-term Debt

increase is a Cash inflow.Slide30

Reporting Cash Flows from Financing Activities

Payments on Long-term Debt resulted in a Cash outflow of $5. The net effect of these two Long-term Debt transactions increased Long-term Debt by $4, from $25 on the 2009 Balance Sheet to $29 on the 2010 Balance Sheet. Slide31

Reporting Cash Flows from Financing Activities

The third financing activity is the issuance of Common Stock resulting in a Cash inflow of $3. Contributed Capital increased from $224 in the 2009 Balance Sheet to $227 in the 2010 Balance Sheet.Slide32

Now we can reconcile the change in Cash to the ending $190 Cash balance that appears on the Balance Sheet.

Reporting Cash Flows from Financing ActivitiesSlide33

Noncash Investing and

Financing Activities

Required Supplemental Information:

Cash paid for taxes and interest.

Significant non-cash investing and financing activities. Slide34

Learning Objective 12-5

Interpret cash flows from operating, investing, and financing activities.Slide35

Operating cash flows must be positive over the long-run for a company to be successful.

An upward trend in operating cash flows over time indicates growth and efficient operations.

Look at the relationship between operating cash flows and Net Income.

Evaluating Operating Cash FlowsSlide36

Healthy companies tend to show negative cash flows in the investing activities section.

Be cautious over a positive total cash flow in the investing activities section

Evaluating Investing Cash FlowsSlide37

It’s not possible to evaluate the company’s financing cash flows by simply determining whether they are positive or negative on an overall basis.

Instead, consider detailed line items with this section to assess the company’s overall financing strategy.

Evaluating Financing Cash FlowsSlide38

Overall Patterns of Cash FlowsSlide39

Learning Objective 12-6

Report and interpret cash flows from operating activities using the direct method.

Slide40

Reporting Operating Cash Flows with the Direct Method

Provides more detailed information

Identifies cash inflows and outflows relationships

Prepared by adjusting accrual basis to cash basis

Investing and financing sections for the two methods are identical Slide41

When we prepared the operating section using the indirect method, we also arrived at net cash inflow of $37.

Let’s see how we arrive at these cash flows.

Direct Method Operating ActivitiesSlide42

With the direct method, we convert each revenue and expense on the Income Statement to a cash flow.

Direct Method Operating ActivitiesSlide43

Supplement 12A

Reporting Disposals of Property, Plant, and Equipment (Indirect Method)Slide44

Depreciation Expense

Loss on Sale

of PPE

A loss on the sale of PPE is added back to Net Income just as Depreciation Expense is added back. Adding these noncash items restores Net Income to what it would have been had Depreciation and the loss not been subtracted at all.

Just the opposite is true for a gain on the sale of PPE. Subtracting the gain reverses the effect of the gain having been added to Net Income.

Gain on Sale

of PPE

Reporting Sales of Property, Plant, and Equipment (PPE) (Indirect)Slide45

Supplement 12B

T-Account (Indirect Method)Slide46

Instead of creating schedules for each section of the Statement of Cash Flows, some prefer to prepare a single large T-account to represent the changes that have taken place in Cash subdivided into the three sections of the Statement of Cash Flows.

Let’s see how to use a T-account to prepare a Statement of Cash Flows on the next slide.

T-account Approach

(Indirect Method)Slide47

T-account Approach(Indirect Method)Slide48

Supplement 12C

Spreadsheet Approach (Indirect Method)Slide49

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.

Let’s see how to use a spreadsheet to prepare a Statement of Cash Flows on the next few slides.

Spreadsheet Approach

(Indirect Method)Slide50

We begin by entering the beginning and ending balances for each account on the comparative Balance Sheets.

The cash inflows and outflows columns will be used later to explain the changes in each account balance.

12-

50Slide51

12-

51

Changes in Balance Sheet accounts are analyzed in terms of debits and credits in the top half of the spreadsheet and recorded as cash inflows and outflows in the bottom half of the spreadsheet.

