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Kieso, Weygandt, Warfield, Young, Wiecek, McConomy
Intermediate Accounting, Eleventh Canadian Edition...

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CHAPTER 22 STATEMENT OF CASH FLOWS CHAPTER STUDY OBJECTIVES 1. Understand the importance of cash flows from a business perspective and describe the purpose and uses of the statement of cash flows. One sign of a healthy company is positive cash flow from operations. Companies can use these funds to finance expansion, to issue dividends, or to ensure that they remain solvent during economic downturns. Many consider the statement of cash to be less susceptible to earnings management than the statement of comprehensive income. The primary purpose of this statement is to provide information about an entity’s cash receipts and cash payments during a period. A secondary objective is to report the entity’s operating, investing, and financing activities during the period. 2. Define cash and cash equivalents. The definition of cash is related to an organization’s cash management activities. Cash and cash equivalents include cash on hand, demand deposits, and short-term, highly liquid non-equity investments that are convertible to known amounts of cash with insignificant risk of changes in value. These amounts are reduced by bank overdrafts that fluctuate from positive to negative balances and that are repayable on demand. IFRS allows preferred shares acquired within a short period of their maturity to be included as a cash equivalent. 3. Identify the major classifications of cash flows and explain the significance of each classification. Cash flows are classified into those resulting from operating, investing, and financing activities. A company’s ability to generate operating cash flows affects its capacity to pay dividends to shareholders, to take advantage of investment opportunities, to provide internal financing for growth, and to meet obligations when they fall due. The amount of cash spent on investing activities affects an organization’s potential for future cash flows. Cash invested in increased levels of productive assets forms the basis for increased future operating cash inflows. Financing cash activities affect the firm’s capital structure and, therefore, the requirements for future cash outflows. 4. Prepare the operating activities section of a statement of cash flows using the direct versus the indirect method. The direct method presents operating cash flows in a manner similar to a condensed cash basis income statement. The accrual amounts are listed and adjusted whenever the cash received or paid out differs from the revenues, gains, expenses, and losses reported in net income, and for non-operating gains and losses. 5. Prepare a statement of cash flows using the direct method. The direct method involves determining the change in cash and cash equivalents during the period, inserting line items from the income statement as the starting point within the statement’s Operating Activities section, and analyzing the changes in all accounts on the statement of financial position to identify all

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transactions that have an impact on cash. Those with a cash impact are recorded on the statement of cash flows. To ensure that all cash flows have been identified, the results recorded on the statement are compared with the change in cash during the period. The statement is then prepared with required disclosures. 6. Prepare a statement of cash flows using the indirect method. The steps using the indirect method are the same as in Objective 6 above, with one exception. Rather than starting with line items from the income statement in the Operating Activities section, the net income amount is the beginning point. All the same adjustments are then made to adjust net income to a cash basis, but the style and format of the Operating Activities sections differ. 7. Prepare a more complex statement of cash flows using both methods. When preparing a more complex statement of cash flows under either the direct or indirect method, the same four step process can be followed: (1) Determine the change in cash; (2) Record information from the income statement of the statement of cash flows; (3) Analyze the change in each SFP account and identify/record the effect on the statement of cash flows; and (4) Complete the statement of cash flows. 8. Identify the financial presentation and disclosure requirements for the statement of cash flows. Under IFRS, disclosure is required of cash flows associated with interest and dividends received and paid, the definition and components of cash and cash equivalents reconciled to the amounts reported on the statement of financial position, and the amount of and explanation for cash and cash equivalents not available for use. All income tax cash flows are reported as operating flows unless they can be linked directly to investing or financing flows. Choices are available under IFRS for the reporting of interest and dividends received (operating or investing) and interest and dividends paid (operating or financing). Gross amounts should be reported except in specifically permitted circumstances, and non-cash investing and financing transactions are excluded from the statement of cash flows, but details about these are reported elsewhere on the financial statements. ASPE presentation requirements are very similar, but required disclosures are limited to interest and dividends paid and charged to retained earnings and the amount of any restricted cash. In addition, interest and dividends received are both operating flows, and interest and dividends paid are operating flows unless they were charged directly to retained earnings. 9. Read and interpret a statement of cash flows. The first step in reading and interpreting a statement of cash flows is to look at the subtotals for the three classifications of activities and the overall change in cash. This provides a high-level summary of the period’s cash flows. Next, analyze the items within each section for additional insights, keeping alert for accounting policies that affect the type of cash flow reported. Familiarity with the company’s business and strategic direction is very useful in interpreting the statement. 10. Identify differences in ASPE and IFRS, and explain what changes are expected to standards for the statement of cash flows. There are no significant differences between ASPE and IFRS related to the statement of cash flows except for the definition of cash equivalents and the presentation and disclosure requirements identified above.

