CHAPTER 23 STATEMENT OF CASH FLOWS

PROBLEM #1 Transactional Analysis of Accounts

You have been asked to prepare a statement of cash flows for the Micron Corporation for the year ending December 31,
2017 using the indirect method. Partial information from the balance sheet reflects the following information:

Dec. 31, 2017 Dec. 31, 2016

Property, Plant and Equipment $ 375,000 $ 250,000

Less Accumulated Depreciation ($ 95,000) ($122,000)

Net Book Value $ 280,000 $ 128,000

The income statement information reflected a gain on the sale of equipment of $ 10,000.

During the year, Micron sold equipment with a cost of $ 75,000 that had been fully depreciated at the time of its sale.

You must answer the following questions in order to complete the statement of cash flows.

1. What is the adjustment to Net Income for the disposal of the equipment?
2. What is the amount of the depreciation expense adjustment to the operating activities section?
3. How much equipment was acquired during 2017 that impacts the investing activities?
4. What is the net cash provided or used in investing activities?

PROBLEM #2 (Statement of Cash Flows—Classifications) The major classifications of activities reported in

the statement of cash flows are operating, investing, and financing. Classify each of the transactions listed
below as:
1. Operating activity—add to net income.
2. Operating activity—deduct from net income.
3. Investing activity.
4. Financing activity.
5. Not reported as a cash flow.

The transactions are as follows.

(a) Depreciation of machinery. (h) Sale of equipment.
(b) Payment of cash dividends. (i) Purchase of land and building.
(c) Purchase of treasury stock. (j) Amortization of patent.
(d) Decrease in accounts payable during the year. (k) Issuance of bonds for plant assets.
(e) Increase in accounts receivable during the year. (l) Redemption of bonds.
(f) Loss on sale of equipment. (m) Issuance of capital stock.
(g) Exchange of furniture for office equipment.
PROBLEM #3 (Preparation of a Statement of Cash Flows)
The comparative balance sheets of Duong Inc. at the beginning and the end of the year 2007 appear below.

DUONG INC.
BALANCE SHEETS

Assets Dec. 31, 2007 Jan. 1, 2007 Inc./Dec.

Cash $ 90,000 $ 26,000 $64,000 Inc.
Accounts receivable 182,000 176,000 6,000 Inc.
Equipment 78,000 44,000 34,000 Inc.
Less: Accumulated depreciation (34,000) (22,000) 12,000 Inc.
Total $316,000 224,000

Liabilities and Stockholders’ Equity

Accounts payable $ 40,000 $ 30,000 $10,000 Inc.

Common stock 200,000 160,000 40,000 Inc.
Retained earnings 76,000 34,000 42,000 Inc.
Total $316,000 $224,000
Net income of $88,000 was reported, and dividends of $46,000 were paid in 2007. New equipment was purchased and
none was sold. Prepare a statement of cash flows for the year 2007.

PROBLEM #4 (Preparation of a Statement of Cash Flows) Presented below is a condensed version of the
comparative balance sheets for Garcia Corporation for the last two years December 31.
2017 2016
Cash $442,500 $195,000
Accounts receivable 450,000 462,500
Investments 130,000 185,000
Equipment 745,000 600,000
Less: Accumulated depreciation (265,000) (222,500)

Current liabilities 335,000 377,500

Capital stock 400,000 400,000
Retained earnings 767,500 442,500
Additional information:
Investments were sold at a loss (not extraordinary) of $25,000; no equipment was sold; cash dividends paid were
$75,000; and net income was $400,000.

Instructions
(a) Prepare a statement of cash flows for 2017 for Garcia Corporation.
(b) Determine Garcia Corporation’s free cash flow.

PROBLEM #5 (Preparation of a Statement of Cash Flows)

A comparative balance sheet for Gokhale Corporations presented below.
December 31
Assets 2017 2016

Cash $ 109,500 $ 33,000

Accounts receivable 123,000 99,000
Inventories 270,000 283,500
Land 106,500 165,000
Equipment 390,000 300,000
Accumulated depreciation—equipment (103,500) (63,000)
Total $895,500 $817,500
Liabilities and Stockholders’ Equity
Accounts payable $ 51,000 $ 70,500
Bonds payable 225,000 300,000
Common stock ($1 par) 321,000 246,000
Retained earnings 298,500 201,000

Total $895,500 $817,500

Additional information:
1. Net income for 2017 was $187,500.
2. Cash dividends of $90,000 were declared and paid.
3. Bonds payable amounting to $75,000 were retired through issuance of common stock.
Instructions
(a) Prepare a statement of cash flows for 2017 for Gokhale Corporation.
(b) Determine Gokhale Corporation’s current cash debt coverage ratio, cash debt coverage ratio, and
free cash flow. Comment on its liquidity and financial flexibility.

