FFA_3e_Solutions_ch05.doc

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Department
Administrative Studies
Course
ADMS 2510
Professor
John Parkinson
Semester
Fall

Description
CHAPTER 5 Cash Flow, Profitability, and the Cash Flow Statement EXERCISES E5-1. a. Payables deferral period (goods received - suppliers paid) 45 days b. Inventory self-financing period (supplier paid - cash collected) Average time fabric held in inventory (5 x 30) 150 days Average time from first appointment to delivery 35 days Average time from delivery to customer payment 15 days Less: Payables deferral period (from part a) (45 days) 155 days c. Inventory conversion period (goods received – inventory sold): Average time fabric held in inventory 150 days Average time from first appointment to delivery 35 days 185 days d. Receivables conversion period (inventory sold – cash collected) 15 days e. Number of days between receiving inventory from suppliers and receiving cash from customers: Inventory conversion period 185 days Receivables conversion period 15 days 200 days E5-3. a. Reported net income $150,000 Add: depreciation expense 22,000 Cash from operations $172,000 b. Original reported net income $150,000 Add: original depreciation expense 22,000 Deduct: new depreciation expense (33,000) New reported net income $139,000 Add: new depreciation expense 33,000 New cash from operations $172,000 The only difference between the two scenarios is the accrual net income, which is a result of differing amounts of depreciation expense. Since depreciation is a non-cash item and all other revenues and expenses in both scenarios were in cash, cash from operations is the same under both scenarios. Copyright © 2007 McGraw-Hill Ryerson Ltd. 1 E5-5. Item Classification Increase/Decrease a No effect - b Operating Decrease c Operating Increase d Financing Increase e No effect - f Operating Decrease Under GAAP for private companies. If IFRS is used can also be Financing; decrease g No effect - h Investing Decrease i Operating Decrease j Financing Increase k Financing Decrease l Financing Decrease Under IFRS dividend payments can also be classified as operating m No effect - Treasury bills are considered a cash equivalent n Investing Decrease Due to the long maturity period this would be considered an investment o No effect - No cash is involved in this transaction (land exchanged for a mortgage. Only transactions involving cash are reported on the cash flow statement. p Operating Increase E5-7. a. The sale of oil by Basanti is an operating cash flow as it’s within the entity’s normal operations. The item would represent a cash inflow of $500,000 as Basanti has received money for the oil. b. The cash received from the sale of drilling equipment is an investing cash flow as drilling equipment is a capital asset and Basanti’s business isn’t selling equipment. As Basanti has collected money on the sale, there would be a cash inflow of $175,000. In addition, when using the indirect method, the $54,000 loss should be added to net income when determining cash from operations. The reason is that (1) the cash effect of the sale is an investing activity on the cash flow statement, and (2) the loss isn’t a cash flow; it’s the difference between proceeds if sale and the carrying amount of the asset. If the loss isn’t removed from net income when determining cash from operations, a $54,000 understatement will result. Copyright © 2007 McGraw-Hill Ryerson Ltd. 2 c. Drilling rights are capital assets and therefore would be considered an investing cash flow. The cash payment represents an outflow of $250,000. d. Maintenance performed on drilling equipment is an operating cash flow as it’s a normal expense that occurs in the course of operations. The item represents a cash outflow of $12,000. e. There would be no effect on cash flows as no cash has changed hands. When the government is paid the outlay would be considered an operating cash outflow. f. Under GAAP for Private Enterprises dividends are a financing cash flow as they are payments made to individuals who invested in the company. Under IFRS managers can choose to classify dividend payments as operating or financing activities. The payment represents an outflow of $100,000. g. Interest paid is considered an operating cash flow under GAAP for Private Enterprises. Under IFRS managers can choose to classify interest payments as operating or financing activities. Regardless of the method used, the item represents a cash outflow of $20,000. E5-9. Change $222,00 Net income $222,000 0 Accounts receivable on January 1, 2015 595,000 Accounts receivable on December 31, 2015 520,000 (75,000) Inventory on January 1, 2015 975,000 Inventory on December 31, 2015 910,000 (65,000) Accounts payable on January 1, 2015 640,000 Accounts payable on December 31, 2015 595,000 (45,000) Depreciation expense 310,000 310,000 