Module 7
Accounting for Cash
Learning Objectives
Define and explain the purpose of internal control.
Identify principles of internal control.
Define cash and explain how it is reported.
Apply internal controls to cash.
Explain and record petty cash transactions.
Explain and identify banking activities and the control features they provide.
Prepare a bank reconciliation and journalize any adjustments.
Compute the acid-test ratio and explain its use as an indicator of a company’s liquidity.
Explain the purpose and importance of cash flow information.
Distinguish among operating, investing, and financing activities.
Identify and disclose noncash investing and financing activities.
Describe the format of the cash flow statement.
Prepare a cash flow statement.
Calculate cash flows from operating activities using the direct method.
Determine cash flows from both investing and financing activities.
Calculate cash flows from operating activities using the indirect method.
SAP 2007 / SAP University Alliances
Introductory Accounting
Internal Control System
All policies and procedures
used to :
• Protect assets
• Ensure reliable accounting
• Promote efficient operations
• Encourage adherence to company
policies
SAP 2007 / SAP University Alliances
Introductory Accounting
Fundamental Principles of Internal Control
Ensure transactions and activities are authorized.
Maintain adequate records.
Insure assets.
Separate recordkeeping and custody of assets.
Establish a separation of duties.
Apply technological controls.
Perform internal and external audits.
SAP 2007 / SAP University Alliances
Introductory Accounting
Limitations of Internal Control
Human Error
Human Fraud
The costs of internal controls must not exceed
their benefits.
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash
Is an important asset for every company.
Control of cash on hand and access to it is critical.
Cash includes:
•
•
•
•
Currency
Coins
Deposits in bank accounts
Other items acceptable for deposit
SAP 2007 / SAP University Alliances
Introductory Accounting
Liquidity
Refers to how easily an asset can be
converted into another asset or used
in paying for services or obligations.
Examples:
• Cash — highly liquid
• A specialized piece of equipment — not very
liquid
SAP 2007 / SAP University Alliances
Introductory Accounting
Internal Controls for Cash
Guidelines:
Separate handling of cash from recordkeeping of
cash.
Deposit cash receipts daily.
Make cash disbursements by cheque.
SAP 2007 / SAP University Alliances
Introductory Accounting
Control of Cash Disbursements
All expenditures should be made by cheque. The
only exception is for small payments from petty
cash.
Separate authorization, cheque signing, and
recordkeeping duties.
Apply a voucher system.
SAP 2007 / SAP University Alliances
Introductory Accounting
Petty Cash System of Control
Good internal control procedures require cash
disbursements be made by cheque.
The exception:
Small payments required in most companies for items
such as postage, courier fees, repairs, and supplies.
This is an example of the cost-benefit limitation.
SAP 2007 / SAP University Alliances
Introductory Accounting
Operating a Petty Cash Fund
Entry to establish fund
GENERAL JOURNAL
Date
Description
May 1 Petty Cash
Page 4
PR Debit Credit
150
Cash
150
To establish a petty cash fund
The petty cashier makes payments from
this fund for small disbursements
SAP 2007 / SAP University Alliances
Introductory Accounting
Operating a Petty Cash Fund
… and ensures a petty cash receipt is
signed by the person receiving the
money to easily identify the expenses
paid from petty cash.
And then makes an entry to record these
expenses
GENERAL JOURNAL
Date
Description
May 15 Postage Expense
Courier Expense
Cash
SAP 2007 / SAP University Alliances
Page 4
PR Debit Credit
46
80
126
We use a Cash
Over or Short
account if needed.
Introductory Accounting
Banking Activities and Services
Bank account
Bank deposits and cheques
Electronic funds transfer
Bank credit card transactions
Debit card transactions
SAP 2007 / SAP University Alliances
Introductory Accounting
Bank Credit Card Transactions
Many companies allow customers to use bank
credit cards for their purchases.
The risk of bad debts is transferred to the credit
card company.
The company collects cash from the sale quickly.
The credit card companies charge a fee to the
vendor.
SAP 2007 / SAP University Alliances
Introductory Accounting
Debit Card Transactions
Many companies allow customers to use debit
cards for their purchases.
