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Conducted by: Mr. Koy Chumnith
The Statement of Cash Flows Revisited
21
McGraw-Hill/Irwin 2011, Royal University of Law and Economics
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Investing ActivitiesOperating Activities Financing ActivitiesSale of operational assets
Sale of investments
Collections of loans
Cash received from revenues
Issuance of stock
Issuance of bonds and notes
CASH INFLOWS
Business
CASH OUTFLOWS
Purchase of operational assets
Purchase of investmentsLoans to others
Cash paid for expenses
Payment of dividends
Repurchase of stock
Repayment of debt
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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.
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.
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Role of the Statement of Cash Flows
Lists all cash inflows and all cash outflows by category: Operating,
Investing, and Financing
Explains the change in cash during the period
Required by GAAPCash is King!
Especially during an economic
downturn
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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.
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Operating Activities
Investing Activities
Financing Activities
Reconciliation of the Net Increase or Decrease in Cash with the Change in the Balance of the Cash
Account
Noncash Investing and Financing
Activities
Primary Elements of the Statement of Cash Flows
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Investing Activities
Reports the cash effects of the acquisition and disposition of assets
(other than inventory and cash equivalents).
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.
Primary Elements of the Statement of Cash Flows
Operating Activities
Reports the cash effects of the elements of net income.
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Cash Flows from Operating Activities
Cash Flows from
Operating Activities
+
Inflows from: customers. interest and dividends.
_Outflows to:
suppliers of goods. salaries and wages. interest on debt. income taxes.
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Direct Method or Indirect Method of Reporting Direct Method or Indirect Method of Reporting Cash Flows from Operating ActivitiesCash 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
Note that no matter which format is used, the same amount of net cash flows operating activities is generated.
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Direct Method
Under the direct method, the cash effect of each operating activity is reported directly in the
statement.
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Indirect MethodBy 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.
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Cash Flows from
Investing Activities
+
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.
_
Outflows to: Purchase of long-term assets
used in the business. Purchase of investment
securities (stocks and bonds). Create nontrade receivables.
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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.
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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:
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Noncash Investing and Financing Activities
Significant investing and financing transactions not involving cash also are reported (usually in a disclosure note).
1. Acquiring an asset by incurring a debt payable to the seller.
2. Acquiring an asset by entering into a capital lease.
3. Converting debt into common stock or other equity securities.
4. Exchanging noncash assets or liabilities for other noncash assets or liabilities.
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U.S. GAAP and IFRSThe FASB and IASB are working together on a project,
Financial Statement Presentation, to establish a common standard for presenting information in the financial statements.
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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.
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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.
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.
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 32 Short-term investments - 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes
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The beginning balances for income statement accounts are always zero.
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Income StatementRevenues:Sales revenue 100 Investment revenue 3 Gain on sale of land 8
Expenses:Cost of good sold (60) Salaries expense (13) Depreciation expense (3) Bond interest expense (5) Insurance expense (7) Loss on sale of equipment (2) Income tax expense (9) Net income 12
Changes
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Statement of Cash FlowsOperating Activities:
Investing Activities:
Financing Activities:
Changes
Next we allocate space
on the spreadsheet
for the statement of cash flows.
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.
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 32 Short-term investments - 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes Let’s start by analyzing
Sales Revenue and
its related account
Accounts Receivable by looking at the relationship in
a T-account format.
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Income StatementRevenues:Sales revenue 100 Investment revenue 3 Gain on sale of land 8
Expenses:Cost of good sold (60) Salaries expense (13) Depreciation expense (3) Bond interest expense (5) Insurance expense (7) Loss on sale of equipment (2) Income tax expense (9) Net income 12
Changes
Beg. bal. 30Credit sales 100 ? Cash receivedEnd. bal. 32
Accounts Receivable
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 32 Short-term investments - 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes We can see from this analysis that
cash received from customers must have been
$98 million.
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Income StatementRevenues:Sales revenue 100 Investment revenue 3 Gain on sale of land 8
Expenses:Cost of good sold (60) Salaries expense (13) Depreciation expense (3) Bond interest expense (5) Insurance expense (7) Loss on sale of equipment (2) Income tax expense (9) Net income 12
Changes
Beg. bal. 30Credit sales 100 98 Cash receivedEnd. bal. 32
Accounts Receivable
Let’s see how to post this entry to the
spreadsheet.
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 (1) 2 32 Short-term investments - 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
ChangesFirst, $2 million
is debited to Accounts
Receivable to account for the total change in
the account.
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Income StatementRevenues:Sales revenue (1) 100 100 Investment revenue 3 Gain on sale of land 8
Expenses:Cost of good sold (60) Salaries expense (13) Depreciation expense (3) Bond interest expense (5) Insurance expense (7) Loss on sale of equipment (2) Income tax expense (9) Net income 12
Changes
Beg. bal. 30Credit sales 100 98 Cash receivedEnd. bal. 32
Accounts Receivable
Then, $100 million is credited to Sales Revenue to account for the
total change in the account.
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Statement of Cash FlowsOperating Activities:Cash Inflows: From customers (1) 98
Investing Activities:
Financing Activities:
Changes
The final part of this entry is a
$98 million entry on
the Statement
of Cash Flows
under Cash Inflows
from Customers.
Beg. bal. 30Credit sales 100 98 Cash receivedEnd. bal. 32
Accounts Receivable
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 (1) 2 32 Short-term investments - (12) 12 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes
Note that in the textbook, entry
number 12 illustrates the analysis of the
Short-term Investment account.
The $12 million increase in the
Short-term Investments
account is due to the purchase
of short-term investments
during the year.
