A3 Statement of Change in Equity and BS
Indirect method: Common adjustments to net income to arrive at operating cash flow are:
- Add back non-cash expenses such as depreciation, amortization, and stock compensation. - Remove non-operating gains (subtract) and losses (add) such as gains and losses on investments or property and equipment. - Adjust for the changes in operating assets and liabilities such as accounts receivable, inventory, prepaid assets, accounts payable, accrued liabilities, interest payable, and taxes payable. Increases in operating assets AND decreases in operating liabilities are subtracted. Decreases in operating assets AND increases in operating liabilities are added.
Key BS disclosures include
- Significant accounting policies (- Any securities classified as cash equivalents, - Inventory valuation method and cost flow assumptions, - Method of depreciation) - Significant estimates made within the accounts - Amounts within major classes of inventory (i.e., raw materials, work in process, finished goods) - Gross amounts within major classes of fixed assets property and equipment (i.e. furniture, equipment, buildings, land) and accumulated depreciation for each - Components of deferred tax assets and liabilities - Expected annual principal payments on debt for the next five years and all amounts due thereafter - Sinking fund provisions for bonds - Par values and contractual provisions for preferred stock and common stock - Details about employee stock compensation programs - Significant commitments or contingencies not recorded in the balance sheet - Other information as may be needed for a full understanding of the items reported in the balance sheet
Supplemental disclosures are required for the cash flow statement
1. Cash paid for interest 2. Cash paid for taxes 3. Significant non-cash investing and financing transactions (e.g., the issuance of bonds for the purchase of a building)
In general, assets are reported on the balance sheet at historical cost. What are 3 exception?
1. is when the asset's value has permanently been reduced (impaired). 2. is for trading securities and available-for-sale securities, which are recorded at market value. 3. is for fixed assets, which are recorded at depreciated cost.
How does the classification of a cash equivalent differ from the classification of a current asset?
A cash equivalent is an investment that will be turned into cash within three months or less, whereas a current asset will be turned into cash within one year or within one operating cycle, whichever is longer. Cash equivalents are investments with original maturities of 3 months or less that are highly liquid and easy to sell. They will be turned into cash within three months or less. They are a type of current asset. Current assets are assets that are expected to be used or converted into cash within one year or one operating cycle, whichever is longer.
Accounts receivable decreased from $70,000 on December 31, year 2 to $60,000 on December 31, year 3.
A decrease of $10,000 in accounts receivable would be reported as a $10,000 increase in the operating section of the statement of cash flows.
Which of the following would cause a reduction in stockholders' equity on the balance sheet?
A deficit in retained earnings. A deficit in retained earnings means dividends paid exceeds income earned over the company's life. It is a form of negative equity, meaning it is a reduction in stockholders' equity.
Delgado Corp. purchased some common stock from Keller Enterprises. Delgado plans to hold this stock for a minimum of five years, although they could sell it sooner if they need to. How do you expect Delgado to classify the stock on their balance sheet?
A long-term investment is a type of asset. Assets arise when a company owns or controls something that is expected to provide future economic benefit. Purchasing stock results in an asset since the stock could be sold for cash in the future. Assets are considered long-term when the benefits are expected beyond one year. Since Delgado is not expecting to sell the stock anytime soon, it is classified as "available for sale," not "trading." Because the expected sale date is beyond one year, it is a long-term investment.
Current liabilities
Accounts payable, accrued expenses (wages, utilities, rent, etc.), deferred revenue, principal portions of long-term debt due in the coming year, and other liabilities expected to be settled with cash or other current assets within one year (or the operating cycle if longer) are classified
Wilson Industries holds a number of government securities. $10,000 of these securities have a one-year maturity date, while $4,000 have an 18-month maturity date. Wilson prepares a classified balance sheet using a 2-year operating cycle. How should these securities be classified?
All $14,000 in government securities should be classified as current assets. Assets are classified on the balance sheet as either current or long-term depending on when they are expected to be used or converted into cash. Assets expected to be used or converted into cash within 12 months or one operating cycle (whichever is longer) are classified as current assets. All other assets are classified as long-term assets. Since the operating cycle is 2 years, that is the "dividing line" between current and long-term. All $14,000 of the securities are classified as current assets since they mature within the 2-year operating cycle
Anders Industries currently holds two debts: an $11,000 debt due in 12 months and a $16,000 debt due in 18 months. Anders prepares a classified balance sheet using an 18-month operating cycle. How should these debts be classified?
All $27,000 in debt should be classified as current liabilities. Liabilities expected to be satisfied within 12 months or one operating cycle (whichever is longer) and satisfied using current assets are classified as current liabilities. Since the operating cycle is 18 months, that is the "dividing line" between current and long-term. Both liabilities are current liabilities because they will be satisfied within 18 months.
Additional Paid-In Capital
Amount received by the organization for stock over the par value of the shares (no par - no to this account) Can be affected by various equity transactions, including stock dividends, resales of treasury stock, and issuance of options and warrants.
How does a corporation recognize a deficit in retained earnings?
As a reduction in stockholders' equity on the balance sheet. A deficit in retained earnings means there is a negative balance in retained earnings. This happens when net losses and dividend payments over a company's life exceed net income over the company's life. Since it is negative equity, it is shown on the balance sheet as a reduction in stockholders' equity on the balance sheet.
Holden Company purchased 150 acres of land on the outer edge of a growing city. Holden expects the value of this land to appreciate by 500% over the next three years. How would you expect Holden to report the value of this land on their balance sheet?