We will begin with operating activities.Slide52

12-

52

Changes in Balance Sheet accounts are analyzed in terms of debits and credits in the top half of the spreadsheet and recorded as cash inflows and outflows in the bottom half of the spreadsheet.

Now we will complete the analysis with investing and

financing activities.Slide53

The top of the completed spreadsheet

is shown here.

Spreadsheet Approach(Indirect Method)

12-

53Slide54

Spreadsheet Approach(Indirect Method)

The bottom of the completed spreadsheet

is shown here.Slide55

Chapter 12

Solved Exercises

E12-2, E12-3, E12-4, E12-5, E12-6, E12-7

12-

55Slide56

E12-2 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Suppose your company sells services of $180 in exchange for $110 cash and $70 on account.

Required:

Show the journal entry to record this transaction.

2. Identify the amount that should be reported as net cash flows from

operating activities.

The $110 increase in Cash is reported as

net cash flows from operating activities.

Record

dr Cash (+A)

dr Accounts Receivable (+A)

cr Service Revenue (+R, +SE)

180

110

70Slide57

E12-2 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

3. Identify the amount that would be included in Net Income.

4. Show how the indirect method would convert Net Income (requirement

3) to net cash flows from operating activities (requirement 2).

5. What general rule about converting Net Income to operating cash flows

is revealed by your answer to requirement 4?$180 of Service Revenue would be included in Net Income.

When Accounts Receivable increases, Sales Revenue is greater than Cash received, so subtract the increase to convert Net Income to cash flow from operating activities.

Net Income

Less: Accounts Receivable increaseNet cash flow from operating activities$ 180(70)$ 110Slide58

E12-3 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Suppose your company sells services for $325 cash this month. Your company also pays $100 in wages, which includes $15 that was payable at the end of the previous month and $85 for wages of this month.

Required:

Show the journal entries to record these transactions.

Record

dr Cash (+A)

cr Service Revenue (+R, +SE)

325

325

Record

dr Wages Payable (-L)

dr Wages Expense (+E, -SE)

cr Cash (-A)

100

15

85Slide59

E12-3 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

2. Identify the amount that should be reported as net cash flows from

operating activities.

3. Identify the amount that would be included in Net Income.

4. Show how the indirect method would convert Net Income (requirement

3) to Net Cash Flows from Operating Activities (requirement 2).The $225 increase in Cash ($325 – $100) should be reported

as net cash inflow from operating activities.

$325 of Service Revenue would be included along withWages Expense of $85, for a Net Income of $240.

Net IncomeLess: Wages Payable decreaseNet cash flow from operating activities

$ 240(15)

$ 225Slide60

E12-3 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

5. What general rule about converting Net Income to operating cash flows is

revealed by your answer to requirement 4?

When Wages Payable decreases, subtract that decrease to convert Net Income to cash flow from operating activities.Slide61

E12-4 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Suppose your company sells services of $150 in exchange for $120 cash and $30 on account. Depreciation of $50 also is recorded.

Required:

Show the journal entries to record these transactions.

Record

dr Cash (+A)

dr Accounts Receivable (+A)

cr Service Revenue (+R, +SE)

150

120

30

Record

dr Depreciation Expense (+E, -SE)

cr Accumulated Depreciation (+xA, -A)

50

50Slide62

E12-4 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

2. Identify the amount that should be reported as Net Cash Flows from

Operating Activities.

3. Identify the amount that would be included in Net Income.

4. Show how the indirect method would convert Net Income (requirement

3) to net cash flows from operating activities (requirement 2).The $120 increase in Cash should be reported

as net cash flows from operating activities.

Net Income would include $150 of Service Revenueand $50 of Depreciation Expense, or $100 in total.

Net IncomeAdd: DepreciationLess: Accounts Receivable increaseNet cash flow from operating activities

$ 100

50 (30)$ 120Slide63

E12-4 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

5. What general rules about converting Net Income to operating cash flows

are revealed by your answer to requirement 4?

