Chapter 4
Statement of Cash Flows
BUS780
Objectives of this Chapter
I. Identify business activities which can
generate or use cash and
differentiate between income flows
and cash flows from operating
activities.
Statement of Cash Flows
2
Objectives of this Chapter (contd.)
II. Introduce the content and the
usefulness of the statement of cash
flows.
III. Learn how to prepare the statement of
cash flows.
Statement of Cash Flows
3
I. Activities which can either generate
cash or use cash for a business entity
A. Operating activities.
B. Investing activities.
C. Financing activities.
Statement of Cash Flows
4
I. Activities which can either generate
cash or use cash for a business entity
Operating activities:

Cash Inflows:
1. Collections from customers including
cash received from sales (or services)
and collections of A/R.
2. Cash receipts of interests or dividends.
3. Collections of other operating receipts
(i.e., unearned revenue, rent revenue).
Statement of Cash Flows
5
Cash Flows from
Operating Activities (contd.)

Cash Outflows:
1. Payments to suppliers.
2. Payments to employees.
3. Payments for interest expense.
4. Payments for income taxes.
5. Payments for other expenses(i.e.,
Prepaid expenses; rent expenses).
Statement of Cash Flows
6
Differentiate between income flows and
cash flows from operating activities.




All of these operating activities are also
reported in the income statement (I/S).
I/S is prepared on an accrual basis.
Statement of Cash Flows is prepared
on a cash basis.
Therefore, net income ǂ cash flows in
most cases.
Statement of Cash Flows
7
Operating Activities (contd.)

Two approaches can be used to
reconcile net income to net cash flows of
operating activities:
1. Indirect Method
==> Lump-Sum Adjustment
2. Direct Method
==> Individual Account Adjustment
Statement of Cash Flows
8
Reconciliation: Indirect Method

Adjust net income for all differences
between income flows (on an accrual
basis) and cash flows (on a cash
basis).
Statement of Cash Flows
9
Reconciliation: Direct Method


Adjust each revenue account on I/S to
cash collection and adjust each
expense account to cash payment.
Subtract total cash payments from total
cash collections to derive net cash
flows of the operation activities.
Statement of Cash Flows
10
Activities which can either generate
cash or use cash for a business entity
A. Operating activities.
B. Investing activities.
C. Financing activities.
Statement of Cash Flows
11
Cash Flows from
Investing Activities

Transactions involving acquiring
(Investing (Cash outflows)) and selling
(Disinvesting (Cash inflows)) :
a. Property, Plant and Equipment.
b. Investments (current and noncurrent).
c. Notes Receivable (current and noncurrent).
Statement of Cash Flows
12
Notes Receivable

Notes Receivable (current and noncurrent), including:



Lending money (N/R , cash outflow);
Collecting of loan (N/R , cash
inflow);
Selling of N/R (N/R, discounting N/R,
cash inflow)
Statement of Cash Flows
13
Activities which can either generate
cash or use cash for a business entity
A. Operating activities.
B. Investing activities.
C. Financing activities.
Statement of Cash Flows
14
Cash Flows from
Financing Activities

Obtaining resources from owners and
creditors (cash inflows) and repaying
the amount borrowed (cash outflows).

Cash inflows:
Cash received from issuance of
common stock.
 Cash received from issuance of bonds.
 Cash received from issuance of N/P
(short-term or long term).

Statement of Cash Flows
15
Cash Flows from
Financing Activities (contd.)

Cash Outflows:

Retirement of bonds.

Retirement of stock.

Payments of N/P.

Payments of dividends.
Statement of Cash Flows
16
II. The Content and the Usefulness
of the Statement of Cash Flows


In order to show cash flows of a
company, cash flows of all three
activities occurred during the reporting
period should be reported in one
statement.
In addition, the following questions can
be answered:
Statement of Cash Flows
17
The Content and the Usefulness of the
Statement of Cash Flows (contd.)
1. What is the relationship between net
income and cash provided by
operations?
2. Why did cash decreased when net
income increased?
3. What expansion (investment) activities
took place and how were they
financed?
Statement of Cash Flows
18
The Content and the Usefulness of the
Statement of Cash Flows (contd.)
4. How much is the cash provided by
operating activities?
5. What happened to the proceeds
received from issuance of bonds or
common stock?
Statement of Cash Flows
19
SFAS No. 95

SFAS No. 95, “Statement of Cash
Flows,” requires companies present the
statement of cash flows using a specific
format.
Statement of Cash Flows
20
SFAS No. 95 (contd.)