At historical cost In general, assets are reported on the balance sheet at historical cost. One exception is when the asset's value has permanently been reduced (impaired). A second is for trading securities and available-for-sale securities, which are recorded at market value. A third exception is for fixed assets, which are recorded at depreciated cost. The land in this question does not fit any of these exceptions.
Which of the following should be disclosed in the summary of significant accounting policies?
Basis of consolidation. The summary of significant accounting policies should encompass those accounting principles and methods that involve a selection from existing acceptable alternatives (or are peculiar to the industry in which the entity operates)
Deferred Tax Liabilities
By definition are non-current liabilities.
Claire and David hold stock in two different companies, but both recently received additional shares of common stock rather than a cash dividend. After receiving the additional stock, the par value of Claire's stock decreased by 67%, but the par value of David's stock remained the same. What is the difference between the stock that Claire and David received?
Claire received a stock split, and David received a stock dividend. Stock splits and stock dividends both increase the number of shares of stock a firm has outstanding. Neither results in any change in total equity. One difference is that par value per share decreases with stock splits while remaining unchanged with stock dividends. Since the par value per share of Claire's stock decreased, she must have received a stock split. Since the par value per share of David's stock remained the same, he must have received a stock dividend.
ABC repurchases 100 of $1 par value shares for $5 per share, recording entry would be
DR TS - $500 (contra equity account - reduces equity) CR Cash - $500
Which of the following are both significant noncash activities?
Direct issuance of common stock to purchase assets and direct issuance of debt to purchase assets ignificant noncash activities are transactions where cash does not change hands but are nonetheless significant to the company. Significant noncash activities are disclosed in a schedule to accompany the statement of cash flows. The direct issuance of common stock to purchase assets and the direct issuance of debt to purchase assets are both significant noncash activities because no cash changes hands in either transaction
Cash received from the issuance of bonds
Financing
Dividends paid to preferred shareholders
Financing
McCarthy Corp. is issuing its first financial statements. The CFO of the company is of the view that all assets shall be recorded at historical cost throughout the life of the organization. Which of the following is the best critique of such a disclosure?
Historical value is less relevant for assessing a company's current financial position. Most asset accounts of a nonfinancial nature are reported at historical cost. While historical cost measures are considered reliable because the amounts can be verified, they are also considered less relevant than fair value or current market value measures would be for assessing a firm's current financial position.
The statement of changes in equity is the bridge between
IS and BS
statements that would include Gain on Sale of Equipment
Income Statement Statement of Cash Flows
Other Comprehensive Income Items
Increase/Decrease accumulated other comprehensive income each year when OCI accounts are closed
Cash received from the sale of property and equipment
Investing
Small stock dividend
Less than 20-25% of the number of shares outstanding. - Retained earnings is reduced for the fair value of the stock being issued, - common stock is increased for the par value of the stock issued, and - the difference is included in additional paid-in capital.
long-term liabilities
Liabilities due after one year (or the operating cycle if longer), lt debt such as bonds or bank debt, are classified as long-term. In addition, deferred tax liabilities are considered long-term liabilities by definition.
Interest payments received
Operating
Payments received from customers
Operating
the change in cash is broken down into three categories of cash flows
Operating Investing Financing
Cash payment on a mortgage loan
Part operating (interest), part financing (principal)
Non-current assets
Property and equipment, AFS investments (maybe reclassfied to current, if plans to divest), intangible assets, and other assets expected to benefit the company for longer than one year (or the operating cycle if longer) are classified as
How would the declaration of a 10% stock dividend by a corporation affect each of the following on its books?
RE - decrease; Total SE - no impact Regardless of the size of a stock dividend, RE is decreased and other SE accounts are increased. Since the dividend described in this question is small (< 20%-25% of the outstanding shares), the journal entry would be: DR RE at FV CR CS dividend distributable at par CR APIC - plug Accordingly, RE will decrease and, since all affected accounts are elements of SE, total SE will not change. Note that the entry for a large stock dividend would be: DR RE at par CR CS dividend distributable at par
Which of the following is true of disclosure requirements of accounts receivable?
Receivables should be reported net of any valuation accounts on the balance sheet.
Investing Cash Flow
The cash flows associated with longer term investing activities of the organization. Generally, this would include cash outflows for purchases of property and equipment and other investments, and cash inflows from the sale of these same items. The non-operating assets, usually long-term assets, of the organization should be analyzed to support the preparation of the investing section.
Financing Cash Flow
The cash flows associated with the financing strategy of the company. Generally, this would include cash inflows from borrowings (bank or bond), cash inflows from the sale of stock (common or preferred), cash outflows from the principal repayments on debt, cash outflows from purchasing treasury stock, and cash payment of dividends to owners. The non-operating liabilities, usually long-term liabilities, and equity accounts of the organization should be analyzed to support the preparation of the financing section. The statement of changes in equity is particularly helpful in preparing part of this section as it relates to the equity accounts.
Operating Cash Flow:
The cash flows from the central operations of the organization. Generally, this would include cash inflows from customers, cash outflows to employees and suppliers, and cash flows for interest and taxes
What is one major difference between a stock split and a stock dividend?