Beg. bal. 0Purchases 12End. bal. 12
Short-term Investments
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Statement of Cash FlowsOperating Activities:Cash Inflows: From customers (1) 98
Investing Activities:
Purchase of S-T investment (12) 12
Financing Activities:
Changes
The final part of this entry is a
$12 million entry on
the Statement
of Cash Flows under
Investing Activities.
Beg. bal. 0Purchases 12End. bal. 12
Short-term Investments
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 29 Accounts receivable 30 (1) 2 32 Short-term investments - (12) 12 12 Inventory 50 46 Prepaid insurance 6 3 Land 60 80 Buildings and equipment 75 (14) 20 81 Less: Accumulated depreciation (20) (16)
221 267
Liabilities:Accounts payable 20 26 Salaries payable 1 3 Income tax payable 8 6 Notes payable - (14) 20 20 Bonds payable 50 35 Less: Discount on bonds payable (3) (1)
Shareholders' Equity:Common stock 100
130 Paid-in capital 20
29 Retained earnings 25
19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes
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
21 - 29
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Balance SheetAssets:Cash 20 (19) 9 29 Accounts receivable 30 (1) 2 32 Short-term investments - (12) 12 12 Inventory 50 (4) 4 46 Prepaid insurance 6 (8) 3 3 Land 60 (13) 30 (3) 10 80 Buildings and equipment 75 (14) 20 (9) 14 81 Less: Accumulated depreciation (20) (9) 7 (6) 3 (16)
221 267
Liabilities:Accounts payable 20 (4) 6 26 Salaries payable 1 (5) 2 3 Income tax payable 8 (10) 2 6 Notes payable - (14) 20 20 Bonds payable 50 (15) 15 35 Less: Discount on bonds payable (3) (7) 2 (1)
Shareholders' Equity:Common stock 100 (16) 10
(17) 20 130 Paid-in capital 20 (16) 3
(17) 6 29 Retained earnings 25 (16) 13
(18) 5 (11) 12 19 221 267
UNITED BRANDS CORPORATIONSpreadsheet for the Statement of Cash Flows
Changes
x
x
After entering all the
transactions, this is what the balance sheet portion of the spreadsheet looks like.
21 - 30
Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Income StatementRevenues:Sales revenue (1) 100 100 Investment revenue (2) 3 3 Gain on sale of land (3) 8 8
Expenses:Cost of good sold (4) 60 (60) Salaries expense (5) 13 (13) Depreciation expense (6) 3 (3) Bond interest expense (7) 5 (5) Insurance expense (8) 7 (7) Loss on sale of equipment (9) 2 (2) Income tax expense (10) 9 (9) Net income (11) 12 12
Changes
After entering all the transactions, this is what the income statement portion of the
spreadsheet looks like.
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Dec. 31, 2010 Debits Credits
Dec. 31, 2011
Statement of Cash FlowsOperating Activities:Cash Inflows: From customers (1) 98 From investment revenue (2) 3 Cash Outflows: To suppliers of goods (4) 50 To employees (5) 11 To bondholders (7) 3 For insurance expense (8) 4 For income taxes (10) 11 Net cash flows 22 Investing Activities: Sale of land (3) 18 Sale of equipment (9) 5 Purchase of S-T investment (12) 12 Purchase of land (13) 30 Net cash flows (19) Financing Activities: Retirement of bonds payable (15) 15 Sale of common stock (17) 26 Payment of cash dividends (18) 5 Net cash flows 6 Net increase in cash (19) 9 9 Totals 376 376
Changes
After entering all the
transactions, this is what
the statement of cash flows portion of the spreadsheet looks like.
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Cash Flows from Operating Activities:Cash Inflows: From customers 98$ From investment revenue 3 Cash Outflows: To suppliers of goods (50) To employees (11) To bondholders (3) For insurance expense (4) For income taxes (11) Net cash flows from operating activities 22$ Cash Flows from Investing Activities: Sale of land (30) Sale of equipment (12) Purchase of S-T investment 18 Purchase of land 5 Net cash flows from investing activities (19) Cash Flows from Financing Activities: Retirement of bonds payable 26 Sale of common stock (15) Payment of cash dividends (5) Net cash flows from financing activities 6 Net increase in cash 9 Cash balance, January 1 20Cash balance, December 31 29$
UNITED BRANDS CORPORATIONStatement of Cash Flows
For the Year Ended December 31, 2011($ in millions)Here is the
Statement of Cash Flows
prepared using the direct method.
21 - 33
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U.S. GAAP vs. IFRS
• 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
Typical Classification of Interest and Dividends
Consistent with U.S. GAAP, cash flows are classified as operating, investing, or financing.
21 - 35
Preparing an SCF: The Indirect MethodGetting 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.
Net Income 12$ Adjustments for noncash effects: Gain on sale of land (8) Depreciation expense 3 Loss on sale of equipment 2 Changes in operating assets and liabilities: Increase in accounts receivable (2) Decrease in inventory 4 Increase in accounts payable 6 Increase in salaries payable 2 Discount on bonds payable 2 Decrease in prepaid insurance 3 Decrease in income tax payable (2) Net cash flows from operating activities 22$
21 - 36
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.
Subtracting the gain reverses the effect of the gain having been
added to net income.
Gain on Sale of Land
21 - 37
Components of Net Income that Do Increase or Decrease Cash
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.
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.
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Comparison with the Direct Method
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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.
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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.
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Appendix 21B: The T-Account Method of Preparing the Statement of Cash Flows
1. Draw a T-account for each income statement and balance sheet account.
2. The T-account for cash should be drawn considerably larger.
3. Enter each account’s net change on the appropriate side (debit or credit) of the uppermost portion of each T-account.
4. 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.
5. 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