Following SFAS No. 95, the statement
of cash flows should have three
sections:
1. Cash flows from operating activities.
2. Cash flows from investing activities.
3. Cash flows from financing activities.
Statement of Cash Flows
21
III. Procedures for Preparation of
the Statement of Cash Flows
1. Operating Cash Flows (indirect
method).
2. Investing Cash Flows.
3. Financing Cash Flows.
Statement of Cash Flows
22
1. Operating Cash Flows
(Indirect Method; Reconciliation Method)
Net Income
 Adjustments
+ Any increase in current Liabilities (except
for N/P)
+ Any decrease in current assets (except for
cash and N/R)
- Any decrease in current liabilities (except
for N/P)
- Any increase in current assets (except for
cash and N/R)
Statement of Cash Flows
23
Adjustments to Convert Net Income to
Net Cash Flow from Operating Activities
Net Income
+ Depreciation expense, Bad Debt
expense
+ Loss on disposal of assets or
liabilities
Adjustments
- Gain on disposal of assets or
liabilities
Statement of Cash Flows
24
2. Investing Cash Flows
Inflows: decrease in noncurrent assets
(i.e., long-term investments,
P.P.E.) and certain current assets
(i.e., trading securities, N/R).
Outflows: increases in noncurrent assets
and certain current assets
Statement of Cash Flows
25
3. Financing Cash Flows
Inflows: increases in noncurrent liabilities
(i.e., B/P, N/P), stockholders’
equity and certain current liability
(i.e., N/P).
Outflows: decreases in noncurrent
liabilities, stockholders’ equity,
certain current liability and
dividend payment.
Statement of Cash Flows
26
Adjustments:
+ Loss on Disposal of Assets or Liability

Example: Sale a piece of land with a
cost of $9,000 for $7,000
Cash
Loss on Sale of Landa
Land
7,000
2,000
9,000
a. This transaction results in a cash increase of
$7,000.
Statement of Cash Flows
27
Data needed to prepare statement
of cash flows
1. Comparative balance sheet statements.
2. The income statement.
3. The retained earnings statement.
4. Other supplemental information
concerning the reasons for the changes
in the B/S accounts (other than cash).
Statement of Cash Flows
28
Example 1
Layton Company Balance Sheet (12/31/x2)
Accounts
Cash
A/R
Land
Balance
1/1/x2
4,000
6,300
9,000
Balance Change
12/31/x2
6,600
9,000
2,700
6,000
3000a
Buildings & Equipment
48,000
60,000 12,000b
Accummulated Depreciation (12,500) (14,800)
Total Assets
$54,800 $ 66,800
a. Land was sold at cost for cash during the year.
b. A building was purchased for cash during the year
and no building or equipment was sold during the
year.
Statement of Cash Flows
29
Example 1 (contd.)
Layton Company Balance Sheet (12/31/x2)
Balance
1/1/x2
7,500
14,000
22,000
11,300
Balance Change
12/31/x2
9,000
1,500
a
21,000
7000
22,000
0
14,800
Accounts
A/P
B/P
Common Stock, $10
Retained Earnings
Total Liabilities &
Stockholdrs' Equity
$54,800 $66,800
a. Bonds were issued at the end of year.
Statement of Cash Flows
30
Example 1 (contd.)
Income Statement (for the year ended 12/31x2)
Sales Revenue
Opeating Expenses
Depreciation Expense
Interest Expense
Other Expenses
Income before Income Tax
Income Tax Expense
Net Income
$31,800
2,300
1,400
18,100
Statement of Cash Flows
(21,800)
10,000
(3,000)
$7,000
31
Example 1 (contd.)
Layton Company Retained Earnings (20x2)
Beginning Retained Earnings
Add: Net Income
$11,300
7,000
Less: Dividends
$18,300
(3,500)
Ending Retained Earnings
$14,800
Statement of Cash Flows
32
Layton Company
Statement of Cash Flows
For the Year Ended December 31, 20x2
Net cash flow from operating activities:
Net Income
$7,000
Adjustments to reconcile net
income to net cash provided by
operating activities:
Add: Depreciation expense
2,300
Increase in A/P
1,500
Less: Increase in A/R
(2,700)
Net cash provided by
operating activities
$8,100
Statement of Cash Flows
33
Layton Company
Statement of Cash Flows (contd.)
Cash flows from investing activities:
Proceeds from sale of land
$3,000
Payments for
purchase of building
(12,000)
Net cash used
by investing activities
(9,000)
Cash flows from financing activities:
Proceeds from issuance of bonds 7,000
Payments of dividends
(3,500)
Net cash provided by
financing activities
3,500
Statement of Cash Flows
34
Layton Company
Statement of Cash Flows (contd.)
Net increase in cash
Cash, Jan 1, 19x2
Cash, Dec 31, 19x2
Statement of Cash Flows
$2,600
$4,000
$6,600
35
Example 2:
Green Company Balance Sheet
Accounts
1/1/x2 12/31/x2
Cash
$3,500 $5,500
A/R
4,400
3,600
Inventory
5,000
6,600
Land
8,200 12,200
Building & Equip 35,700 48,700
Acc. Depr.
(6,000) (8,700)
Total Assets
$50,800 $67,900
Statement of Cash Flows
Difference
800