The par value per share decreases with a stock split but has no change with a stock dividend. Stock splits and stock dividends both increase the number of shares of stock a firm has outstanding. Neither results in any change in total equity. One difference is that par value per share decreases with stock splits while remaining unchanged with stock dividends. Therefore, this is the correct answer
Direct method
This method shows actual gross cash inflows from their sources derived (from customers, from interest) and gross cash outflow for each purpose (to suppliers, for wages, for interest, for taxes). The FASB has stated a preference for this method, but it is rarely used. If the direct method is used, the organization is also required to show the reconciliation of net income to cash flows from operations, effectively requiring both methods to be disclosed.
Treasury stock and a retained earnings deficit will have what effect on stockholders' equity?
Treasury stock is when a company repurchases its own stock. Since issuing stock increases equity, buying it back decreases equity. A deficit in retained earnings means there is a negative balance in retained earnings. This happens when net losses and dividend payments over a company's life exceed net income over the company's life. Since retained earnings increases equity, a deficit decreases equity.
Declaration date of dividends
When a stock dividend is declared, the company must transfer funds from retained earnings to common stock and additional paid-in capital, causing retained earnings to decrease and common stock and additional paid-in capital accounts to increase.
Brendan Bishop Scientific is considering acquiring a new plant and paying for it with common stock at par value. However, the CFO is not in favor of the acquisition. Which of the following is the most likely reason for the CFO's disagreement?
When property, plant, and equipment assets are acquired through the issuance of stock or other securities, the par value of the stock will be inadequate to measure the true cost of the property. Instead, if the stock is being actively traded, its current market value is used. If the stock value cannot be determined because the stock is not actively traded, an estimate of the market value of the property should be made and used as the basis for recording the value of both the asset and the issuance of the stock.
Griffin Industries holds a debt that is due 16 months from now. Griffin prepares a classified balance sheet using an 18-month operating cycle. How would classification of this debt be different if Griffin used a one-year operating cycle?
With the 18-month cycle it is classified as a current liability, while with a one-year cycle it is classified as a long-term liability. Liabilities are classified on the balance sheet as either current or long-term depending on when they are expected to be satisfied. Liabilities expected to be satisfied within 12 months or one operating cycle (whichever is longer) and satisfied using current assets are classified as current liabilities. All other liabilities are classified as long-term liabilities. If the operating cycle is 18 months, the liability is classified as a current liability since it is due in less than 18 months. If the operating cycle is 1 year, the liability is classified as a long-term liability since it is due in more than 1 year.
Wells Enterprises holds a debt that is due 20 months from now. Wells prepares a classified balance sheet using a one-year operating cycle. How would classification of this debt be different if Wells used a two-year operating cycle?
With the one-year cycle it is classified as a long-term liability, while with a two-year cycle it is classified as a current liability. Liabilities expected to be satisfied within 12 months or one operating cycle (whichever is longer) and satisfied using current assets are classified as current liabilities. All other liabilities are classified as long-term liabilities. If the operating cycle is one year, the liability is classified as a long-term liability since it is due in more than 1 year. If the operating cycle is 2 years, the liability is classified as a current liability since it is due in less than 2 years
Dividends paid to shareholders is
a financing activity,
A decrease in inventories would result in
an increase to cash flow in the indirect method of preparing the operating section of the statement of cash flows.
footnote disclosures
are required for a full understanding of of the info in the financial statements
the way to increase the owner's capital account is to
credit it Equity is defined as the owner's interest in the assets of the company. An owner investing her own money in a business is classified as an increase in equity (invested capital) since the owner has a greater interest in the assets of the company after the investment.
The presentation of the major classes of operating cash receipts (such as receipts from customers) less the major classes of operating cash disbursements (such as cash paid for merchandise) is best described as the:
direct method of calculating net cash provided or used by operating activities.
OCI is
equity account
The company repurchasing its own stock (Treasury stock) is
financing activity
current assets
items that can or will be converted into cash within one year: Cash, accounts receivable, inventory, prepaid assets, and other items expected to be realized within one year (or the operating cycle if longer)
Equity accounts are generally presented in order of
liquidation preference with preferred stock first, followed by common stock and additional paid-in capital. Retained earnings and accumulated other comprehensive income are generally presented last in the equity section
For stock dividends 20%-25%
management judgement needs to be applied
Depreciation expense
non-cash: would be a reconciling item in the operating section of the statement of cash flows if the indirect method is used
Equities
represent owner claims to the assets of the organization.
Assets
represent the resources available to the organization for carrying out its purpose. Assets are presented in order of liquidity within two general categories, current or non-current, based upon the period of time the assets are expected to convert to cash.
Liabilities
represent third party claims to the assets of the organization. Liabilities are the amounts owed by the organization to third parties, such as debt, accounts payable, or wages payable. Liabilities are presented in the order they come due within two general categories, current or non-current, based upon the period of time before assets or other resources of the company will be utilized to satisfy the liability.
stock dividend impact
retained earnings decrease because dividends of any kind result in a decrease in retained earnings. This is because a dividend returns capital to owners. At the same time, more shares of stock are issued with a stock dividend. This results in an increase in total paid-in capital. The decrease in retained earnings is equal to the increase in paid-in capital.
Purchase Trillium stock
the Investing Activities Section
The balance sheet is incomplete without
the additional disclosures in the notes to the financial statements. These disclosures help investors understand the key assumptions and methods of accounting used so they can more effectively compare prior periods and assist with comparisons with other companies.
The beginning and ending balances of each equity account on the statement of changes in equity will equal
the balances in the equity accounts on the balance sheet from the previous year (beginning equity balances) and the current year (ending equity balances)
When Treasury Stock is sold for an amount below the repurchase price
the cost is taken out of treasury stock and the difference is taken from additional paid-in capital to the extent it was previously increased for treasury stock transactions. If no additional paid-in capital from treasury stock transactions exists, the difference is taken from retained earnings.