The bank transfers funds from the customer’s
account to the vendor’s bank account.
The bank charges a fee to the vendor.
The entries are identical to a bank credit card sale.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration-Bank Credit Card Transactions
Sample has $200 of credit card sales with a 3%
fee and cash is received immediately (assume
cost of sales is $100).
GENERAL JOURNAL
Date
Description
2005
Sep 15 Cash
Credit Expense
Sales
Page 8
PR
Debit
Credit
194.00
6.00
200.00
To record credit card expense less 4% fee
15 Cost of Goods Sold
Merchandise Inventory
100.00
100.00
To record cost of sales
SAP 2007 / SAP University Alliances
Introductory Accounting
Bank Reconciliations
Bank reconciliations are:
• Prepared periodically to explain the
difference between cash reported on the
bank statement and the cash balance on
company’s books.
• An important element of internal control.
SAP 2007 / SAP University Alliances
Introductory Accounting
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Bank Statement
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,109.58
Total Cheques
and Debits
723.00
Total Deposits
and Credits
1,163.42
Current
Balance
2,550.00
Date
Cheques and
Debits
Number Amount
Deposits and
Credits
Amount
Daily
Balance
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
55.00
25.00
50.00
23.00 DM
70.00
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
240.00
180.00
100.00
150.00
485.00
8.42
2,109.58
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
2,796.58
2,676.58
2,541.58
2,550.00
The bank statement
provides
information about
everything that has
gone through the
bank account for a
given period of time.
CM – Credit Memo
DM – Debit Memo
EC – Error Correction
IN – Interest Earned
NSF – Non-sufficient Funds
OD – Overdraft
SC – Service Charge
Introductory Accounting
Cash Disbursements Journal
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
15
16
31
$
100.00
150.00
145.00
815.00
(101)
Cheque #
119
120
121
122
123
124
125
126
127
128
$
$
Amount
55.00
200.00
120.00
70.00
25.00
150.00
15.00
200.00
50.00
135.00
1,020.00
(101)
The general ledger,
cash receipts, and cash
disbursements journals
provide information
about everything that
has gone through our
accounting records for
a given period of time.
General Ledger Cash Account
Cash
Account # 101
Date Explanation PR Debit
Credit
Balance
30-Sep Balance
2,109.58
31-Oct
CR6 815.00
2,924.58
31-Oct
CD4
1,020.00 1,904.58
SAP 2007 / SAP University Alliances
Introductory Accounting
Bank Reconciliation — Example
Union Bank
Edmonton, AB
Bank Statement
Sample Company
111 Main Street
Edmonton, AB
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,108.58
Total Cheques
and Debits
723.00
Date
Cheques and
Debits
Number Amount
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
*
Total Deposits
and Credits
1,163.42
Current
Balance
2,550.00
Deposits and
Credits
Amount
Daily
Balance
55.00
25.00
50.00
23.00 DM
70.00
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
240.00
180.00
100.00
150.00
485.00
8.42
2,109.58
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
2,796.58
2,676.58
2,541.58
2,550.00
Why are the
balances different?
Some items are reflected
on the bank statement but
not in the accounting records
and vice versa.
General Ledger Cash Account
Cash
Account # 101
Date Explanation PR Debit
Credit
Balance
30-Sep Balance
2,109.58
31-Oct
CR6 815.00
2,924.58
31-Oct
CD4
1,020.00 1,904.58
Introductory Accounting
Reconciling Items
Bank Statement
General Ledger

Non-sufficient


Outstanding cheques.
Deposits in transit.
Bank errors.
(NSF).
Bank service charges.
Interest earned on bank
account.
Collections made by the
bank.
Book
SAP 2007 / SAP University Alliances
funds cheque
errors.
Introductory Accounting
Let’s prepare the bank reconciliation
for Sample Company at the end of
October 31, 2005.