1,600

4,000c 
13,000a,d 
36
Green Company Balance Sheet (contd.)
A/P
$5,100
Salary Payable
1,400
B/P, 10%
7,000
Common Stock, $10 par 8,000
Paid-in Capital
16,000
R/E
13,300
Total Liabilities
& Equity
$50,800
$3,200 1,900
1,800
400
15,000 8,000b
9,000 1,000
19,000 3,000
19,900
$67,900
Statement of Cash Flows
37
Income Statement
For the Year Ended 12/31/20x2
Sales Revenue
CGS
Gross Profit
Operating Expenses:
Deprecation Expense
Other Expenses
Other Revenues & Expenses
Gains on Sale of Equipment
Interest Expense
Income Before Income Tax
Income Tax Expense
Net Income
Statement of Cash Flows
$80,000
(48,600)
$31,400
$3,400
15,900 (19,300)
$12,100
$600
(700)
(100)
$12,000
(3,600)
$8,400
.
38
38
Retained Earnings (20x2)
Beginning balance
of retained earnings
Add: Net Income
Less: Dividends
Ending balance
of retained earning
Statement of Cash Flows
$13,300
8,400
21,700
(1,800)
$19,900
39
Supplemental Information for 20x2
(a) Equipment was purchased for cash at a
cost of $15,200.
(b) Ten-year bonds payable with a face value of
$8,000 were issued for $8,000 at the end of
the year.
(c) Land was acquired through the issuance of
100 shares of $10 par common stock when
the stock was selling at a market price of
$40 per share.
(d) Equipment with a cost of $2,200 and a book
value of $1,500 was sold for $2,100 cash.
Statement of Cash Flows
40
GREEN Company
Statement of Cash Flows
For the Year Ended December 31, 20x2
Net cash flows from operating activities:
Net Income
$8,400
Adj. To reconcile net income to net
cash provided by operating activities:
Add: Depreciation Expense
3,400
Decrease in A/R
800
Increase in S/P
400
Less: Increase in Inventory
(1,600)
Decrease in A/P
(1,900)
Gain on sale of Equipment
(600)
Net cash provided by operating activities
$8,900
Statement of Cash Flows
41
GREEN Company
Statement of Cash Flows (contd.)
Cash flows from investing activities:
Payments for purchase of equip. (15,200)
Proceeds from sale of equipment 2,100
Net cash used by investing activities
(13,100)
Cash flows from financing activities:
Proceeds from issuance of bonds 8,000
Payments of dividends
(1,800)
Net cash provided by financing activities
6,200
Net increase in cash (see Schedule 1)
$2,000
Cash, Jan 1, 19x2
$3,500
Cash, Dec 31, 19x2
$5,500
Statement of Cash Flows
42
42
GREEN Company
Statement of Cash Flows (contd.)
Schedule 1: Investing & financing
activities not affecting cash flows:
Investing activities:
Acquisition of land by Issuance of
common stock
($4,000)
Financing Activities:
Issuance of common stock for land
Statement of Cash Flows
$4,000
4343
1. Direct Exchange

Direct exchange: An example of a direct
exchange is issuing bonds to acquire a
building. This transaction should
appear in the schedule of the cash flow
statement as an investing activity (i.e.,
acquisition of building) and as a
financing activity (i.e., issue bonds for
building).
Statement of Cash Flows
44
2. Partial Cash Investing and
Financing Activities

Example: acquiring land costing
$10,000 by paying $1,000 down and
signing a $9,000 notes payable.
Statement of Cash Flows
45
2. Partial Cash Investing and
Financing Activities (contd.)

Presentation on Cash Flow Statement for
Partial Investing & Financing Activities:
Cash Flows from Investing Activities:
Purchase of land by issuance
of note and cash
($10,000)
Less: issuance of note
9,000
Cash payment
for purchase of land
($1,000)
Statement of Cash Flows
46
V. Cash Flows from
the Operating Activities
Activities can be presented using:
a. Indirect Method (as used in examples
1,2):
N/I  Adjustments to reconcile net income
to cash flows.
b. Direct Method: The operating cash
outflows are deducted from the operating
cash inflows to determine the net cash
provided by (or used in) operating activities.
Statement of Cash Flows
47
Cash Flows from
the Operating Activities (contd.)