Two methods are used to present the operating section of the cash flow statement:
the indirect method and the direct method
Indirect method
the most common method used. It begins with net income, then reconciles to operating cash flow by adjusting from accrual accounting to cash basis accounting (non-cash adjustments) = Total cash and add beginning cash Balance to come to Ending Cash Balance
The balance sheet shows
the organization's assets, liabilities, and owners' equity as of the end of the period presented. The balance sheet is the only one of the four main financials statements that presents information as of a point in time, rather than over a period of time. assets = liabilities + equity
The statement of cash flows reconciles
the overall change to the organization's cash position over the course of the period presented.
the statement of cash flows is useful for
understanding cash resources and needs of the organization
Ironwood Company's net income is $399,000. During the year accounts receivable increased $196,000 and accounts payable decreased $56,000. Using the indirect method of preparing the statement of cash flows, what amount will be reported as cash provided by operating activities?
$147,000 The starting point for calculating cash flow from operating activities is net income. The increase in accounts receivable is subtracted since credit sales exceeded cash collections. This means net income overstates cash provided by operating activities. The decrease in accounts payable is subtracted since payments for inventory exceeded inventory purchases. This means that cost of goods sold understates cash used to purchase inventory, which means net income overstates cash provided by operating activities. The final result is a net inflow from operating activities of $147,000 ($399,000 − $196,000 − $56,000)
Onyx Inc.'s net income is $570,000. During the year accounts receivable increased $280,000 and accounts payable decreased $80,000. Using the indirect method of preparing the statement of cash flows, what amount will be reported as cash provided by operating activities?
$210,000 The starting point for calculating cash flow from operating activities is net income. The increase in accounts receivable is subtracted since credit sales exceeded cash collections. This means net income overstates cash provided by operating activities. The decrease in accounts payable is subtracted since payments for inventory exceeded inventory purchases. This means that cost of goods sold understates cash used to purchase inventory, which means net income overstates cash provided by operating activities. The final result is a net inflow from operating activities of $210,000 ($570,000 − $280,000 − $80,000).
Treasury Stock
- Amount paid by the organization to repurchase its own stock - Shown as contra equity, or a reduction to the equity section, so it is not an asset
Accumulated Other Comprehensive Income
- Other comprehensive income or loss for the organization is ultimately recorded - Items accumulated here are not part of the calculation of net income.
Several common transactions affect the equity accounts
- Sale of new shares - Issuance of options - Dividends - Net Income/Loss - Other Comprehensive Income Items - Repurchase of treasury stock - Resale of treasury stock - Stock split - Stock dividends
Retained Earnings
- amount earned but not yet distributed to Stockholder Net income or loss for the organization is ultimately recorded; - Dividends declared are a reduction to retained earnings.
SH equity accounts
- capital stock (at par, Preferred Stock, Common Stock) - Additional Paid-In Capital (both = paid in capital/contributed capital) - Treasury Stock - Retained Earnings - Accumulated Other Comprehensive Income - treasure stock
Three years ago, James Company purchased stock in Zebra Inc. at a cost of $100,000. This stock was sold for $150,000 during the current fiscal year. The result of this transaction should be shown in the Investing Activities Section of James' Statement of Cash Flows as
150,000
Which of the following is a likely reason for a stock split?
A company wishes to lower the market price of its stock to increase marketability. A stock split increases the number of shares of stock that are authorized, issued, and outstanding. Because the number of shares of stock increases, each share is worth less money. The lower price can improve the stock's marketability as more people are able to afford it
Jolley, Inc. has 100,000 common shares outstanding with a $1 par value and a market value of $8. Jolley declares a 22% stock dividend. What is the impact on the various equity accounts if the transaction is considered a large stock dividend?
A large stock dividend is recorded at par value = at cost. 22,000 new shares are issued (100,000 × 22%) and the par value of $22,000 is taken from retained earnings (22,000 × $1) and common stock is increased for the same amount. DR RE - $22K CR CS - $22K
Jolley, Inc. has 100,000 common shares outstanding with a $1 par value and a market value of $8. Jolley declares a 22% stock dividend. What is the impact on the various equity accounts if the transaction is considered a small stock dividend?
A small stock dividend is recorded at fair value. 22,000 new shares are issued (100,000 × 22%) and the fair value of $176,000 is taken from retained earnings (22,000 × $8), common stock is increased by $22,000 (22,000 × $1) to reflect the par value of the new shares and the balance of $154,000 ($176,000 − $22,000) is recorded as an increase to additional paid-in capital. DR RE $176K CR CS $22K CR APIC $154K
Which accounts are affected by a small stock dividend?
A stock dividend occurs when an organization distributes additional shares of stock to existing stockholders as a dividend rather than paying them cash. For "small" stock dividends (less than 20-25% of the number of shares outstanding) retained earnings is reduced for the fair value of the stock being issued, common stock is increased for the par value of the stock issued, and the difference is included in additional paid-in capital. For "large" stock dividends (greater than 20-25% of the number of shares outstanding) retained earnings is reduced for the par value of the stock being issued and common stock is increased for the same amount. There is no impact on additional paid-in capital, similar to a stock split.
In the Lucas Company, there was an increase in the land account during the year of $24,000. Analysis reveals that the change resulted from a cash sale of land at cost $55,000, and a cash purchase of land for $79,000. In the statement of cash flows, how should the change in the land account be reported in the investment section?