Joggins Inc. Cash From Operations - Indirect Method For the Year Ended 2015 Cash From Operations: $222,00 Net Income 0 Adjustments for none cash items: Add: Depreciation $310,000 310,000 Changes in non-cash current operating accounts: Add: Decrease in accounts receivable 75,000 Add: Decrease in inventory 65,000 Less: Decrease in accounts payable (45,000) 95,000 Copyright © 2007 McGraw-Hill Ryerson Ltd. 3 $627,00 Cash From Operations 0 Net income is comprised of both cash flows, deferrals, and accruals. Thus net income includes items that don’t represent cash flows. Cash from operations includes only transactions that involved operating cash inflows or outflows. E5-11. Quesnel Ltd. Cash Flow Statement For the Year Ended December 31, 2014 Cash From Operations: Net Income ($151,300) Adjustments for non-cash items: Depreciation (add) $75,000 Gain on sale of land (subtract) (14,000) 61,000 Changes in non-cash working capital Increase in accounts receivable (18,000) Decrease in inventory 33,000 Increase in prepaids (3,000) Decrease in accounts payable (12,200) Decrease in taxes payable (4,500) (4,700) Cash From Operations: (95,000) Investing Activities: Sale of land 168,000 Purchase of long-term investments (50,000) Purchase of property, plant, and equipment (275,000) Cash from Investing Activities (157,000) Financing Activities: New bank loans 250,000 Issuance of common shares 80,000 Issuance of long-term debt 125,000 Retirement of long-term debt (165,000) Dividends (22,000) Cash from Financing 268,000 Cash flow for the year (Change in cash) 16,000 Cash from Beginning (2014) 52,000 Change in Cash–cash flow for year 16,000 End Cash balance (2014) $68,000 E5-13. Copyright © 2007 McGraw-Hill Ryerson Ltd. 4 2015 2014 Change Accounts receivable $88,000 $77,500 $10,500 Accounts payable $410,000 Inventory 312,500 285,500 27,000 Wages payable Prepaids 12,000 20,000 (8,000) Taxes payable Interest payable Total current operating assets $412,500 $383,000 $29,500 Total current operating liabilities $566,250 Yahk Ltd. Cash From Operations–Indirect Method For the Year Ended December 31, 2015 Cash From Operations: $57,0 Net Income 00 Adjustments for non-cash items: $70,0 Add: depreciation 00 Deduct: Gain on sale of (33,0 37,00 equipment 00) 0 94,00 0 Changes in non-cash working capital Deduct: increase in (10,5 accounts receivable 00) Deduct: increase in (27,0 inventory 00) Add: decrease in prepaids 8,000 Deduct: decrease in (40,5 accounts payable 00) Add: increase in wages payable 8,500 Deduct: decrease in taxes (10,0 payable 00) Add: increase in interest 10,25 (61,2 payable 0 50) $32,7 Cash From Operations: 50 b. There are three reasons why cash from operations isn’t the same as net income for 2015. The first is the depreciation expense, which decreases accrual net income but has no effect on cash. Second, the gain on the sale of equipment, which reflects the difference between carrying amount and the amount received, but not the actual cash effect of the transaction (the cash flow is reported in the investing Copyright © 2007 McGraw-Hill Ryerson Ltd. 5 section).The third reason is the changes in the non-cash working capital on the balance sheet. The associated revenues and expenses on the income statement, which determine accrual net income, reflect economic flows but not necessarily cash flows from the underlying transactions. E5-15. (1) (2) (3) (4) Transactions and Transactions and Ending Beginning economic events that economic events that balance in the = balance in the + increase the balandecrease the balance in account account the account the account (Credit sales) (Cash collections) Inventory Cost of Ending = Beginning + Purchases - goods sold 59,000 65,000 ? 525,000 519,000 Accounts Payable Credit Cash paid End = Beginning + Purchases - to suppliers 72,000 54,000 519,000 ? 501,000 E5-17 This exercise is tricky because the change unearned revenue has to be taken into consideration. The decrease in unearned revenue in this solution is assumed to be recognized as revenue in 2014 and the remaining amount ($27,400,000 – $70,000) is credit sales Accounts Receivable Ending = Beginning + Credit sales - Cash collections 3,392,00 0 3,225,000 27,400,000 –70,000 ? 27,163,000 Copyright © 2007 McGraw-Hill Ryerson Ltd. 6 PROBLEMS P5-1. P5-1 a. Inventory Ending = Beginning + Purchases - Cost of goods sold ? 450,000 1,330,000 1,520,000 260,000 b. Accounts Receivable Cash Ending = Beginning + Credit Sales - Collected 1,750,000 1,500,000 ? 4,900,000 5,150,000 c. Development costs New Amortization Ending = Beginning + Costs - Expense 422,000 333,000 ? 62,000 151,000 d. Wages payable Wages Wages Ending = Beginning + Expense - Paid 121,000 ? 1,400,000 1,320,000 41,000 e. Inventory Credit Cost of Ending = Beginning + Purchases - goods sold 1,600,000 2,000,000 ? 9,200,000 8,800,000 Accounts Payable Credit Cash paid Ending = Beginning + purchases - to suppliers 1,400,000 1,700,000 8,800,000 ? 