SAP 2007 / SAP University Alliances
Introductory Accounting
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Bank Statement
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,108.58
Total Cheques
and Debits
723.00
Total Deposits
and Credits
1,163.42
Date
Cheques and
Debits
Number Amount
Deposits and
Credits
Amount
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
55.00
25.00
50.00
23.00 DM
70.00 CM
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
15
16
31
100.00
150.00
145.00
815.00
(101)
On both the cash
receipts
journal
$
Current
Balance
AND the bank
2,550.00
statement; therefore,
none
of these items is Cash Disbursements Journal
Daily
a Balance
reconciling item. Cheque #
Amount
240.00
180.00
100.00
150.00
485.00
8.42
2,109.58
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
2,796.58
2,676.58
2,541.58
2,550.00
119
120
121
122
123
124
125
126
127
128
$
$
55.00
200.00
120.00
70.00
25.00
150.00
15.00
200.00
50.00
135.00
1,020.00
(101)
Introductory Accounting
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Bank Statement
Previous
Balance
2,109.58
Total Cheques
and Debits
723.00
Total Deposits
and Credits
1,163.42
Date
Cheques and
Debits
Number Amount
Deposits and
Credits
Amount
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
On both the cash
disbursements
Current
journal
AND the
Balance
bank
statement;
2,550.00
therefore, none of
Daily items is a
these
Balance
reconciling item.
Statement Date 31-Oct-05
Account Number 494 504 2
55.00
25.00
50.00
23.00 DM
70.00 CM
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
240.00
180.00
100.00
150.00
485.00
8.42
2,109.58
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
2,796.58
2,676.58
2,541.58
2,550.00
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
15
16
31
$
100.00
150.00
145.00
815.00
(101)
Cash Disbursements Journal
Cheque #
Amount
119
$
55.00
120
200.00
121
120.00
122
70.00
123
25.00
124
150.00
125
15.00
126
200.00
127
50.00
128
135.00
$
1,020.00
(101)
Introductory Accounting
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,109.58
Total Cheques
and Debits
723.00
Date
Cheques and
Debits
Number Amount
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
Bank Statement
15
16
31
100.00
150.00
145.00
815.00
(101)
Only in the cash
$
receipts journal OR
Total Deposits
Current
cash disbursements
and Credits theBalance
1,163.42
2,550.00
journal
OR the bank
Deposits and statement; therefore,
Daily
Cash Disbursements Journal
Credits
each
of these items is a Cheque #
Balance
Amount
Amount
reconciling item.
119
$
55.00
2,109.58
55.00
25.00
50.00
23.00 DM
70.00 CM
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
240.00
180.00
100.00
150.00
485.00
8.42
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
2,796.58
2,676.58
2,541.58
2,550.00
120
121
122
123
124
125
126
127
128
$
Introductory Accounting
200.00
120.00
70.00
25.00
150.00
15.00
200.00
50.00
135.00
1,020.00
(101)
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Bank Statement
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,109.58
Total Cheques
and Debits
723.00
Total Deposits
and Credits
1,163.42
Current
Balance
2,550.00
Date
Cheques and
Debits
Number Amount
Deposits and
Credits
Amount
Daily
Balance
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
55.00
25.00
50.00
23.00 DM
70.00 CM
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
240.00
180.00
100.00
150.00
485.00
8.42
2,109.58
2,294.58
2,449.58
2,499.58
2,626.58
3,041.58
2,841.58
2,826.58
The items that
show up only on
the bank statement
are reconciling
items on the book
side of the bank
reconciliation.
2,796.58
2,676.58
2,541.58
2,550.00
Introductory Accounting
Union Bank
Edmonton, AB
Sample Company
111 Main Street
Edmonton, AB
Bank Statement
Statement Date 31-Oct-05
Account Number 494 504 2
Previous
Balance
2,109.58
Total Cheques
and Debits
723.00
Total Deposits
and Credits
1,163.42
Current
Balance
2,550.00
Date
Cheques and
Debits
Number Amount
Deposits and
Credits
Amount
Daily
Balance
Oct 1
3
9
15
16
17
18
19
20
26
29
31
119
123
127
122
120
125
121
128
55.00
25.00
50.00
23.00 DM
70.00 CM
200.00
15.00
20.00 NSF
10.00 DM
120.00
135.00
IN
SAP 2007 / SAP University Alliances
240.00
180.00
100.00
150.00
485.00
8.42
SAMPLE COMPANY
Bank Reconciliation
October 31, 2005
Book Balance
Add:
2,109.58
Collection of $500 note
2,294.58
less $15 collection fee
2,449.58
Interest earned
2,499.58
2,626.58
3,041.58Less:
2,841.58
2,826.58
NSF cheque plus s/c
Cheque printing charge
1,904.58
485.00
8.42
30.00
23.00
2,796.58
2,676.58
2,541.58
2,550.00
Introductory Accounting
493.42
2,398.00
53.00
2,345.00
The items that show
up only on the cash
receipts or cash
disbursements journal
are reconciling items
on the bank side of the
bank reconciliation.
