Week 10 Student

8/11/2019 Week 10 Student

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MIT565702

WEEK 10

CASH FLOW STATEMENTS



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Case Discussion 1

How was the value of inventory determined?

How was this used to manipulate profits?



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Case Discussion 2

Why was the inventory write-down necessary?

Why were the corporate overheads expensed rather than

capitalised?



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Lecture Objectives

• At the end of this lecture you should be able to:

– Understand what is a cash flow statement

– Explain the need for a cash flow statement

– Explain the purpose of a cash flow statement

– Distinguish between operating, investing and financing

activities – Prepare a cash flow statement using the direct method



What is a Cash Flow Statement?

AASB 107 Cash Flow Statements requires a cash flowstatement

– In addition to income statement and balance sheet

Cash flow statement reports inflows and outflows ofcash under the headings of:

– Operating;

– Investing; and – Financing activities



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Why is a Cash Flow Statement

Necessary?

Recognition of the overriding importance of liquidityto an entity

To supplement the information provided by the incomestatement

– Strong profit does not necessarily mean goodliquidity

To supplement the information provided by the balance sheet

– Assess long-term financial structure



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What is the Purpose of a Cash Flow

Statement ?

Evaluate ability to generate future cash flows

Evaluate management decisions

–

Investing/financing decisions Determine ability to meet obligations and pay dividends

to shareholders

Compare profit/loss for the year and net cash provided(used) by operating activities

– Are credit management policies effective?



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Format of the Cash Flow Statement

Operating activiti es are the principal revenue-producing activities ofthe entity and other activities that are not investing or financingactivities

Cash inflows include:

– receipts from customers/clients for providing goods/services

– interest received

– dividends received

Cash outflows include:

– payments to suppliers for goods/services provided

–

payments to employees for services – interest paid

– income taxes paid



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I nvesting activities are the acquisition and disposal of long-term assets

and other investments not included in cash equivalents

• Cash inflows include:

– sale of property, plant and equipment (etc) for cash

– sale/redemption of shares/debentures of other entities for cash

– repayment of loans provided to other entities

• Cash outflows to:

– purchase property, plant and equipment (etc) for cash

– purchase of shares/debentures of other entities for cash

– lend money to other entities



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F inancing activities are activities that result in changes in the sizeand composition of the contributed capital and borrowings of theentity

Cash inflows include:

– sale/issue of shares in the entity for cash – issuing debentures or unsecured notes for cash

– obtaining a loan

Cash outflows include:

–

payments to shareholders for share buy-backs – dividends paid

– repayment of a loan



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Classification of Cash Flow Transactions

Operating Investing Financing

Receipts from: Receipts from: Receipts from:Sale of goods andservices

Sales of property,plant and equipment

Issue of sharesBorrowings

Interest or dividends

received

Repayment of loans

by other entitiesSale of shares held as

investments

Payments for: Payments for: Payments for:Purchase of inventoryWages of employees

Acquisition ofproperty, plant and

equipment

Dividend distributionsShare buy-backs

Taxes to governments

Interest to lenders

Acquisition of shares

and debentures forinvestment purposes

Repayment of

borrowings



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The statement of cash flows excludes non-cash activities such as:

Purchase of investments or property by incurring long-term debt

Acquiring another business entity by issuing shares

Conversions of liabilities to equity

Acquiring equipment by entering into a lease

Acquiring investments or property in exchange for other

investments or property

Revaluation of assets

Exclusions



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Student Task

Have a go at practice problem 1 (pg 222) for discussion

in 5 minutes



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Workings



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Format of the Cash Flow Statement

(Exhibit 13.4 of Textbook)

Cash Flow Statement for the month ended 31 May 2012

Cash flows from operating activities

Receipts from customers

Payments to suppliers and employees

$

50,000

(27,500)

$

22,500

Cash flows from investing activities

Purchase of land

Purchase of plant and equipment

(40,000)

(20,000) (60,000)

Cash flows from financing activities

Proceeds from mortgage 35,000

Net increase/(decrease) in cash held

Cash at the beginning of the month

Cash at the end of the month

(2,500)

25,000

22,500



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How do we determine Cash Flows

from Operating Activities?

There are two methods available to derive cash flows from

operating activities:

I ndirect method

•

Adjusts net profit for non-cash items to derive cash flowsfrom operating activities

• Reconciliation of net profit and cash flows from operating

activities must be disclosed as a note

• Not examinable in this subject!