Two general rules are revealed:

Always add back the amount of Depreciation Expense subtracted in the Income Statement

to convert Net Income to cash flow from operating activities.

When Accounts Receivable increases, Sales Revenue is greater than Cash received, so subtract the increase to convert Net Income to cash flow from operating activities.Slide64

E12-5 Understanding the Computation of Cash Flows from Operating Activities Indirect Method)

Suppose your company sells goods for $300, of which $200 is received in cash and $100 is on account. The goods cost your company $125 in a previous period. Your company also recorded wages of $70, of which only $30 has been paid in cash.

Required:

1. Show the journal entries to record these transactions

Record

dr Cash (+A)

dr Accounts Receivable (+A)

cr Service Revenue (+R, +SE)

300

200

100

Record

dr Cost of Goods Sold (+E, -SE)

cr Inventory (-A)

125

125Slide65

E12-5 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

1. Show the journal entries to record these transactions

2. Identify the amount that should be reported as net cash flows from

operating activities.

3. Identify the amount that would be included in Net Income.

Net cash flows from operating activities would be $170, which equals

the $200 received from customers minus the $30 paid to employees.

Net Income would be $105, which equals $300 of Sales Revenueminus Cost of Goods Sold ($125) and Wages Expense ($70).

Record

dr Wages Expense (+E, -SE)

cr Wages Payable (+L)

cr Cash (-A)

40

30

70Slide66

E12-5 Understanding the Computation of Cash Flows from Operating Activities (Indirect Method)

Required:

4. Show how the indirect method would convert Net Income (requirement 3)

to net cash flows from operating activities (requirement 2).

5. What general rules about converting Net Income to operating cash flows

are revealed by your answer to requirement 4?

Three general rules are revealed:Add back decreases in noncash Current Assets

. Add back increases in Current Liabilities

Deduct increases in noncash Current Assets.Net Income

Add: Inventory decrease Wages Payable increaseLess: Accounts Receivable increaseNet cash flow from operating activities

$ 10512540 (100)

$ 170Slide67

E12-6 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Suppose your company’s Income Statement reports $160 of Net Income, and its comparative Balance Sheet indicates the following.

Required:

1. Prepare the operating activities section of the Statement of Cash Flows,

using the indirect method.

2. Identify the most important cause of the difference between the company’s Net Income and Net Cash Flows from Operating Activities.Slide68

E12-6 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

1. Prepare the operating activities section of the Statement of Cash Flows,

using the indirect method.

First, let’s determine the changes in Balance Sheet accounts.

ASSETS

Current assets:

Cash Accounts Receivable InventoryTotal Wages PayableRetained Earnings

Total

Beginning$ 35

75 245$ 35510 345

$ 355

Change

$ 170

100

(110)

$ 40

120

Ending

$ 205

175

135

$ 515

50

465

$ 515Slide69

E12-6 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

1. Prepare the operating activities section of the Statement of Cash Flows,

using the indirect method.

Cash Flows from Operating Activities:

Net Income Changes in Current Assets and Current Liabilities: Accounts Receivable increase Inventory decrease Wages Payable increase

Net cash provided (used) by operating activities

$ 160-100110 40$ 210

Decrease

Increase

Current Assets

Current Liabilities

Subtract from

Net Income.

Subtract from

Net Income.

Add to

Net Income.

Add to

Net Income.Slide70

E12-6 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

2. Identify the most important cause of the difference between the

company’s Net Income and Net Cash Flows from Operating Activities.

The Inventory decrease indicates that Cost of Goods Sold (deducted in the Income Statement) was $110 more than the cash paid to purchase Inventory. In other words, the company sold Inventory but did not replace it, creating a net cash inflow for the period.

