Preparing and Using the Statement of Cash Flows

Harvard Business School Case # 196108

Case Software #XLS-807

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Exhibit 2 Illustration of Indirect and Direct Methods of Computing CFO

Income statement
Sales $2,214,500
Cost of goods sold (931,100)
Depreciation (200,000)
Goodwill amortization (103,800)
Selling and general expenses (420,000)
Gain on sale of assets 19,900
Interest expense (including premium amortization of $3,500) (88,500)
Income tax expense (170,000)
Net income $321,000

Additional data on changes in operating working capital items (from the balance sheet,
see Exhibit 3):

Increase in accounts receivable $37,700

Increase in accounts payable $9,900
Decrease in inventory $7,400
Increase in tax payable $2,000
Increase in prepaid expenses $16,800

Cash flow from operating activities (CFO)

Indirect method:
Net Income $321,000
Noncash adjustments:
Depreciation 200,000
Goodwill amortization 103,800
Premium amortization (3,500)
Decrease in inventory 7,400
Increase in accounts payable 9,900
Increase in tax payable 2,000
Increase in accounts receivable (37,700)
Increase in prepaid expenses (16,800)
Gain on sale of assets (19,900)
Cash flow from operations $566,200
Direct method
Collection from customers (2,214,500 - 37,700) $2,176,800
Payment to suppliers (931,100 - 7,400 - 9,900) (913,800)
Other operating payments (512,000 + 16,800) (528,800)
Income tax payment (170,000 - 2,000) (168,000)
Cash flow from operations $566,200

Note how the direct method items are computed by regrouping the reconciliation items in the indirect method
with the appropriate income statement items.
Exhibit 3 Illustration of How Balance Sheet Differences are Accounted for on a Statement of Cash Flows

Beginning Where to Trace In the

Balance Ending Difference Statement of Cash Flows
Assets

Cash $107,300 $53,300 Outcome of SCF

Accounts receivable 372,600 410,300 37,700 CFO (see previous page)
Inventory 324,400 317,000 (7,400) CFO (see previous page)
Prepaid expenses 0 16,800 16,800 CFO (see previous page)
PP&E 1,945,400 2,100,300 154,900 See note 1 next page
Account depreciation (800,400) (905,400) (105,000) See note 1 next page
Goodwill 875,300 771,500 (103,800) CFO (see previous page)
Total assets $2,771,300 $2,817,800
Liabilities and Owners' Equity
Accounts payable $43,800 $53,700 ($9,900) CFO (see previous page)
Taxes payable 0 2,000 (2,000) CFO (see previous page)
Notes payable 290,200 300,300 (10,100) Financing activities
Bonds payable 1,100,000 900,000 200,000 Financing activities
Premium on bonds 54,000 50,500 3,500 CFO (see previous page)
Common stock 500,000 520,000 (20,000) See note 2 next page
Retained earnings 783,300 991,300 (208,000) See note 3 next page
Total liabilities
and owners' equity $2,771,300 $2,817,800 0

Statement of Cash Flows (SCF)

Operating activities
Cash from operating activities (from Exhibit 2) $566,200
Investing activities
Sale of equipment 70,000
Purchase of equipment (300,000)
Cash from investing activities $(230,000)
Financing activities
Proceeds from notes payable $10,100
Repayment of bonds (200,000)
Dividend payment (93,000)
Cash from financing activities $(282,900)

Increase in cash $53,300

See next page for additional information needed to prepare the

Statement of Cash Flows.