SFAS No. 95 allows the use of both
methods, but encourages the use of
the direct method.
However, if the direct method is used, a
reconcile of net income and cash using
the indirect method must also be
provided in the supplementary
statement.
Statement of Cash Flows
48
Using The Direct Method in Preparing
The Operating Cash Flows
Cash inflows from operating activities:
1. Collections from customers.
2. Interest & dividends collected.
3. Other operating receipts.
Statement of Cash Flows
49
Using The Direct Method in Preparing
The Operating Cash Flows (contd.)
Cash outflows from operating activities:
1. Payments to suppliers.
2. Payments to employees.
3. Payments of interest.
4. Other operating payments.
5. Payments of income taxes.
Statement of Cash Flows
50
Adjustments to Convert I/S Amount to
Operating Cash Flows -- A Direct Approach
I/S
Amounts
Cash Flows from
Adjustments Operating Activities
Collections
Sales
+Dec. in A/R; or
= from
Revenue -Inc. in A/R
Customers
+Dec. in Int. Rec.;
-Inc. in Int. Rec.
Interest
Interest
Statement of Cash Flows
Net
Cash
Inflows
from
Operating
Activities
51
Adjustments to Convert I/S Amount to
Operating Cash Flows (contd.)
I/S
Amounts
Dividend
Revenue
Other
Revenue
Adjustments
Cash Flows from
Operating Activities
+Dec. in Dividend Rec.
-Inc. in Dividend Rec.
+Inc. in Unearned Rev.;
or
-Dec. in Unearned Rev.
Net
= Dividend
Collected
Cash
Inflows
from
Operating
Activities
Other
= Operating
Receipts
+Dec. (-Inc.) in Other
Receivable Accounts
* Ignore gain from sale of PPE
because
Statement
of Cash Flowsit does not have any
52
Adjustments to Convert I/S Amount to
Operating Cash Flows (contd.)
I/S
Amounts
Cost of
Goods
Sold
Salary
Expense
Cash Flows from
Operating Activities
Adjustments
+Inc. in Inventory;
or
-Dec. in Inventory
+Dec. in A/P; or
-Inc. in A/P
Payments
= to
Suppliers
+Dec. in Sal. Payable; Payments
or
= to
-Inc. in Sal. Payable
Employees
Net
Cash
Outflows
from
Operating
Activities
53
Statement of Cash Flows
53
Adjustments to Convert I/S Amount to Operating
Cash Flows (contd.)
I/S
Amounts
Interest
Expense
Adjustments
+Dec. in Int. Payable
-Inc. in Int. Payable
Cash Flows from
Operating Activities
= Payments
of Interest
+Inc. in Prepaids
-Dec. in Prepaids
Other
Net
Cash
Outflows
from
Operating
Activities
Other
= Operating
Payments
Expense
+Dec. (-Inc.) in Other
Payable Accounts
54
Statement of Cash Flows
54
Adjustments to Convert I/S Amount to
Operating Cash Flows (contd.)
I/S
Amounts
Income
Tax
Expense
Adjustments
+Dec. in I/T Payable;
or
-Inc. in I/T Payable
Cash Flows from
Operating Activities
Payments
= of Income
Tax
Net
Cash
Outflows
from
Operating
Activities
Note: Ignore Bad Debt Expense, depreciation expense and loss
from sale of PPE since those accounts do not have any cash
outflows,
55
Statement of Cash Flows
55
Green Company
Statement of Cash Flows
(Using the direct method in preparing the operating
activities section of a cash flow statement for
Example 1)
Cash flows from Operating Activities:
Cash inflows:
Collections from customers $29,1001
Cash inflows from
operating activities
$29,100
1. 31,800 -2,700 = 29,100
Statement of Cash Flows
56
Green Company
Statement of Cash Flows (contd.)
Cash outflows:
Payments of interest
(1,400)
Other operating payments
(16,600) 2
Payments of income tax
(3,000)
Cash outflows
from operating activities
(21,000)
Net Cash inflows from Operating
$8,100
Activities
18,100 - 1,500 = 16,600
* A reconciliation of net income and cash flows using
indirect method must also be presented.
Statement of Cash Flows
57
Green Company
Statement of Cash Flows
(Using the direct method in preparing the operating
activities section of a cash flow statement of
Example 2.)
Cash flows from Operating Activities:
Cash inflows:
Collections from customers $80,8001
Cash inflows from
operating activities
$80,800
1. 80,000 + 800 = 80,800.
Statement of Cash Flows
58
Green Company
Statement of Cash Flows (contd.)
Cash outflows:
Payments to suppliers
$(52,100) 1
Payments of interest
(700)
Other operating payments
(15,500) 2
Payments of income tax
(3,600)
Cash outflows
from operating activities
(71,900)
Net Cash Flows from Operating
$8,900
Activities
1. 48,600 + 1600 + 1900 = 52,100.
2. 15,900 - 400 = 15,500.
Statement of Cash Flows
59
Green Company
Statement of Cash Flows (contd.)
Net cash inflow
from operating activities
Cash flows from investing activities
$8,900
:
:
Cash flows from Financing Activities
:
:
* A reconciliation of net income and cash flows using
indirect method must also be presented.
Statement of Cash Flows
60