SAP 2007 / SAP University Alliances
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
15
16
31
$
100.00
150.00
145.00
815.00
(101)
Cash Disbursements Journal
Cheque #
Amount
119
$
55.00
120
200.00
121
120.00
122
70.00
123
25.00
124
150.00
125
15.00
126
200.00
127
50.00
128
135.00
$
1,020.00
(101)
Introductory Accounting
Cash Receipts Journal
Deposit
Date
Amount
Oct 3 $
240.00
9
180.00
15
16
31
SAMPLE COMPANY
Bank Reconciliation
October 31, 2005
Bank Balance
Add:
Deposit in transit
Less: Outstanding cheques
No. 124
No. 126
SAP 2007 / SAP University Alliances
$
100.00
150.00
145.00
815.00
(101)
$ 2,550.00
145.00
2,695.00
$ 150.00
200.00
350.00
$ 2,345.00
Cash Disbursements Journal
Cheque #
Amount
119
$
55.00
120
200.00
121
120.00
122
70.00
123
25.00
124
150.00
125
15.00
126
200.00
127
50.00
128
135.00
$
1,020.00
(101)
Introductory Accounting
The Final Product
SAMPLE COMPANY
Bank Reconciliation
October 31, 2005
Bank Balance
Add:
Deposit in transit
$ 2,550.00
145.00
2,695.00
Less: Outstanding cheques
No. 124
$ 150.00
No. 126
200.00
350.00
Adjusted bank balance
$ 2,345.00
SAP 2007 / SAP University Alliances
Book Balance
Add: Collection of $500 note
less $15 collection fee
Interest earned
$ 1,904.58
$ 485.00
8.42
493.42
2,398.00
Less:
NSF cheque plus s/c
Cheque printing charge
Adjusted book balance
30.00
23.00
Introductory Accounting
53.00
$ 2,345.00
Recording Adjusting Entries from the Bank
Reconciliation
We journalize the items not previously recorded in the accounting records.
GENERAL JOURNAL
Date
Description
2005
Oct. 31 Cash
Collection expense
Notes Receivable
Page 8
PR
Debit
Credit
485.00
15.00
500.00
To record collection by bank
Oct. 31 Cash
Interest earned
8.42
8.42
To record collection by bank
SAP 2007 / SAP University Alliances
Introductory Accounting
Recording Adjusting Entries from Bank
Reconciliation
GENERAL JOURNAL
Date
Description
2005
Oct. 31 Accounts Receivable - Heflin
Cash
Page 8
PR
Debit
Credit
30.00
30.00
To record NSF cheque plus s/c
Oct. 31 Office supplies expense
Cash
23.00
23.00
To record cheque printing charge
SAP 2007 / SAP University Alliances
Introductory Accounting
Recording Adjusting Entries from Bank
Reconciliation
After posting the reconciling entries the cash
account looks like this . . .
GENERAL LEDGER
Account:
Cash
Date
Item
Acct. No.
PR
Debit
Credit
101
Balance
DR (CR)
2005
Oct.
31
31
31
31
31
Balance
Adjusting entry
Adjusting entry
Adjusting entry
Adjusting entry
G8
G8
G8
G8
485.00
8.42
30.00
23.00
1,904.58
2,389.58
2,398.00
2,368.00
2,345.00
Adjusted balance on October 31.
SAP 2007 / SAP University Alliances
Introductory Accounting
Acid Test Ratio
A measure of a company’s liquidity.