As a purchase of land $79,000 and a sale of land $55,000 Investing activities consist of cash flows for the purchase and sale of long-term assets. The cash sale of land and cash purchase of land are both components of investing activities since both involve cash flows for long-term investments. As a result, they both need to be included. In addition, sources of cash are to be disclosed separately from uses of cash, not netted against each other.
statements that would include Cash balance
Balance Sheet Statement of Cash Flows
statements that would include Equity account balances
Balance Sheet Statement of Changes in Equity
direct issuance of common stock to purchase assets vs direct issuance of debt to purchase assets
Both are significant noncash activities. The direct issuance of common stock to purchase assets and the direct issuance of debt to purchase assets are treated the same way on the statement of cash flows. They are both disclosed on the summary of significant noncash activities, which is a schedule accompanying the statement of cash flows
statements that would include Other Comprehensive Income
Combined Statement of Income and Comprehensive Income OR Statement of Comprehensive Income Statement of Changes in Equity
Preferred Stock
Contributed capital for non-voting stock which generally carries a stated dividend rate that will be paid first in the event the organization declares a dividend. - Generally non-voting stock ownership. - Generally carries a specified dividend rate stated as a percentage of par value. For example, a $100 par 8% preferred share would be entitled to an $8 dividend annually if the organization declared dividends. Preferred Stock dividends must be paid before any common shareholders receive dividends from the organization. - May be convertible into common stock at a specified conversion ratio. - May be callable at a specified price at the option of the organization (typically at premium) - Behind company creditors, but ahead of common shareholders for preference in the case of bankruptcy or other liquidation of the organization.
What must be done in order to determine net cash provided by operating activities?
Convert accrual based net income to a cash basis.
ABC resells 20 TS shares for $3 per share. ABC originally purchased them for $5
DR APIC TS - $30 DR RE - $10 DR Cash - $60 CR TS - $100 (cost)
ABC resells TS for 30 shares for $6 per share. ABC originally purchased it for $5
DR Cash - $180 CR TS - $150 CR APIC TS - $30
hich one of the following would result in a decrease to cash flow in the indirect method of preparing a statement of cash flows?
Decrease in income taxes payable.
The purchase of treasury stock:
Decreases common stock outstanding. the common stock outstanding will be decreased by the amount of treasury stock purchased. When a company reacquires its own stock, the purchase does not reduce the number of shares issued or authorized, but does reduce the number of shares outstanding and the total stockholders' equity.
Mike's Ice Cream Shop has 500 shares of stock outstanding at $1 par value per share. As a reward for a great year, Mike (the majority owner and CEO) is issuing a stock dividend of 300 shares to all shareholders. Current market value of the stock is $20/share. What are the appropriate accounting entries to record this stock dividend?
Dr. Retained earnings $300, Cr. Par value distributable /CS $300 This is a large stock dividend because the dividend of 300 shares is 60% of the current shares outstanding of 500. Large stock dividends are recorded at par value because the fair value of each share of stock is diluted because of the magnitude of the dividend. Therefore, Mike's will debit Retained earnings at par value and credit the par value distributable for par value.
Which of the following financial statement changes would best represent the impact of incurring and paying interest on a note payable for the period:
Effect on Equity Section of the Balance Sheet: Decrease Statement of Cash Flows Direct Method: Outflow from Operating Activities. Interest incurred during the reporting period on a note payable is considered an "interest expense" on the income statement which reduces net income, and in turn, decreases the equity section of the balance sheet. Interest expense paid is considered an operating activity as it is used to pay for the day-to-day operating activities of the organization.
Dividends paid to Barber shareholders
Financing Activities Section
The repurchase of Barber Company stock
Financing Activities Section
Stock split
Generally has no impact on any of the equity accounts as long as the par value is also changed to reflect the new share size (just resizing of shares - no journal entry, but par value gets adjusted). For example, if 100 shares of $1 par common stock undergo a 2-for-1 stock split, the result would be 200 shares of $0.50 par common stock. Common stock is $100 before the split (100 × $1) and is still $100 after the split (200 × $0.50) so no journal entry is needed. SS reduces par value, but no changes to PIC, RE, SE
Sale of new shares
Generally sold for an amount above par value. Cash received is recorded and the common stock/preferred stock account is increased for the par value and the additional paid-in capital account is increased for the balance. - could be issued in exchanged for something other than cash (buy a building, settle debt - no cash receipt, but reduction of debt)
Large stock dividend
Greater than 20-25% of the number of shares outstanding. - Retained earnings is reduced for the par value of the stock being issued and - common stock is increased for the same amount. - No impact on additional paid-in capital, similar to a stock split.
Hat Trick Manufacturing reported a net income that was 20% smaller than the reported net cash flow from operations. What is the best explanation?
Hat Trick Manufacturing had items, such as depreciation and amortization, that reduced net income but did not affect cash flows. While net income and net cash flow from operations both assess operating performance, they are calculated under different assumptions. Net income is prepared using accrual accounting and cash flow from operations is prepared using cash accounting. What this means is that items that impact income but not cash flow are included in net income but not in cash flow from operations. Two of the more common non-cash expenses are depreciation and amortization expense. As these get larger cash flow from operations gets even larger than net income
Resale of treasury stock
Increases assets and equity by amount of cash received Never a gain or loss on treasury stock transactions Amounts received in excess (or short) of original amount paid are recorded as Paid-in Capital from Treasury Stock Transactions
Net Income/Loss
Increases/Decreases retained earnings each year - Net Income increases RE when Revenue/Expense accounts are closed - Net Loss decreases RE when Revenue/Expense accounts are closed
Palmer Beauty Products wants to increase their number of shares to decrease the stock's market value, but they do not want to change the par value of the shares. What would you recommend they do?
