Intermediate Finance Chapter 23

Questions and Answers

What is the purpose of the statement of cash flows?

To provide information about a company's cash receipts and cash payments in a period.

Of what use is the statement of cash flows?

To assess an entity's ability to generate future cash flow, pay dividends, and meet obligations.

Differentiate between investing activities, financing activities, and operating activities.

Investing activities involve long-term assets; financing activities involve liabilities and equity; operating activities include transactions not classified as investing or financing.

What are the major sources of cash (inflows) in a statement of cash flows?

Sources include cash from operating activities, issuance of debt, issuance of equity securities, sale of investments, and sale of property. Signup and view all the answers

Identify and explain the major steps involved in preparing the statement of cash flows.

<ol> <li>Determine the change in cash. 2) Determine net cash flow from operating activities. 3) Determine cash flows from investing and financing activities.</li> </ol> Signup and view all the answers

From what sources does the information to prepare the statement of cash flows come?

From comparative balance sheets, a current income statement, and certain transaction data. Signup and view all the answers

Why is it necessary to convert accrual-based net income to a cash basis when preparing a statement of cash flows?

Because net income includes items that do not provide or use cash. Signup and view all the answers

Differentiate between the direct method and the indirect method of preparing the statement of cash flows.

The direct method uses cash revenues and expenses; the indirect method adjusts accrual net income for noncash items. Signup and view all the answers

Explain how a company could report a net loss while increasing cash.

High cash revenues relative to low cash expenses or significant non-operating cash inflows could explain this. Signup and view all the answers

Study Notes

Purpose of the Statement of Cash Flows

Provides insights into a company's cash receipts and payments over a period.
Details activities across three categories: operating, financing, and investing.
Reports net changes in cash resulting from these activities.

Uses of the Statement of Cash Flows

Assesses a company's capacity to generate future cash flows.
Evaluates the ability to pay dividends and meet obligations.
Explains discrepancies between net income and net cash from operating activities.
Highlights both cash and non-cash investing and financing transactions.

Types of Activities in the Statement of Cash Flows

Investing Activities: Involve long-term asset transactions; includes lending money, collecting loans, and acquiring or disposing of investments and long-lived assets.
Financing Activities: Relate to liability and stockholder equity; includes borrowing from creditors, repaying debt, and obtaining capital from owners.
Operating Activities: Encompasses all transactions not classified as investing or financing; involves cash effects of transactions that impact net income.

Sources and Uses of Cash

Major Sources of Cash Inflows:
- Operating activities
- Issuance of debt
- Issuance of equity securities
- Sale of investments
- Sale of property, plant, and equipment
Major Uses of Cash Outflows:
- Cash used in operating activities
- Payment of cash dividends
- Redemption of debt
- Purchase of investments
- Purchase of property, plant, and equipment

Steps to Prepare the Statement of Cash Flows

Determine the change in cash: Calculate the difference between beginning and ending cash balances.
Calculate net cash flow from operating activities: Analyze current year’s income statement, comparative balance sheets, and selected transaction data.
Examine cash flows from investing and financing activities: Analyze changes in balance sheet accounts and their effect on cash.

Information Sources for Preparing the Statement of Cash Flows

Comparative Balance Sheets: Show changes in assets, liabilities, and equities over the period.
Current Income Statement: Provides information about cash generated from operating activities.
Certain Transaction Data: Offers additional detail necessary to determine cash usage or generation during the period.

Need to Convert Accrual-Based Net Income to Cash Basis

Conversion is essential as net income includes non-cash items that do not affect cash flow.

Direct Method vs. Indirect Method for Cash Flows

Direct Method: Calculates net cash flow by directly comparing cash revenues to cash expenses, resulting in cash net income aligned with cash flow from operating activities.
Indirect Method: Starts with accrual net income and adjusts for non-cash items to derive cash flow from operating activities.

Understanding Discrepancies Between Net Loss and Cash Increase

Possible scenarios:
- High cash revenues relative to low cash expenses.
- Non-operating cash inflows, such as asset sales or financing activities, could lead to cash increase despite net losses.

Description

This quiz focuses on the statement of cash flows, highlighting its purpose and the information it provides about a company's cash activities. Test your understanding of cash receipts, cash payments, and the net change in cash from operating, investing, and financing activities.