Depreciation expense $ 72,000
Gain on disposal of equipment 42,000
Net income 635,000
Balances of the current assets and current liability accounts changed between December
31, 2013, and December 31, 2014, as follows:
Accounts receivable $11,200
Inventory 6,400*
Prepaid insurance 2,400*
Accounts payable 7,600*
Income taxes payable 2,400
Dividends payable 1,700
*Decrease
a. Prepare the Cash Flows from Operating Activities section of the statement of cash flows, using the indirect method.
b. Briefly explain why net cash flows from operating activities is different than net income.
Answer:
a. Cash flows from operating activities:
Net income……………………………………………………………… $635,000
Adjustments to reconcile net income to net cash
flow from operating activities:
Depreciation………………………………………………………… 72,000
Gain on disposal of equipment………………………………… (42,000)
Changes in current operating assets and liabilities:
Increase in accounts receivable…………………………… (11,200)
Decrease in inventory………………………………………… 6,400
Decrease in prepaid insurance……………………………… 2,400
Decrease in accounts payable……………………………… (7,600)
Increase in income taxes payable………………………… 2,400
Net cash flow from operating activities…………………………… $657,400
Note: The change in dividends payable would be used to adjust the dividends
declared in obtaining the cash paid for dividends in the Financing Activities
section of the statement of cash flows.
b. Cash flows from operating activities reports the cash inflow or outflow from a
company’s day-to-day operations. Net income reports the excess of revenues over
expenses for a company using the accrual basis of accounting. Revenues are
recorded when they are earned, not necessarily when cash is received. Expenses
are recorded when they are incurred and matched against revenue, not necessarily
when cash is paid. As a result, the cash flows from operating activities differs
from net income because it does not use the accrual basis of accounting.