Similar to current ratio but excludes
less liquid assets.
Ratio will vary from industry to
industry.
SAP 2007 / SAP University Alliances
Introductory Accounting
Acid Test Ratio
Quick assets*
Acid Test Ratio =
Current liabilities
* cash, short-term investments, and receivables
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Flow Statement
Reports detailed information about the cash
inflows and outflows during a period.
Cash flows are classified as operating, investing,
and financing activities.
Helps users to evaluate the liquidity and solvency
of a business and its ability to generate cash from
internal sources.
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Flow Statement
Helps users answer questions such as:
• How does a company obtain its cash?
• Where does a company spend its cash?
• What is the change in the cash balance?
Details the difference between the
beginning and ending balances of cash and
cash equivalents.
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Equivalents
Are investments that must be:
• Readily convertible to a known
amount of cash, and
• Sufficiently close to maturity date so
its market value is not significantly
affected by changes in interest rates.
SAP 2007 / SAP University Alliances
Introductory Accounting
Classifications of Cash Flows
Operating Activities
•The principal revenueproducing activities of
the enterprise.
SAP 2007 / SAP University Alliances
Introductory Accounting
Classifications of Cash Flows
Operating Activities
Investing Activities
• The acquisition and disposal of
long-term assets and other
investments that are not classified
as cash equivalents.
SAP 2007 / SAP University Alliances
Introductory Accounting
Classifications of Cash Flows
Operating Activities
Investing Activities
Financing Activities
• Those activities that affect a
company’s owners and creditors.
SAP 2007 / SAP University Alliances
Introductory Accounting
Operating Activities
Inflows include:




Receipts from customers.
Cash dividends received.
Interest from borrowers.
Other.
Outflows include:





Salaries and wages.
Payments to suppliers.
Taxes and fines.
Interest paid to lenders.
Other.
SAP 2007 / SAP University Alliances
Cash
Flows
from
Operating
Activities
Introductory Accounting
Investing Activities
Inflows from:
•Selling long-term productive assets.
•Selling equity investments.
•Collecting of principal on loans.
•Other.
Outflows to:
• Purchase long-term productive
assets.
• Purchase equity investments.
• Purchase debt investments.
• Make loans.
SAP 2007 / SAP University Alliances
Cash
Flows
from
Investing
Activities
Introductory Accounting
Financing Activities
Inflows from:
Issuing
its own equity securities.
Issuing
bonds and notes.
Issuing
temporary and longterm liabilities.
Outflows to:
 Pay dividends to shareholders.
 Purchase treasury shares.
 Repay cash loans.
 Cover withdrawals by owners.
SAP 2007 / SAP University Alliances
Cash
Flows
from
Financing
Activities
Introductory Accounting
Non-Cash Investing and
Financing Activities
Items requiring separate
disclosure include:
• Retirement of debt by issuing equity
securities.
• Conversion of preferred shares to
common shares.
• Leasing of assets in a capital lease
transaction.
SAP 2007 / SAP University Alliances
Introductory Accounting
Format of Statement of Cash Flows
COMPANY NAME
Statement of Cash Flows
Period Covered
Cash flows from operating activities:
[List of individual inflows and outflows]
Net cash provided (used) by operating activities
Cash flows from investing activities:
[List of individual inflows and outflows]
Net cash provided (used) by investing activities
Cash flows from financing activities:
[List of individual inflows and outflows]
Net cash provided (used) by financing activities
Net increase (decrease) in cash
Cash (and equivalents) balance at beginning of period
Cash (and equivalents) balance at end of period
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$ ###
###
###
$ ###
###
$ ###
Introductory Accounting
Preparing the Cash
Flow Statement
Steps:
• Calculate net increase or decrease in cash and
cash equivalents.
• Calculate and report net cash inflows (outflows)
from:
• Operating activities.
• Investing activities.
• Financing activities.
Reconcile change in cash balance.
SAP 2007 / SAP University Alliances
Introductory Accounting
Operating Activities
Cash flows may be calculated using either
the direct method or the indirect method.