Chapter 5 Statement of Cash Flows Solutions to Exercises

Problem #1

1. What is the adjustment to Net Income for the disposal of the equipment? -$10,000
2. What is the amount of the depreciation expense adjustment to the operating activities section? +$48,000
3. How much equipment was acquired during 2007 that impacts the investing activities? -$200,000
4. Net cash used-$190,000 ($200,000 from purchase-$10,000 from sale of old equipment
PP&E

Beg 250000

200000* 75000 Sale

End 375,000

*plug required to balance account, must be new acquisitions

Accumulated Depreciation

Beg 122000

75000sale 48000 (plug, must be new depreciation expense)

95,000 ending

Journal entry recorded upon sale of equipment which was fully depreciated with original cost of $75,000,
resulting in a gain of $10000:

Cash $10,000
Acc. Depr. $75,000
Gain $10,000
Equipment $75,000

The gain of $10,000 is included in the net income number and should be deducted. On a cash flow statement we
want to reflect the cash in the transaction. Therefore we should show $10,000 inflow of cash under investing
activities for the cash proceeds from the sale.

Problem#2

(a) 1. (f) 1. (k) 5.

(b) 4. (g) 5. (l) 4.
(c) 4. (h) 3. (m) 4.
(d) 2. (i) 3.
(e) 2. (j) 1.

Problem #3
 Duong Inc.
Statement of Cash Flows
For the Year Ended December 31, 2017
Cash flows from operating activities
Net income $ 88,000
Adjustments to reconcile net income
to net cash provided by operating
activities:
Depreciation expense $12,000
Increase in accounts receivable (6,000)
Increase in accounts payable 10,000 16,000
Net cash provided by operating activities 104,000
Cash flows from investing activities
Purchase of equipment (34,000)
Cash flows from financing activities
Issuance of common stock 40,000
Payment of cash dividends (46,000)
Net cash used by financing activities (6,000)
Net increase in cash 64,000
Cash at beginning of year 26,000
Cash at end of year $ 90,000

Problem #4 Garcia Corporation

Statement of Cash Flows
For the Year Ended December 31, 2017
Cash flows from operating activities
Net income $400,000
Adjustments to reconcile net income
to net cash provided by operating
activities:
Depreciation expense $ 42,500
Loss on sale of investments 25,000
Decrease in accounts receivable 12,500
Decrease in current liabilities (42,500) 37,500
Net cash provided by operating activities 437,500
Cash flows from investing activities
Sale of investments
[($185,000 – $130,000) – $25,000] 30,000
Purchase of equipment (145,000)
Net cash used by investing activities (115,000)
Cash flows from financing activities
Payment of cash dividends (75,000)
Net increase in cash 247,500
Cash at beginning of year 195,000
Cash at end of year $442,500

(b) Free Cash Flow Analysis

Net cash provided by operating activities $437,500
Less: Purchase of equipment (145,000)
Dividends (75,000)
Free cash flow $217,500

Problem #5 Gokhale Corporation

Statement of Cash Flows
For the Year Ended December 31, 2017
Cash flows from operating activities
Net income $187,500
Adjustments to reconcile net income
to net cash provided by operating
 activities:
Depreciation expense $40,500
Increase in accounts receivable (24,000)
Decrease in inventory 13,500
Decrease in accounts payable (19,500) 10,500
Net cash provided by operating activities 198,000
Cash flows from investing activities
Sale of land 58,500
Purchase of equipment (90,000)
Net cash used by investing activities (31,500)
Cash flows from financing activities
Payment of cash dividends (90,000)
Net increase in cash 76,500
Cash at beginning of year 33,000
Cash at end of year $109,500
The issuance of common stock to retire $75,000 of bonds payable is a significant noncash financing transaction
which would be disclosed in notes accompanying the financial statements.

(b) Current cash debt coverage ratio =

Net cash provided by operating activities
=
Average current liabilities

$198,000
= ($51,000 + $70,500)/2

= 3.26 to 1

Cash debt coverage ratio =

Net cash provided by operating activities

=
Average total liabilities

$276,000 + $370,500
= $198,000 ÷
2

= .61 to 1

Free Cash Flow Analysis

Net cash provided by operating activities $198,000

Less: Purchase of equipment (90,000)

Dividends (90,000)

Free cash flow $ 18,000

Gokhale has excellent liquidity. Its financial flexibility is good. It might be noted that it substantially reduced its
long-term debt in 2017 which will help its financial flexibility.