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Direct method

• Reports gross cash inflows less gross cash outflows

• Use one of two approaches:

• (1) Using the accounting system which directlyrecords any cash flow information;

• (2) Using information from the income statement and

balance sheet to reconstruct cash flow information

•

It is approach (2) that is emphasised in this subject• Also applied to determine cash flows from investing

and financing activities



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Lecture Example

Logan Ltd provides the following information regarding

its income statement for the year ended 30 June 2012

and extracts from the balance sheet as at 30 June

2011 and 2012:



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Logan Ltd Income Statement for the year ended 30 June 2012

$ $

SalesCost of goods sold

Gross profit

Operating expenses:

Wages expense

Rent expense

DepreciationInterest expense

Net profit before tax

Income tax expense

Net profit after tax

4,000

3,000

7,5004,500

70,00037,000

33,000

19,000

14,000

4,200

9,800



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Logan Ltd

Comparative Balance Sheets (extract):

2011$ 2012$ Accounts receivableInventoryPrepaid rent Accounts payableWages payableIncome tax payable

15,0004,000

30031,000

2005,000

12,0005,000

25029,000

4006,400

Required:

From the preceding information calculate cash flows

from operating activities



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Workings – T-account Reconstruction

Cash Inflows

Accounts Receivable1/7/11

1/7/12

BalanceSales

Balance

15,00070,00085,00012,000

30/6/12Cash at bankBalance

73,00012,00085,000




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Workings – Cash Inflows

= Sales + decrease in accounts receivable

= $70,000 + $3,000 ($15,000 - $12,000)

= $73,000




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1. First establish the p urchases for the period (assume perpetual method).

Inventory

1/7/11

1/7/12

Balance Accounts payab le

Balance

4,00038,00042,000

5,000

30/6/12 Cost of Goods SoldBalance 37,0005,00042,000

2. The discover y of purc hases allows the calculation of the amount paid tocreditors

Accounts Payable


40,00029,000

69,000

1/7/11

1/7/12

BalanceInventory

Balance

31,00038,000

69,00029,000

Workings – T-account Reconstruction

Cash Outflows




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Wages Payable


3,800400

4,200

1/7/11

1/7/12

BalanceWages expense

Balance

2004,0004,200

200



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Workings – Cash Outflows

Payments to suppliers of goods:

= COGS + increase in inventory + decrease in accounts payable

= $37,000 + $1,000 + $2,000

= $40,000

Payments for wages expense:

= Wages expense – increase in accrued wages

= $4,000 - $200

= $3,800




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Prepaid Rent

1/7/11

1/7/12

BalanceCash at bank

Balance

3002,950

3,250250

30/6/12Rent expenseBalance

3,000250

3,250

Payments for rent expense



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Income Tax Payable


2,8006,4009,200

1/7/11

1/7/12

BalanceIncome tax exp.

Balance

5,0004,2009,2006,400

Interest paid = $4,500

Income tax paid

W ki C h O tfl



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Workings – Cash Outflows

= Rent expense –

decrease in prepaid rent= $3,000 - $50

= $2,950

= Interest expense – change in balance sheet item

= $4,500 - $0

= $4,500

= Income tax expense – increase in income tax payable

= $4,200 - $1,400

= $2,800

Interest paid

Income tax paid

Payments for rent expense



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Logan Ltd

Cash flows from Operating Activities

$ $

Receipts from customers 73,000

Payments to suppliers and employees (46,750)

Interest paid (4,500)

Income tax paid (2,800) Net cash inflow from operating activities 18,950



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Student Task

Have a go at practice problem 2 (pg 212) for discussion

in 10 minutes



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Cash flows from Operating Activities

$ $

Workings



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Investing Cash Flows

The purchase and sale of non-current assets (e.g., motorvehicles, equipment, machinery)

The disposal of such assets and the acquisition of

replacements often occurs in the same accounting period Must reconstruct ledger accounts to find:

(a) Carrying amount of asset sold; and/or

Cash proceeds from sale of asset; and

(b) Cash outlay on purchase of replacement asset

How is thi s done?



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Investing Cash Flow – T account

Reconstruction

Reconstruct the following accounts:

– Accumulated Depreciation

Figure out the accumulated depreciation on the

asset sold

– Carrying Amount of Asset Sold

Temporary account

Figure out the cost of the asset sold – Asset

Figure out the cost of the replacement asset



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Example

Balance Sheet (extract)

30/6/11 30/6/12

$ $

Equipment 800,000 900,000

Acc. Depreciation (240,000) (270,000)

Income Statement (extract) for the year ended 30 June 2012

$

Loss on disposal of equipment 20,000

Depreciation expense 80,000

Additional Information

The equipment was sold for $30,000 cash



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Sale of Equipment

Date Particulars DR CR

Cash at bank

Accumulated depreciation

Loss on disposal

Equipment

30,000

?

