Chapter 12, Problem 12.8AP

(a)

To determine

Statement of cash flows

Statement of cash flow is a financial statement that shows the cash and cash equivalents of a company for a particular period of time. It shows the net changes in cash, by reporting the sources and uses of cash as a result of operating, investing, and financing activities of a company.

Cash flows from operating activities: These refer to the cash received or cash paid in day-to-day operating activities of a company.

Direct method: This method uses the basis of cash for preparing the cash flows of statement.

Cash flows from operating activities: In this direct method, cash flow from operating activities is computed by using all cash receipts and cash payments during the year.

1. A. Cash Receipts: It encompasses all the cash receipts from sale of goods and on account receivable.
2. B. Cash Payments: It encompasses all the cash payments that are made to suppliers of goods and all expenses that are paid.

Cash flow from investing activities: This section of cash flows statement provides information concerning about the purchase and sale of capital assets by the company.

• Deduct the amount of cash used to purchase any fixed assets.
• Add the amount of cash received from sale of any fixed asset.

Cash flow from financing activities: This section of cash flows statement provides information about the cash inflow and outflow as a result of issuance and financing of debt, issue of new stock and payment of dividends.

• Add the amount of cash received from any sources of finance.
• Deduct the amount of cash used for payment for dividend and interest from financing activities.
• Deduct the amount of cash used for payment of treasury stock from financing activities.

To Prepare: Statement of cash flows of W Company using Direct method.

Answer to Problem 12.8AP

Prepare the statement of cash flows under direct method as follows:

W Company
Statement of Cash Flows– Direct Method
For the year ended December 31, 2017
Particulars	Amount ($)	Amount ($)
Cash flows from operating activities:
Cash receipts from customers (1)
Less: Payments to suppliers (2)	179,000
Payment for operating expense (3)	6,500
Payment for income taxes (4)	9000
Payment for interest expense	3,000
Total Payments made		(197,500)
Net cash provided by operating activities		$38,500
Cash flows from investing activities:
Sale of equipment	8,500
Net cash provided by investing activities		8,500
Cash flows from financing activities:
Issuance of common stock	4,000
Redemption of bonds payable	(16,000)
Cash dividends payment	(20,000)
Net cash used for financing activities		(32,000)
Net increase (decrease) in cash		15,000
Cash balance, December 31, 2016		20,000
Cash balance, December 31, 2017		$35,000

Table (1)

Working notes:

Calculate the cash received from customers as follows:

$\begin{array}{c}\begin{array}{l}\text{Cash}\text{receipts}\text{from}\\ \text{Customers}\end{array}]=\text{Sales}\text{revenue }\left(\begin{array}{l}+\text{Decrease in Accounts Receivable}\\ or\\ -\text{Increase in Accounts Receivable}\end{array}\right)\\ =\text{ Sales Revenue }-\text{Increase in Accounts Receivable}\\ =\$242,000-\$6,000\\ =\$236,000\end{array}$ (1)

Calculate the amount of cash paid to suppliers as follows:

$\begin{array}{c}\begin{array}{l}\text{Cash}\text{paid to }\\ \text{Suppliers}\end{array}]=\text{Cost of Goods Sold }\left(\begin{array}{l}+\text{Decrease in Accounts Payable}\\ \text{/}\text{Increase in Inventory}\\ or\\ -\text{Increase in Accounts Payable }\\ \text{/}\text{Decrease in Inventory}\end{array}\right)\\ =\left(\begin{array}{l}\text{Cost of goods sold + Increase in inventory}\\ -\text{Increase in accounts payable}\end{array}\right)\\ =\left(\$175,000+\$8,000-\$4,000\right)\\ =\$179,000\end{array}$ (2)

Calculate cash payment for operating expenses as follows:

$\begin{array}{c}\begin{array}{l}\text{Cash payments for }\\ \text{operating expense }\end{array}]=\left(\text{Operating expense}-\text{<x-custom-btb-me data-me-id="391" class="microExplainerHighlight">Depreciation</x-custom-btb-me> expense}\right)\\ =\left(\$24,000-\$17,500\right)\\ =\$6,500\end{array}$ (3)

Calculate cash payment for income taxes as follows:

$\begin{array}{c}\begin{array}{l}\text{Cash paid for}\\ \text{ Income taxes}\end{array}]=\text{Income tax expense}\left(\begin{array}{l}+\text{Decrease in income tax payable}\\ or\\ -\text{Increase in income tax payable}\end{array}\right)\\ =\left(\text{Income tax expense + Decrease in income tax payable}\right)\\ \text{=\$8,000}\text{+}\$1,000\\ =\$9,000\end{array}$ (4)

The schedule of changes in liabilities is prepared as below:

Schedule of change in assets and liabilities
Account Titles	Amount ($)
	2017	2016	Increase / (Decrease)
Common stock	18,000	14,000	4,000
Bonds payable	33,000	17,000	(16,000).

Explanation of Solution

The net cash provided by operating activities is calculated by deducting all cash payments incurred in the operating of the business from all cash receipts from the operating activities of the business. Here, cash receipt includes cash receipts from customers. Cash payments include all cash payments made to suppliers and operating activities.

Cash flow from investing activities is calculated by accounting for inflows and outflows of changes in investments and long terms assets.

Cash flow from financing activities is calculated by accounting for inflows and outflows of changes in long term liabilities and shareholders’ equity items.

Conclusion

Hence, Net increase in cash balance during the period is $15,000.

(b)

To determine

Free cash flow: It describes the net cash provided from operating activities after making required adjustments for dividends and capital expenditures. In other words, it is the cash flow arrived after making payment for capital expenditures and dividend payments.

To Compute: free cash flow of W Company.

Answer to Problem 12.8AP

The free cash flow is calculated as follows:

Particulars	Amount ($)
Net cash provided by operating activities	38,500
Less: Net cash used by investing activity	0
Less: Net cash under financing activity	20,000
Free cash flow	$18,500

Table (2)

Explanation of Solution

The free cash flow is computed by deducting capital expenditures (Investing activities) and dividends paid (Financing activities) from net cash provided by operating activities.

Conclusion

The free cash flow of W Corporation is $18,500.