The direct method is recommended by the
CICA.
However, the indirect method is used more
frequently.
SAP 2007 / SAP University Alliances
Introductory Accounting
Direct Method of Reporting Operating
Cash Flows
Revenue
or
Expense
SAP 2007 / SAP University Alliances
Adjustments for
Changes in Related
Balance Sheet Accounts
Cash Receipts
or
Cash Payments
Introductory Accounting
Revenue
or
Expense
Cash received
from customers
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Adjustments for
Changes in Related
Balance Sheet Accounts
= Sales
Cash Receipts
or
Cash Payments
- Increase in A/R
{+
Decrease in A/R
Introductory Accounting
Cash Received from Customers
Question:
The balance in A/R was $50,000 on 1/1/05 and
the balance was $65,000 on 12/31/05. If total sales
revenue for 2005 was $900,000, then how much
cash was received from customers?
a. $800,000
b. $760,000
c. $812,000
d. $885,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Received from Customers
Question:
The balance in A/R was $50,000 on 1/1/05 and
the balance was $65,000 on 12/31/05. If total sales
revenue for 2005 was $900,000, then how much
cash was received from customers?
a. $800,000A/R increased $15,000 during 2005.
Subtract increases in A/R during
b. $760,000 2005
from total revenues to arrive
at cash collected from customers.
c. $812,000 $900,000 - $15,000 = $885,000
d. $885,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Received from Customers
This would appear in the operating section as follows:
Cash flows from operating activities:
Cash received from customers……………$885,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Paid for Merchandise
Step 1
Purchases = COGS
Step 2
Cash paid for
merchandise
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{
+ Increase in inventory
- Decrease in inventory
= Purchases
{
+ Decrease in A/P
- Increase in A/P
Introductory Accounting
Cash Paid for Merchandise
Question:
How much did the company pay for inventory in
2005?
Inventory, 1/1/05
Inventory, 12/31/05
COGS, 12/31/05
a. $900,000
$140,000
$175,000
$850,000
A/P, 1/1/05
A/P, 12/31/05
b.
$923,000
c. $883,000 d.
$877,000
SAP 2007 / SAP University Alliances
$33,000
$50,000
Introductory Accounting
Cash Paid for
Merchandise
Question:
How much did the company pay for inventory in
2005?
Inventory, 1/1/05
Inventory, 12/31/05
COGS, 12/31/05
a.
b.
c.
d.
$140,000
$175,000
$850,000
A/P, 1/1/05
A/P, 12/31/05
$33,000
$50,000
$900,000Purchases for 2005 were $900,000.
$923,000
Purchases = $850,000 + $50,000
Cash Paid for Merchandise in 2005
$883,000was $883,000.
$877,000
SAP 2007 / SAP University Alliances
Cash Paid = $900,000 - $17,000
Introductory Accounting
Cash Paid for Merchandise
This would appear in the operating section as follows:
Cash flows from operating activities:
Cash paid for merchandise..……………$883,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Wages and Operating Expenses
The cash paid for wages and other operating
expenses is affected by
(1) whether the expense was prepaid, and
(2) whether the expense was accrued.
Cash paid for
wages and
other operating
expenses
=
SAP 2007 / SAP University Alliances
Wages
and other
operating
expenses
+ Increase in
prepaid expenses
- Decrease in
prepaid expenses
{
+ Decrease in
accrued liabilities
{
- Increase in
accrued liabilities
Introductory Accounting
Cash Paid for Interest and Taxes
Interest
{
Cash
Interest + Decrease in interest payable
Paid = Expense - Increase in inventory
Taxes
Cash Income Tax
Paid = Expense
SAP 2007 / SAP University Alliances
{
+ Decrease in taxes payable
- Increase in taxes payable
Introductory Accounting
Direct Method Amortization Expense
Amortization Expense
• Operating cash flows are not
involved.
• Therefore, amortization is not
disclosed in the Statement of
Cash Flows using the direct
method.
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Flows from
Investing Activities
Steps:
Identify changes in investing related accounts.
Explain these changes using reconstruction analysis.