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11. Use a work sheet to prepare a statement of cash flows. A work sheet can be used to organize the analysis and cash flow information needed to prepare a statement of cash flows. This method accounts for all changes in the balances of non-cash statement of financial position accounts from the period’s beginning to the end, identifying all operating, investing, and financing cash flows in the process. The statement of cash flows is prepared from the cash flow information accumulated at the bottom of the work sheet.

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MULTIPLE CHOICE—Conceptual Answer c b c d d a d c c a c d b b d d b c c c a a d b d

No. 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. 14. 15. 16. 17. 18. 19. 20. 21. 22. 23. 24. *25.

Description Primary purpose of the statement of cash flows Assessment of information in the statement of cash flows IFRS and ASPE requirements Cash equivalent elements Significant non-cash transactions Major source of cash for a successful company Cash flow effects of a stock dividend Item(s) to include in investing activities Additional cash invested by a sole proprietor Calculate cash provided by investing activities. Calculate cash provided by financing activities. Net loss under direct method Reporting of inventory increase on the statement of cash flows Adjustments to reconcile net income to cash from operating activities Adjustment to net income for inventory increase Adjustment for equity method investment income Cash flow effects of depreciation expense and purchase of assets Reporting insurance proceeds Adjustments under the direct method and indirect method Effect of decrease in accounts payable Adjustment for an increase in accounts payable Adjustment for a decrease in prepaid insurance Disclosures under IFRS and ASPE Free cash flow Reporting a stock dividend

*This topic is dealt with in an Appendix to the chapter.

MULTIPLE CHOICE—Computational Answer b c a d b c b c c b b b a d a

No. 26. 27. 28. 29. 30. 31. 32. 33. 34. 35. 36. 37. 38. 39. 40.

Description Calculate cash provided by (used in) investing activities. Calculate cash provided by financing activities. Calculate cash provided by investing activities. Calculate cash provided by (used in) financing activities. Calculate cash provided by (used in) investing activities. Calculate cash provided by (used in) financing activities. Calculate cash provided by (used in) investing activities. Calculate cash provided by (used in) financing activities. Calculate cash used in investing activities. Calculate cash provided by (used in) financing activities. Calculate cash provided by investing activities. Calculate cash provided by financing activities. Calculate cash used in investing activities. Calculate cash provided by financing activities. Calculate cash provided by operating activities using direct method.

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MULTIPLE CHOICE—Computational (Cont’d) Answer d a b a c a b c d a c c b b a c a b c d b

No. 41. 42. 43. 44. 45. 46. 47. 48. 49. 50. 51. 52. *53. *54. *55. *56. *57. *58. *59. *60. *61.

Description Calculate cash received from customers. Calculate cash paid for income taxes. Calculate cash paid for insurance (direct method). Adjust net income for bad debt expense. Cash flow effects of selling plant assets at a gain Cash flow effects of selling equipment at a loss Calculate cash provided by operating activities. Calculate cash provided by operating activities. Calculate cash provided by operating activities. Calculate cash provided by operating activities. Calculate depreciation expense for year. Calculate depreciation expense for year. Calculate net income for year. Calculate depreciation expense for year. Calculate equipment purchased during year. Calculate cost of equipment sold. Calculate book value of assets at end of year. Calculate ending balance of accounts payable. Calculate ending balance of retained earnings. Calculate ending balance of common shares account. Calculate amount of a cash dividend.

*This topic is dealt with in an Appendix to the chapter.

EXERCISES Item E22-62 E22-63 E22-64 E22-65 E22-66 E22-67 E22-68 E22-69 E22-70 E22-71 E22-72 E22-73

Description Classification of cash flows and transactions Effects of transactions on statement of cash flows (indirect method) Effects of transactions on statement of cash flows (indirect method) Effects of transactions on statement of cash flows (indirect method) Preparation of statement of cash flows (indirect method) Preparation of statement of cash flows (format provided) Classification of cash flows (indirect method) Direct and indirect methods Calculations for statement of cash flows (indirect method) Calculations for statement of cash flows (indirect method) Cash flows from operating activities (indirect and direct methods) Choices of statement of cash flow categories under IFRS

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PROBLEMS Item P22-74 P22-75 P22-76 P22-77