Issue a large stock dividend. Stock dividends are classified based on the amount of new shares issued. Small stock dividends are those in which the new shares issued are no more than 20-25% of the current shares outstanding, while large stock dividends are stock dividends larger than that. This means that the stock price will decrease more with a large stock dividend than with a small stock dividend because shares increase by a larger amount with a large stock dividend. Par value per share does not change for any size stock dividend. This means that a large stock dividend will likely give a large decrease in market value without changing the par value per share
How would the issue of common stock to acquire an $8,000 machine appear on the statement of cash flows?
It would not appear on the statement of cash flows but rather on a schedule of noncash investing and financing activities. Issuing stock normally appears as a financing activity and buying a machine normally appears as an investing activity. However, when stock is issued directly in exchange for a machine, no cash is exchanged. As a result, the transaction does not appear on the statement of cash flows. Rather, it is disclosed on a supplementary schedule of significant noncash activities.
As of December 31, 20x8, Mather Corporation's net cash flow from operating activities was $174,000 and its net income was $158,600. Over the course of 20x8, Mather's accounts payable balance dropped by several thousand dollars. If Mather uses the indirect method to calculate net cash flows and the only other asset and liability is accounts receivable, then which of the following statements is accurate?
Mather must have seen a significant decrease in its accounts receivable balance over the course of 20x8. Since net income is less than cash flow from operating activities, the net adjustment to operating current assets and operating current liabilities is an increase in cash. A decrease in accounts payable results in a decrease in cash as it represents cash payments for inventory that were purchased in a previous period. That is, cash payments were higher than inventory purchases. Since accounts receivable is the only other asset or liability, the increase in cash from accounts receivable must more than offset the decrease in cash from accounts payable. A decrease in accounts receivable results in an increase in cash as it represents cash collections exceeding credit sales. In other words, cash is collected in the current period for sales made in a previous period.
Which of the following is the best comparison of net income and net cash flow from operations?
Net income is different from net cash flow from operations because noncash flow items such as depreciation and amortization are part of income. While net income and net cash flow from operations both assess operating performance, they are calculated under different assumptions. Net income is prepared using accrual accounting and cash flow from operations is prepared using cash accounting. What this means is that items that impact income but not cash flow are included in net income but not in cash flow from operations. Two of the more common non-cash expenses are depreciation and amortization expense
Loss on the sale of available-for-sale securities
Non-cash: would be a reconciling item in the operating section of the statement of cash flows if the indirect method is used
Issuance of stock to acquire another organization
Non-cash: would be disclosed as a significant non-cash financing (new stock) and investing (acquisition) activity
conversion of bonds into common stock
Noncash activities. The conversion of bonds into common stock is a significant noncash activity. That is, it does not involve cash flows. These activities are disclosed in a supplementary schedule accompanying the statement of cash flows.
If a company uses the indirect method to depict cash flows, where, if at all, would the beginning-of-year to end-of-year change in accounts receivable be classified on the statement of cash flows?
Operating activities section The operating activities section deals with the cash inflows and outflows resulting from business operations. When using the indirect method of calculating the operating cash flow section, adjustments to net income and changes in balance sheet accounts are used to get from net income to cash flows from operations. Therefore, the beginning-of-year to end-of-year change in accounts receivable would be included in the operating activities section.
A statement of cash flows prepared using the indirect method would have cash activities listed in which one of the following orders?
Operating, investing, financing.
During the year, Deltech Inc. acquired a long-term productive asset for $5,000 and also borrowed $10,000 from a local bank. These transactions should be reported on Deltech's Statement of Cash Flows as
Outflow for Investing Activities, $5,000; Inflow from Financing Activities, $10,000.
What is the result of stock dividends?
Retained earnings decrease while total paid-in capital increases. Under a stock dividend, retained earnings decrease because dividends of any kind result in a decrease in retained earnings. This is because a dividend returns capital to owners. At the same time, more shares of stock are issued with a stock dividend. This results in an increase in total paid-in capital. The decrease in retained earnings is equal to the increase in paid-in capital.
Dividends
Retained earnings is reduced when a cash dividend is declared. If payment of the dividend is delayed, a payable is also recorded and then reduced when the payment is later made.
statements that would include Increase in Accounts Receivable
Statement of Cash Flows
statements that would include Net Income
Statement of Changes in Equity Statement of Cash Flows (when the indirect method is used for the operating section)
Sold a delivery van with a net book value of $5,000 for $6,000 cash, reporting a gain of $1,000
The $1,000 gain from the sale of the delivery van is included in operating activities as a deduction.
A statement of cash flows can partially reconcile
The cash basis and accrual bases of accounting The income statement, comprehensive income statement, balance sheet, and statement of stockholders' equity are all prepared using accrual accounting. The statement of cash flows is prepared using cash accounting. The operating section of the statement of cash flows reconciles net income (prepared using accrual accounting) to cash flow from operating activities (prepared using cash accounting). This is a partial reconciliation between the two methods
The cash flow from operations for Charlene Energy Inc. is $25,000 for the current year. If the amortization expense increases by $5,000 and other factors remain same, under which of the following assumptions will the cash flow from operations remain unaffected?
