Compute cash from operating activities under the direct and indirect methods.
Explanation of Solution
Statement of cash flows: This statement reports all the cash transactions which are responsible for inflow and outflow of cash, and result of these transactions is reported as ending balance of cash at the end of reported period. Statement of cash flows includes the changes in cash balance due to operating, investing, and financing activities.
Direct method: Under direct method, cash receipts from customers (
Operating activities: Operating activities include cash inflows and outflows from business operations.
The below table shows the way of calculation of cash flows from operating activities using direct method:
Cash flows from operating activities (Direct method) |
Add: Cash receipts. |
Cash receipt from customer |
Dividend received |
Interest received |
Less: Cash payments: |
To supplier for acquisition of inventory |
To employees |
For interest on loans |
Income tax expenses and other operating expenses |
Net cash provided from or used by operating activities |
Table (1)
Indirect method: Under indirect method, net income is reported first, and then non-cash expenses, losses from fixed assets, and changes in opening balances and ending balances of current assets and current liabilities are adjusted to reconcile the net income balance.
Cash flows from operating activities: Operating activities refer to the normal activities of a company to carry out the business.
The below table shows the way of calculation of cash flows from operating activities using indirect method:
Cash flows from operating activities (Indirect method) |
Net income: |
Add: Decrease in current assets |
Increase in current liability |
|
Loss on sale of plant assets |
Deduct: Increase in current assets |
Decrease in current liabilities |
Gain on sale of plant assets |
Net cash provided from or used by operating activities |
Table (2)
Compute cash from operating activities under the direct method:
Statement of Cash Flows Direct Method (Partial) | ||
Details | Amount ($) | Amount ($) |
Cash flows from operating activities: | ||
Cash receipts: | ||
Cash received from customers | 530 | |
Total cash receipts | 530 | |
Cash payments: | ||
Cash paid to employees | (350) | |
Total cash payments | (350) | |
Net cash provided by operating activities | $180 |
Table (3)
Working notes:
Calculate the amount of cash received from customers:
Calculate the amount of cash paid to employees:
Compute cash from operating activities under the indirect method:
Statement of Cash Flows - Indirect Method | ||
Details | Amount ($) | Amount ($) |
Cash flows from operating activities: | ||
Net Income | 200 | |
Adjustment to reconcile net income to net cash provided by operating activities: | ||
Changes in current assets and current liabilities: | ||
Decrease in | 30 | |
Decrease in wages payable | (50) | (20) |
Net cash provided by operating activities | $180 |
Table (4)
Working note:
Calculate the amount of net income:
Therefore, the net cash flows from operating activities under the direct and indirect method are $180.
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Chapter 23 Solutions
College Accounting, Chapters 1-15, Loose-Leaf Version
- During the year, Hepworth Company earned a net income of 61,725. Beginning and ending balances for the year for selected accounts are as follows: There were no financing or investing activities for the year. The above balances reflect all of the adjustments needed to adjust net income to operating cash flows. Required: 1. Prepare a schedule of operating cash flows using the indirect method. 2. Suppose that all the data are used in Requirement 1 except that the ending accounts payable and cash balances are not known. Assume also that you know that the operating cash flow for the year was 20,475. What is the ending balance of accounts payable? 3. CONCEPTUAL CONNECTION Hepworth has an opportunity to buy some equipment that will significantly increase productivity. The equipment costs 25,000. Assuming exactly the same data used for Requirement 1, can Hepworth buy the equipment using this years operating cash flows? If not, what would you suggest be done?arrow_forwardJarem Company showed 189,000 in prepaid rent on December 31, 20X1. On December 31, 20X2, the balance in the prepaid rent account was 226,800. Rent expense for 20X2 was 472,500. Required: 1. What amount of cash was paid for rent in 20X2? 2. CONCEPTUAL CONNECTION What adjustment in prepaid expenses is needed if the indirect method is used to prepare Jarems statement of cash flows?arrow_forwardSmoltz Company reported the following information for the current year: cost of goods sold, $252,500; increase in inventory, $21,700; and increase in accounts payable, $12,200. What is the amount of cash paid to suppliers that Smoltz would report on its statement of cash flows under the direct method? a. $218,600 c. $262,000 b. $243,000 d. $286,400arrow_forward
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