CENTURY 21 ACCOUNTING © Thomson/South-Western

LESSON 18-1LESSON 18-1

Understanding Cash Flow Analysis

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LESSON 18-1

page 531CASH FLOW ANALYSISCASH FLOW ANALYSIS

Cash flow analysis helps owners, creditors, and other interested parties:

1. Determine a company’s potential to produce cash in the future.

2. Judge a company’s ability to pay bills and repay debts.

3. Explain changes in the cash account balance.

4. Evaluate a company’s investment and equity transactions.

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STATEMENT OF CASH FLOWSTATEMENT OF CASH FLOW

The cash receipts & cash payments of a company are called cash flows

A statement that summarizes cash receipts & cash payments from business activities during a fiscal period is called a statement of cash flows Explains the change in Cash during a fiscal period

by reporting the sources (inflows or receipts) & uses (outflows or payments) of a company’s cash

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CENTURY 21 ACCOUNTING © Thomson/South-Western

STATEMENT OF CASH FLOWSTATEMENT OF CASH FLOW

Studying a company’s cash flows allows you to analyze why there were profits yet not enough cash to pay bills

The income statement & Balance sheet are prepared using an accrual basis of accounting

The statement of cash flow is prepared using the cash basis of accounting Recognizes revenue when cash is received &

expenses when cash is paid out

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STATEMENT OF CASH FLOWSSTATEMENT OF CASH FLOWS page 532

By identifying the sources & uses of cash, the statement of cash flows explains the difference in the beginning & ending balances in the cash account

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LESSON 18-1

page 533

Revenue recognized at the time it is earned.

Revenues$25,000.00

Expenses0.00

Net Income$25,000.00

Revenue recognized at the time cash is received.

Revenues $ 0.00

Expenses0.00

Net Income $ 0.00

TIMING OF REVENUE RECOGNITIONTIMING OF REVENUE RECOGNITION

Accrual Basis vs. Cash Basis

Assume that Flomax Corp. has sales on account during the year & no expenses. Under the accrual basis for accounting, revenue is recognized at the time it is earned. If the account receivable remains outstanding at the end of the fiscal year,

using the accrual basis the revenue would be $25,000 Under the cash basis of accounting, revenue is not recognized until cash

is received so the net income would be $0.00

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LESSON 18-1

page 533

Expense recognized at the time it is incurred.

Revenues$25,000.00

Expenses3,000.00

Net Income$22,000.00

Expense recognized at the time cash is paid.

Revenues $ 0.00

Expenses0.00

Net Income $ 0.00

TIMING OF EXPENSE RECOGNITIONTIMING OF EXPENSE RECOGNITION

Accrual Basis vs. Cash Basis

Assume that Flomax Corp. recognizes one week of salaries earned by employees before the close of the current fiscal year. The salary expense will not be paid until the next fiscal period. Using the accrual basis, the expense is recognized during the current fiscal year

and would equal $3,000 Under the cash basis of accounting, no expenses are reported until actually paid.

Since no cash was paid, $0.00 in expenses would be recorded

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CASH FLOWS FROM OPERATING CASH FLOWS FROM OPERATING ACTIVITIESACTIVITIES

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LESSON 18-1

The statement of cash flows is divided into three sections: Cash flows from operating activities Cash flows from investing activities Cash flows from financing activities

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CASH FLOWS FROM CASH FLOWS FROM OPERATING ACTIVITIESOPERATING ACTIVITIES

Cash Inflows (sources of cash)

Cash sales of merchandise Cash sales of services Interest income Dividends received from the

ownership of stock in other companies

Cash received from charge customers

Cash Outflows (uses of cash)

Advertising Credit card fees Insurance expense Interest payments Payroll expenses Property tax Utility expenses Income tax

The cash receipts & payments necessary to operate a business on a day-to-day basis are called operating activities Examples of operating activities:

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CASH FLOWS FROM CASH FLOWS FROM INVESTING ACTIVITIESINVESTING ACTIVITIES

Cash Inflows (sources of cash)

Sale of property Sale of equipment Sale of building Collections of long-term

loans

Cash Outflows (uses of cash)

Purchase of land Purchase of equipment Purchase of building Purchase of patents or

special licenses companies

Cash receipts & cash payments involving the sale or purchase of assets used to earn revenue over a period of time are called investing activities Examples of investing activities:

Loans to other companies

Purchase of stock in other companies

Purchase of bonds in other

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CASH FLOWS FROM CASH FLOWS FROM FINANCING ACTIVITIESFINANCING ACTIVITIES

Cash Inflows (sources of cash)

Capital stock issue Mortgage issue Bond issue Long-term loans

Cash Outflows (uses of cash)

Purchase of treasury stock Payment of cash dividends Repayment of land/note

principal Retirement of bond principal

Cash receipts & payments involving debt or equity transactions are called financing activities Examples of financing activities:

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LESSON 18-1

page 536TERMS REVIEWTERMS REVIEW

accrual basis of accounting cash basis of accounting cash flows statement of cash flows operating activities investing activities financing activities