20,000

?

Look famili ar?



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Accumulated Depreciation on Equipment

Closing bal (B/S t ) 270000 Opening bal (B/S t - 1 ) 240000



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Closing bal (B/S t ) 270000 Opening bal (B/S t - 1 ) Depreciation expense (I/S)

240000 80000

$320000 $320000



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Carr. amt. of equip. sold

Closing bal (B/S t ) 50000

270000 Opening bal (B/S t - 1 ) Depreciation expense (I/S)

240000 80000

$320000 $320000



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Carrying Amount of Equipment Sold

Accu mulated depreciation 50000



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Carrying Amount of Equipment Sold Accu mulated depreciation

Book value of equip sold*

50000

50000

100000

* Proceeds ($30,000) + Loss on disposal ($20,000)

Proceeds – Prof i t on sale = Book value

100000



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Carrying Amount of Equipment Sold

Equipment 100000 Accu mulated depreciation

Book value of equip. sold

50000

50000

100000 100000



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Sale of Equipment

Date Particulars DR CR

Cash at bank

Accumulated depreciation

Loss on disposal

Equipment

30,000

50,000

20,000

100,000

This now helps us work out the purchase of equipment



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Equipment

Opening bal (B/S t - 1 ) 800000 Closing bal B/S t ) 900000

Purchase of Equipment



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Equipment

Opening bal (B/S t - 1 ) 800000 Carr. amt. of equip. sold

Closing bal B/S t ) 1 00000 900000

1000000 1000000





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Lecture Example

Blue Sky L td provides the following information

regarding its income statement for the year ended 30

June 2012 and i ts balance sheets as at 30 June

2011 and 2012:

Blue Sky Ltd



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Blue Sky LtdIncome Statement for year ended 30 June 2012

$ $

Sales 700,000Cost of goods sold 450,000

Gross profit 250,000

Operating expenses:

Selling and administration 25,000Depreciation - plant 70,000

Loss on disposal of plant 5,000 100,000

Net profit before tax 150,000

Income tax expense 75,000 Net profit after tax 75,000



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Blue Sky Ltd

Comparative balance sheets as at 30 June 2011 and 2012

30/6/11 30/6/12

$ $

ASSETS

Inventory 100,000 128,000

Accounts receivable 105,000 100,000

Land and buildings 400,000 450,000

Plant 250,000 300,000

Accumulated depn. – plant (160,000) (190,000)

Patents 5,000 15,000

TOTAL ASSETS 700,000 803,000



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30/6/11 30/6/12

$ $LIABILITIES Bank overdraft 172,000 43,000Accounts payable 25,000 43,000Income tax payable 45,000 75,000Dividend payable 18,000 22,500

Bank loan - 60,000TOTAL LIABILITIES 260,000 243,500SHAREHOLDERS EQUITYShare capital 350,000 425,000Retained profits 65,000 90,000General reserve 25,000 34,500

Revaluation reserve - 10,000SHAREHOLDERS EQUITY 440,000 559,500LIAB AND SHOLDERS EQUITY 700,000 803,000

Additional information for the year ended 30 June 2012:



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Additional information for the year ended 30 June 2012:

An issue of shares was made during the year

– 75,000 shares for cash at $1 per share Patents were revalued

The plant was sold for $10,000

During the year the company paid the dividends payable at 30/6/2012

During the year the company declared: – An interim dividend of $18,000 (paid during the year); and

– A final dividend of $22,500

Required:

Prepare a statement of cash flows for the year ended 30 June 2012 inaccordance with AASB 107 Cash Flow Statements

WORKING SPACE FOR BLUE SKY



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Blue Sky Cash Flow Statement for the year ending 30

J 2012



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June 2012



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Lecture Outcomes

• You should now be able to:

– Understand what is a cash flow statement

– Explain the need for a cash flow statement

– Explain the purpose of a cash flow statement

– Distinguish between operating, investing and financingactivities

–

Prepare a cash flow statement using the direct method



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Homework – This Week

Questions from Required Exercises?

H k N t W k



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Homework – Next Week

Required Exercises P13.3* , P13.17, P13.18, P13.24*

(* ignore reconcil iation)

Chapter 14 of the textbook (stop at the middle of page 626)

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Week 10 Student