Statement of Cash Flows Recitation (answered)

Statement of Cash Flows Recitation Quiz statement of cash flows Ans: shows the change in cash for the sample period of time as that covered by the income statement. It shows all sources (receipts or inflows) of cash, and all of the uses (payments or outflows) of cash how does the statement of cash flows differ from the other major financial statements? Ans: other major financial statements (income statement and balance sheet) are based on accrual accounting (realization principle and matching concept). this financial statement shows all of the increases and decreases in cash cash inflows/outflows are categorized as one of these three activities Ans: - operating activities - investing activities - financing activities the cash flow statement helps users assess Ans: 1. ability to generate future cash flows (how are they able to bring in cash?) 2. ability to pay dividends and meet obligations 3. why net income is different from operating cash flows 4. cash investing and financing transactions operating activities Ans: includes the cash inflows and outflows related to the normal course of business operations. it is the cash effect of all items appearing on the income statement (revenues and expenses) (REMEMBER: involve income statement items) if the income statement reports sale revenue of $1 million, does that mean the company collected $1 million dollars from customers? Ans: no, because sales could have been made on account meaning that the sale happens and revenue is recorded even though the cash will not be received until a future point in time which income statement does not have a cash effect? Ans: depreciation (non-cash expense) operating activities cash inflows (receipts) Ans: - from sale of goods or services - from return on loans (interest received) and on equity securities (dividends received) operating activities cash outflows (payments) Ans: - to supplier for inventory - to employees for services - to govt for taxes - to lenders for interest - to others for expenses investing activities Ans: includes the cash inflows and outflows related to the purchase and sale of long-term assets (PPE and intangibles) and investments (represent both stock and bonds of other companies that we own, as well as loans that we have made. ex: lending money to customers) (REMEMBER: involves investments, PPE, intangibles) investing activities cash inflows (receipts) Ans: - from sale of PPE - from sale of investments in other entities - from collection of PRINCIPAL on loans to other entities - (NOTE: interest received would be considered an operating activity since it would effect net income) investing activities cash outflows (payments) Ans: - to purchase PPE - to purchase investments in other entities - making loans to other entities financing activities Ans: represents cash that is either paid to or received from owners and creditors (REMEMBER: involve all interest-bearing liabilities (both current and long term) and stockholders equity items) financing activities cash inflows (receipts) Ans: - from sale of company's own stock to its stockholders - from borrowing money (ex: bank loan) financing activities cash outflows (payments) Ans: - to stockholders as dividends - to creditors as the repayment of PRINCIPAL of funds borrowed - (NOTE: interest payment would be considered an operating activity since it would effect net income) major purpose of the operating activities section of the cash flows statement Ans: - to convert net income from an accrual basis to a cash basis - IMPORTANT: net cash provided (used) by operating activities represents what the net income of the company would have been had the company used a cash accounting basis rather than accrual accounting two methods of converting net income from an accrual basis to a cash basis (operating activities section) Ans: 1. direct method (lists each specific cash flow...analyze t accounts, and you need to know how to do both for this one) 2. indirect method (most companies prefer this..and it starts with net income and makes a series of adjustments) process to follow in calculating net cash provided by operating activities (direct method) Ans: 1. match up items on income statement with items on balance sheet (ex: sales rev with accounts receivable) 2. for the balance sheet accounts, draw a t account three examples of non-cash revenues and expenses on the income statement Ans: - depreciation expense - losses - gains indirect method Ans: starts with ACCRUAL BASIS net income then makes a series of adjustments to convert it to a CASH BASIS net income why does the indirect method add depreciation expense to calculate cash flows from operations? Ans: depreciation expenses reduces the accrual basis net income as it is an expense. however, it has NO EFFECT on cash (it is a non-cash expense). had cash accounting been used, no depreciation would be recorded. thus to convert net income from an accrual number to a cash number, you must add back depreciation significant non-cash activities Ans: significant financing and investing activities that do not affect cash are reported in either a separate schedule at the bottom of the statement of cash flows or in the notes to the financial statements examples of significant non-cash activities Ans: - issuance of common stock to purchase assets - conversion of bonds into common stock - issuance of debt to purchase assets - exchange on long-lived assets differences between GAAP and IFRS Ans: - IFRS requires that non-cash investing and financing activities be excluded from the statement of cash flows - IFRS allows companies to choose where they will classify interest and dividend, GAAP does not cash flows from operating activities Ans: firm should always have a positive number, if you had a negative number then it would be costing the company more money to operate the business than they are bringing in cash flows from investing activities Ans: firm/company should have a negative cash flow, meaning the company is re-investing itself in order to grow and expand cash flow from financing activities Ans: can be a positive or a negative number assessing liquidity using cash flows Ans: rather than using numbers solely from the balance sheet for assessment purposes, we will use numbers from the statement of cash flows and from balance sheets at several points in time (ratios are cash based instead of accrual based) Liquidity Ans: the ability of a business to pay its debts as they come due measure of liquidity Ans: current ratio current cash debt coverage ratio equation/concept Ans: - a ratio that partially corrects this problem with the current ratio - net cash flow provided by operating activities / average current liabilities - average current liabilities are equal to: current liabilities at January 1st + current liabilities at December 31st / 2