Description Advantages and disadvantages of direct and indirect methods Preparation of statement of cash flows (direct method) Preparation of statement of cash flows (indirect method) Complex statement of cash flows (indirect method)

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MULTIPLE CHOICE—Conceptual 1. The primary purpose of the statement of cash flows is to provide information a) about an entity’s operating, investing, and financing activities during a period. b) that is useful in assessing cash flow prospects. c) about an entity’s cash receipts and cash payments during a period. d) about an entity's ability to meet its obligations, its ability to pay dividends, and its needs for external financing. Answer: c Difficulty: Easy Learning Objective: Understand the importance of cash flows from a business perspective and describe the purpose and uses of the statement of cash flows. Section Reference: Purpose, Uses, and Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge 2. The information in a statement of cash flows enables stakeholders to assess the a) amounts, timing and certainty of future cash flows. b) liquidity and solvency of an entity. c) change in working capital during the period. d) reason(s) for the difference between net income and cash flows from financing activities. Answer: b Difficulty: Easy Learning Objective: Understand the importance of cash flows from a business perspective and describe the purpose and uses of the statement of cash flows. Section Reference: Purpose, Uses, and Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge 3. The statement of cash flows is required to be included a) only for financial statements prepared under IFRS. b) only for financial statements prepared under ASPE. c) for both financial statements prepared under IFRS and under ASPE. d) for financial statements prepared under IFRS, but is optional under ASPE. Answer: c Difficulty: Easy Learning Objective: Understand the importance of cash flows from a business perspective and describe the purpose and uses of the statement of cash flows.. Section Reference: Purpose, Uses, and Importance from a Business Perspective CPA: Financial Reporting Bloomcode: Knowledge

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4. Cash equivalents include a) treasury bills, equity investments and long-term bonds. b) non-equity investments with short maturities and bank overdrafts repayable on demand. c) treasury bills, commercial paper and all equity investments. d) treasury bills, commercial paper, and money market funds purchased with excess cash. Answer: d Difficulty: Medium Learning Objective: Define cash and cash equivalents. Section Reference: What is Included in Cash? CPA: Financial Reporting Bloomcode: Knowledge 5. Which of the following is NOT a significant non-cash transaction? a) capital (finance) lease obligations b) conversion of preferred shares to common shares c) exchange of non-monetary assets d) purchasing a building with a 10% cash down payment and mortgaging the balance Answer: d Difficulty: Medium Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Knowledge 6. A successful company’s major source of cash should be a) operating activities. b) investing activities. c) financing activities. d) both operating activities and investing activities. Answer: a Difficulty: Easy Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Knowledge 7. A statement of cash flows generally would NOT include the effects of a) common shares issued at an amount greater than par value.

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b) the purchase of treasury shares. c) cash dividends paid. d) stock dividends declared and issued. Answer: d Difficulty: Medium Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Knowledge 8. In a statement of cash flows, which of the following would be reported in the cash flows from investing activities section? a) issuance of common shares in exchange for a factory building b) stock dividends received c) development costs incurred (intangible asset) d) declaration of cash dividends Answer: c Difficulty: Medium Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Comprehension 9. On a statement of cash flows, additional cash invested by a sole proprietor would be disclosed in a) operating activities. b) investing activities. c) financing activities. d) both operating and financing activities. Answer: c Difficulty: Medium Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Comprehension Use the following information for questions 10–11. Duncan Corp. purchased a building, paying part of the purchase price in cash and issuing a

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mortgage note payable to the seller for the balance. 10. In a statement of cash flows, what amount is included in investing activities for the above transaction? a) the cash payment b) the full purchase price c) zero (but disclosed in the notes) d) the amount mortgaged Answer: a Difficulty: Easy Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Knowledge 11. In a statement of cash flows, what amount is included in financing activities for the above transaction? a) the cash payment b) the full purchase price c) zero (but disclosed in the notes) d) the amount mortgaged Answer: c Difficulty: Medium Learning Objective: Identify the major classifications of cash flows and explain the significance of each classification. Section Reference: Classification of Cash Flows CPA: Financial Reporting Bloomcode: Knowledge 12. When preparing a statement of cash flows using the direct method, a net loss reported on the income statement will a) automatically result in a cash outflow from operating activities. b) be included in financing activities. c) be disclosed as a note to the statement of cash flows. d) not be included on the statement at all. Answer: d Difficulty: Medium Learning Objective: Prepare a statement of cash flows using the direct method. Section Reference: Illustration Using the Direct Method CPA: Financial Reporting Bloomcode: Comprehension

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13. U...