The company is operating in a tax-free environment. Cash inflow from amortization arises because of the tax shield. In a tax-free environment, a change in amortization will not affect the cash flows from operations.
How is the comparative balance sheet related to the statement of cash flows when accounting for the purchase of property, plant, or equipment?
The comparative balance sheet shows the increase to the Property, Plant, and Equipment account during the year, and the statement of cash flows shows how the purchase of the property, plant, or equipment was financed. A balance sheet provides the account balance for assets, liabilities, and equity as of a particular point in time. Looking at consecutive balance sheets helps investors see how those balances changed over time. By looking at comparative balance sheets one can see how property, plant, and equipment increased during the period. The statement of cash flows provides information on how those purchases were financed because it shows how much cash was generated from operating, investing, and financing activities. If property, plant, and equipment was acquired in a noncash transaction, that would be disclosed in the summary of significant noncash transactions as a supplementary schedule accompanying the statement of cash flows.
In the financial statements, the presentation of an accumulated other comprehensive loss is similar to the presentation of what other financial item?
The cost of treasury stock. Accumulated other comprehensive loss is subtracted from total paid-in capital and retained earnings in the stockholders' equity section of the balance sheet. Treasury stock is also subtracted from total paid-in capital and retained earnings in the stockholders' equity section of the balance sheet
Declared dividends on December 31, year 3, of $.08 per share on the 1.3 million shares outstanding, payable to shareholders of record on January 31, year 4. No dividends were declared or paid in prior years.
The dividends were declared but they were not paid before the end of the year. Therefore, there would be no impact on the financing section.
The most commonly used method for calculating and reporting a company's net cash flow from operating activities on its statement of cash flows is the:
The most commonly used method for calculating and reporting a company's net cash flow from operating activities on its statement of cash flows is the indirect method. The direct method is rarely used because when it is used, the indirect method must be disclosed. However, use of the indirect method does not require disclosure of the direct method.
Non-Controlling Interest
The portion of equity (net assets) interest in a subsidiary not attributable to the parent company. When an organization has a controlling interest in another entity, but not complete ownership, 100% of the assets and liabilities of the subsidiary are included in the balance sheet of the organization and the portion of the subsidiary that is owned by third parties is segregated as a separate component of equity.
How is the retained earnings statement related to the statement of cash flows when accounting for dividends?
The retained earnings statement shows dividends declared, and the statement of cash flows shows dividends paid. The retained earnings statement shows how retained earnings changed during the period. Part of the change is the amount of dividends declared. Once dividends are declared they are deducted from retained earnings. The amount of dividends paid is disclosed in the financing activities section of the statement of cash flows.
How can comparing a company's income statement to its statement of cash flows reveal information about the "quality" of the company's reported net income?
The statement of cash flows reflects cash-based accounting technique and thus relies on fewer estimates than the income statement. Earnings quality refers to the extent that a firm's earnings are converted into cash flow. The statement of cash flows is prepared based on cash-based accounting while the income statement is prepared based on accrual-based accounting. Cash-based accounting relies on fewer estimates and is considered more objective than accrual-based accounting. That is why comparing cash flows from operating activities to net income is a way to assess the "quality" of the company's net income.
Rogers Electronics is planning to reacquire some of its common shares. Which of the following is most likely to happen if this is done?
The stock price will increase. Reacquisition reduces the number of shares a company has outstanding and influences the price of the shares due to simple supply and demand. Therefore, the stock price of the company will increase.
Candela Company has retained earnings of $500,000, common stock of $400,000, and total common stockholders' equity of $1,200,000. It has 200,000 shares of $2 par value common stock outstanding, which is currently selling for $5 per share. If Candela Company declares a 2-for-1 stock split on its common stock, which of the following will occur?
There will be no effect on total common stockholders' equity. A stock split increases the number of shares of stock authorized, issued, and outstanding. However, it has no impact on total paid-in capital, retained earnings, or total common shareholders' equity. Therefore, this is the correct answer. The $1,000,000 is calculated as 200,000 shares × $5 (price per share).
When accounts receivable decreases during the period under the indirect method:
To convert net income to net cash provided by operating activities, the decrease in accounts receivable must be added to net income. Under the indirect method of calculating cash flow from operating activities, net income must be adjusted for operating items that impact net income but not cash and operating items that impact cash but not net income. One type of adjustment is changes in accounts receivable. Accounts receivable represent credit sales that have not yet been collected. If it decreases, it means cash collections exceeded credit sales. In that case, net income understates operating cash flow and the decrease must be added to it
Issuance of options
Total compensation expense is valued at the fair value of the options on the date they are granted. Compensation expense is recognized over the service period required for the employee to become vested in the options. - APIC is increased
Repurchase of treasury stock
Treasury stock is increased (which is a reduction to equity - not an asset) for the cost of the treasury shares; recorded at cost
Gilliam Industries records revenue of $6.4 million for an accounting period. In that same accounting period, they have a beginning balance of $392,000 and an ending balance of $439,000 in the Accounts Receivable account. How should the cash flows from operating activities be adjusted to account for these items? Why? Assume Gilliam uses the indirect method.
Using the indirect method, Gilliam will only have to adjust for the change in Accounts Receivable, resulting in a $47,000 decrease in cash flows from operating activities. Under the indirect method of calculating cash flow from operating activities, net income must be adjusted for operating items that impact net income but not cash and operating items that impact cash but not net income. One set of adjustments involves changes in accounts receivable. Accounts receivable represent credit sales that have not yet been collected. If it increases, it means credit sales exceeded cash collections. In that case, net income overstates operating cash flow. To fix that the increase in accounts receivable must be subtracted from net income ($392,000 − $439,000).