Report cash flow effects.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Cash flows from investing activities
A company sells equipment costing $85,000 with
accumulated amortization of $55,000 at a loss of
$10,000. What is the cash receipt from the sale and
how would this be reported on the statement of
cash flows?
Loss on
= Net Book Value - Proceeds
Disposal
$10,000
= ($85,000 - $55,000) - Proceeds
Proceeds = $20,000
SAP 2007 / SAP University Alliances
Introductory Accounting
This would appear in the investing section as follows:
Cash flows from investing activities:
Cash received from sale of equipment……$20,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Flows from
Financing Activities
Steps:
Identify changes in notes payable, non-current liabilities,
and equity accounts.
Analyze these changes to determine the effects on cash.
Report cash flow effects.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Cash flows from financing activities
An analysis of the retained earnings account reveals
that the company declared $27,000 in share dividends
and paid $28,000 in cash dividends.
Share dividends do not involve cash and are recorded
as a transfer from retained earnings to contributed
capital.
The cash dividends do involve cash and appear on the
statement of cash flows as follows:
Cash flows from financing activities:
Cash paid for dividends………………………$28,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Cash Flows from
Operating Activities — Indirect Method
This method:
Yields the same net cash inflows (outflows) from operating
activities as the direct method.
Does not report individual operating cash inflows or outflows.
Adjusts net income to determine cash inflows (outflows) from
operating activities.
SAP 2007 / SAP University Alliances
Introductory Accounting
Indirect Method
This method begins with net income and
makes adjustments for:
Changes in non-cash current assets and current
liabilities.
Operating items not providing or using cash.
Gains and losses resulting from investing and
financing activities.
SAP 2007 / SAP University Alliances
Introductory Accounting
Adjustments
Non-cash Current Assets
• Decreases are added to net income.
• Increases are subtracted from net
income.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Changes in non-cash current assets
A review of a company’s year-end financial statements
revealed that Accounts Receivable was $148,000 in 2004
and $113,000 in 2005. Inventory was $305,000 in 2004
and $320,000 in 2005. Net income for 2005 was
$275,000.
This would be reported as:
Cash flows from operating activities:
Net income……………..………………………$275,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Decrease in accounts receivable…………….35,000
Increase in inventory………………………….(15,000)
SAP 2007 / SAP University Alliances
Introductory Accounting
Adjustments
Non-cash Current Liabilities
• Increases are added to net income.
• Decreases are subtracted from net
income.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Changes in Non-cash Current Liabilities
A review of a company’s year-end financial statements
revealed that Accounts Payable was $165,000 in 2004
and $126,000 in 2005. Interest payable was $28,000 in
2004 and $39,000 in 2005. Net income for 2005 was
$265,000.
This would be reported as:
Cash flows from operating activities:
Net income……………..………………………$265,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Decrease in accounts payable…………..….(39,000)
Increase in interest payable…………………. 11,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Adjustments
Operating Items Not Providing or
Using Cash
• Expenses with no cash outflows are
added back to net income.
• Revenues with no cash inflow are
subtracted from net income.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Operating items not providing or using cash
Amortization expense is an non-cash expense that is
used in the computation of net income. In order to
compute cash from operating activities we must add it to
net income. Assume a company has a net income of
$122,000 and amortization expense of $26,000.
This would be reported as:
Cash flows from operating activities:
Net income……………..………………………$122,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Amortization expense………..…………..…. .26,000
SAP 2007 / SAP University Alliances
Introductory Accounting
Adjustments
Non-Operating Items
• Non-operating losses are added
back to net income.
• Non-operating gains are subtracted
from net income.
SAP 2007 / SAP University Alliances
Introductory Accounting
Illustration: Non-operating items
Net income may include gains or losses that are not
operating activities. These items are removed from the
operating section. Assume a company reported net
income of $105,000 which included a $26,000 loss on the
sale of a piece of equipment.
This would be reported as:
Cash flows from operating activities:
Net income……………..……………………….$105,000
Adjustments to reconcile net income to
net cash provided by operating activities:
Loss on the sale of equipment…………..… .26,000
SAP 2007 / SAP University Alliances
Introductory Accounting