9,100,000 Copyright © 2007 McGraw-Hill Ryerson Ltd. 7 P5-3. Cash from operations: Cash from operations is likely negative (or at least lower than last year) as sales are decreasing due to the economy, some customers may not be paying their receivables (again, if the economy is failing, the amount collected from customers may decrease due to customers becoming insolvent or simply taking longer to pay) and operating expenses have remained fairly level: there is a steady cash outflow and declining inflows. Cash from investing: Cash from investing is likely positive as the sale of land would generate a cash inflow and all capital expenditures (outflows) have been delayed. The fact that there was a loss on the land is irrelevant as the loss represents the excess of carrying amount over the proceeds from the sale and doesn’t impact cash flows. Cash from financing: Cash from financing was likely negative because Pasadena had to repay a bank loan (a cash outflow) but was unable to obtain new debt financing. Pasadena was able to raise some cash by issuing share so it’s possible that cash from financing is positive or has increased depending on the amount raised through share issuances versus the amount paid to the bank. The most likely scenario however, is that more was paid to the bank than was raised through share issuances since cash reserves have decreased 50% thus cash from financing is probably negative (the cash reserves could have been used to help repay the loan). P5-5. The pattern in the cash flow statement, where CFO and investing activities are negative (cash outflows) and financing activities are positive (cash inflows) suggests Viewmont Inc. (VI) is a new or fast growing company possibly in its development phase. The probable cause for the negative CFO is that VI is building up inventory and supplies and they are incurring other period and start up costs such as prepaid rent and employee wages, but it’s not yet generating enough revenue to cover the operating costs. The cash outflow from investing activities is due to spending on manufacturing assets, such as the purchase and installation of machinery and equipment. The cash inflows to pay for the start up or expansion are coming from loans and equity investments, thus the positive cash from financing activities. The fact that VI is able to raise financing suggests confidence by investors that they will be paid back (in the case of lenders) and that they will earn a return on their investment (in the case of equity investors). The fact that VI is investing in capital assets despite negative CFO suggests a need for new or additional equipment to operate and compete. Another interpretation could be that VI is currently uncompetitive because of outdated equipment (which explains the negative CFO and the investment in capital assets) but it’s in a good enough situations that investors are still willing to invest. P5-7. The pattern in the cash flow statement, where investing and financing activities are negative (cash outflows) and CFO is positive (cash inflows), suggests Dunvegan Ltd. is a mature stable company. It’s replacing old equipment and/or buying new more technological machines is most likely the cause for the negative amount in investing Copyright © 2007 McGraw-Hill Ryerson Ltd. 8 activities. CFO is more than enough to cover the cost of the new equipment. With the remaining CFO, Dunvegan Ltd is able pay off debt, buy back shares, or pay dividends. These outflows cause a negative cash flow in financing activities. P5-9. Winkler Ltd. Cash Flow Statement For the Year Ended July 31, 2015 Cash From Operations: Net Income $485,000 Adjustments for non-cash items: Depreciation $1,150,000 Loss on the sale of capital assets 125,000 Write-down of assets 265,000 1,540,000 2,025,000 Changes in non-cash working capital Add: Decrease in accounts receivable 98,000 Increase in accounts payable 78,000 Deduct: Increase in inventory (101,000) Increase in prepaids (9,000) Decrease in taxes payable (35,600) 30,400 Cash From Operations: 2,055,400 Investing Activities: Purchase of long-term investments (422,000) Proceeds from the sale of capital assets 758,000 Purchase of capital assets (900,000) Cash from Investing Activities (564,000) Financing Activities: New bank loans 325,000 Repayment bank loans (410,000) Issuance of common shares 888,000 Issuance of long-term debt 175,000 Retirement of long-term debt (1,100,000) Dividends (1,000,000) (1,122,000 Cash from Financing ) Cash flow for the year (Change in cash) $369,400 Cash from Beginning (2014) $1,250,000 Change in Cash - cash flow for year 369,400 End Cash balance (2015) $1,619,400 Copyright © 2007 McGraw-Hill Ryerson Ltd. 9 P5-11. a. 2014 2013 Change $111,75 Accounts receivable $320,250 $208,500 0 Inventory
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