Common Stock
Usually carried at par value unless the stock is "no par" stock, in which case the entire amount paid for the stock is classified as common stock. Dividends are not predetermined like preferred stock and are only paid when declared and only then, after the preferred shareholders receive their stated dividend (variable dividend) Last in line for preference in the case of bankruptcy or other liquidation.
The statement of cash flows emphasizes ________, and should be used alongside rather than in place of ________.
cash basis accounting; accrual basis accounting The statement of cash flows is prepared using cash accounting. A strength of cash accounting is that it does not rely on as many judgments and assumptions as accrual accounting does. It is still important to assess information prepared using accrual accounting as accrual accounting provides useful information about economic activities where cash has not yet changed hands.
Although ________ show changes in account balances from year to year, a ________ gives more detail about how those changes occur.
comparative balance sheets; statement of cash flows A balance sheet provides the account balance for assets, liabilities, and equity as of a particular point in time. Looking at consecutive balance sheets helps investors see how those balances changed over time. It does not provide information on why those changes occurred. The statement of cash flows provides information on why those changes occurred since it provides information on how cash was used to buy assets, pay back debt, buy back stock, and pay dividends. It also provides information on how cash was generated from selling assets, borrowing money, or issuing stock. Finally, it provides information on how changes in operating current assets and liabilities contributed to changes in cash
Stock dividends ________ retained earnings and ________ total paid-in capital.
decrease, increase. Under a stock dividend, retained earnings decrease because dividends of any kind result in a decrease in retained earnings. This is because a dividend returns capital to owners. At the same time, more shares of stock are issued with a stock dividend. This results in an increase in total paid-in capital. The decrease in retained earnings is equal to the increase in paid-in capital.
It is required when using an indirect method
disclosure for cash paid for interest and taxes
Conversion of bonds into common stock
does not involve cash. However, it is disclosed as part of significant noncash activities on the statement of cash flows Depreciation expense is a noncash expense on the income statement. Since it involves the calculation of net income, it is included as part of cash flows from operating activities. It is added back to net income when determining operating cash flows.
The sale of available-for-sale securities should be accounted for on the statement of cash flows as
investing activity.
Both stock splits and stock dividends ________ total stockholders' equity, while only ________ result in a decrease in the par value of common stock.
maintain; stock splits. Stock splits and stock dividends both increase the number of shares of stock a firm has outstanding. Neither results in any change in total equity. Under a stock dividend, retained earnings decrease and paid-in capital increases by the same amount. Neither component changes with a stock split. Stock splits do result in a decrease in the par value of the stock, while there is no change in par value with stock dividends
stock dividend
occurs when an organization distributes additional shares of stock to existing stockholders as a dividend rather than paying them cash. 1). Small stock dividend 2). Large stock dividend
Based on the stock's par value, a large stock dividend is most similar to a ________; but based on the stock's market value, a large stock dividend is most similar to a ________.
small stock dividend; stock split Stock dividends are classified based on the amount of new shares issued. Small stock dividends are those in which the new shares issued are no more than 20-25% of the current shares outstanding, while large stock dividends are stock dividends larger than that. The reason for the difference in accounting treatment is that a large stock dividend will likely have a much larger impact on share price than a small stock dividend. This means share price is not an appropriate way to measure the value of a large stock dividend. Consequently, par value is used to value large stock dividends. Since the par value per share does not change with either a large stock dividend or a small stock dividend, a large stock dividend is most similar to a small stock dividend with respect to par value. Stock price is likely to fall after any stock dividend since there are a greater number of shares outstanding as a result of stock dividends. The decrease is larger with large stock dividends. Stock price also drops fairly significantly from stock splits as the number of shares increases significantly as a result of stock splits. Since the market value per share drops significantly with either a large stock dividend or a stock split, a large stock dividend is most similar to a stock split with respect to market value.
Whereas comparing a firm's annual balance sheets can help investors ________, analysis of the firm's statements of cash flows will ________.
spot any changes in account balances; provide greater insight as to how these changes occurred A balance sheet provides the account balance for assets, liabilities, and equity as of a particular point in time. Looking at consecutive balance sheets helps investors see how those balances changed over time. It does not provide information on why those changes occurred. The statement of cash flows provides information on why those changes occurred since it provides information on how cash was used to buy assets, pay back debt, buy back stock, and pay dividends. It also provides information on how cash was generated from selling assets, borrowing money, or issuing stock. Finally, it provides information on how changes in operating current assets and liabilities contributed to changes in cash.
The changes in the beginning and ending balances of operating assets and liabilities on the balance sheet will flow to
the cash flow statements when the indirect method is used (operating section)
When Treasury Stock is sold for an amount in excess of the repurchase price
the cost is taken out of treasury stock and the excess is added to additional paid-in capital
Net income from the income statement will flow to the top line of the statement of cash flows when
the indirect method (operating section) is used
The statement of changes in equity presents
the organization's detailed changes in each equity account over the course of the period presented.
The beginning cash balance and the ending cash balance from the balance sheet will flow to
the statement of cash flows
Non cash gains and losses from the income statement will flow to
the statement of cash flows when the indirect method (operating section) is used.
Net income (and other comprehensive income) from the income statement (or from the combined statement of income and comprehensive income) will appear in
the statement of changes in equity