Cash Flows from Operating Activities:

Net Income Changes in current assets and current liabilities: Accounts Receivable increase Inventory decrease

Wages Payable increaseNet cash provided (used) by operating activities$ 160

-100110 40

$ 210

The most important cause of the difference is the $110 decrease in Inventory. Slide71

E12-7 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Suppose the Income Statement for Goggle Company reports $95 of Net Income, after deducting depreciation of $35. The company bought equipment costing $60 and obtained a long-term bank loan for $70. The company’s comparative balance sheet, at December 31, indicates the following.Slide72

E12-7 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

1. Calculate the change in each balance sheet account, and indicate whether

each account relates to operating, investing, and/or financing activities.

Cash

Accounts ReceivableInventory

EquipmentAccumulated Depreciation Total

Wages PayableLong-term DebtContributed CapitalRetained Earnings Total

2012$ 3575260500 (45)$ 825

$ 1044510

360$ 825

2013$ 240

175

135

560

(80)

$ 1,030

$ 50

515

10

455

$ 1,030

Type

Change

205

100

(125)

60

35

40

70

-

95

Cash

Accounts Receivable

Inventory

Equipment

Accumulated Depreciation

Total

Wages Payable

Long-term Debt

Contributed Capital

Retained Earnings

Total

2012

$ 35

75

260

500

(45)

$ 825

$ 10

445

10

360

$ 825

2013

$ 240

175

135

560

(80)

$ 1,030

$ 50

515

10

455

$ 1,030

Type

Cash

Operating

Operating

Investing

Operating

Operating

Financing

Financing

Operating

Change

205

100

(125)

60

35

40

70

-

95Slide73

E12-7 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

2. Prepare a statement of cash flows using the indirect method.

Google Company

Statement of Cash flows

For the Year Ended December 31, 2013Cash Flows from Operating Activities:Net IncomeAdd DepreciationSubtract Accounts Receivable increase

Add Inventory decreaseAdd Wages Payable increaseNet cash provided (used) by operating activities

$ 9535(100)

125 40 195

Decrease

Increase

Current Assets

Current Liabilities

Subtract from

Net Income.

Subtract from

Net Income.

Add to

Net Income.

Add to

Net Income.

Google Company

Statement of Cash flows

For the Year Ended December 31, 2013

Cash Flows from Operating Activities:

Net Income

Add Depreciation

Subtract Accounts Receivable increase

Add Inventory decrease

Add Wages Payable increase

Net cash provided (used) by operating activities

Cash Flows from Investing Activities:

Equipment purchased

Net cash provided (used) by investing activities

$ 95

35

(100)

125

40

195

(60)

(60)

Google Company

Statement of Cash flows

For the Year Ended December 31, 2013

Cash Flows from Operating Activities:

Net Income

Add Depreciation

Subtract Accounts Receivable increase

Add Inventory decrease

Add Wages Payable increase

Net cash provided (used) by operating activities

Cash Flows from Investing Activities:

Equipment purchased

Net cash provided (used) by investing activities

Cash Flows from Financing Activities:

Obtained long-term bank loan

Net cash provided (used) by financing activities

Net change in cash

Cash, Beginning of 2013

Cash, End of 2013

$ 95

35

(100)

125

40

195

(60)

(60)

70

70

205

35

$ 240Slide74

E12-7 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

3. In one sentence, explain why an increase in Accounts Receivable is

subtracted.

4. In one sentence, explain why a decrease in Inventory is added.

The increase in Accounts Receivable indicates thatsales on account were greater than cash collections.

A decrease in Inventory indicates that Cost of Goods Sold (subtracted

in the Income Statement) was greater than Inventory purchases.Slide75

E12-7 Preparing and Evaluating a Simple Statement of Cash Flows

(Indirect Method)

Required:

5. In one sentence, explain why an increase in Wages Payable is added.

6. Are the cash flows typical of a start-up, healthy, or troubled company?

Explain.

The Wages Payable increase is added because more wages were subtracted when calculating Net Income than actually paid.

A healthy company since operating cash flows are positive andfinancing inflows are sufficient to cover investing outflows.Slide76

End of Chapter 12