Chapter 2



Chapter 2: Accounting Statements and Cash Flow

2.1

|Assets | |

|Current assets | |

|Cash |$ 4,000 |

|Accounts receivable | 8,000 |

|Total current assets |$ 12,000 |

|Fixed assets | |

|Machinery |$ 34,000 |

|Patents | 82,000 |

|Total fixed assets |$116,000 |

|Total assets |$128,000 |

|Liabilities and equity | |

|Current liabilities | |

|Accounts payable |$ 6,000 |

|Taxes payable | 2,000 |

|Total current liabilities |$ 8,000 |

|Long-term liabilities | |

|Bonds payable |$7,000 |

|Stockholders equity | |

|Common stock ($100 par) |$ 88,000 |

|Capital surplus |19,000 |

|Retained earnings | 6,000 |

|Total stockholders equity |$113,000 |

|Total liabilities and equity |$128,000 |

2.2

| |One year ago |Today |

|Long-term debt |$50,000,000 |$50,000,000 |

|Preferred stock |30,000,000 |30,000,000 |

|Common stock |100,000,000 |110,000,000 |

|Retained earnings | 20,000,000 | 22,000,000 |

|Total |$200,000,000 |$212,000,000 |

2.3

|Income Statement |

|Total operating revenues | |$500,000 |

|Less: Cost of goods sold |$200,000 | |

| Administrative expenses | 100,000 | 300,000 |

|Earnings before interest and taxes | |$200,000 |

|Less: Interest expense | | 50,000 |

|Earnings before Taxes | |$150,000 |

|Taxes | | 51,000 |

|Net income | |$99,000 |

2.4

a.

|Income Statement |

|The Flying Lion Corporation |

| |19X1 |19X2 |

|Net sales |$800,000 |$500,000 |

|Cost of goods sold |(560,000) |(320,000) |

|Operating expenses |(75,000) |(56,000) |

|Depreciation |(300,000) |(200,000) |

|Earnings before taxes |$(135,000) |$(76,000) |

|Taxes* |40,500 |22,800 |

|Net income |$(94,500) |$(53,200) |

| | | |

* The problem states that Flying Lion has other profitable operations. Flying Lion can take advantage of tax losses by deducting the tax liabilities in the other operations that have taxable profits. If Flying Lion did not have other operations and tax losses could not be carried forward or backward, then taxes in each of these years would have been zero.

b. Cash flow during 19X2 = -$94,500 + $300,000 = $205,500

Cash flow during 19X1 = -$53,200 + $200,000 = $146,800

2.5 The main difference between accounting profit and cash flow is that non-cash costs, such as depreciation expense, are included in accounting profits. Cash flows do not consider costs that do not represent actual expenditures. Cash flows deduct the entire cost of an investment at the time the cash flow occurs.

2.6 a. Net operating income = Sales - Cost of goods sold - Selling expenses - Depreciation

= $1,000,000 - $300,000 - $200,000 - $100,000

= $400,000

b. Earnings before taxes = Net operating income - Interest expense

= $400,000 - 0.1 ($1,000,000)

= $300,000

c. Net income = Earnings before taxes - Taxes

= $300,000 - 0.35 ($300,000)

= $195,000

d. Cash flow = Net income + Depreciation + Interest expense

= $195,000 + $100,000 + $100,000

= $395,000

2.7

|Statement of Cash Flows |

|The Stancil Company |

|Cash flows from the firm | |

|Capital spending |$(1,000) |

|Additions to working capital | (4,000) |

|Total |$(5,000) |

|Cash flows to investors of the firm | |

|Short-term debt |$(6,000) |

|Long-term debt |(20,000) |

|Equity (Dividend - Financing) | 21,000 |

|Total |$(5,000) |

2.8 a. The changes in net working capital can be computed from:

|Sources of net working capital | |

|Net income |$100 |

|Depreciation |50 |

|Increases in long-term debt | 75 |

|Total sources |$225 |

|Uses of net working capital | |

|Dividends |$50 |

|Increases in fixed assets* | 150 |

|Total uses |$200 |

|Additions to net working capital |$25 |

*Includes $50 of depreciation.

b.

|Cash flow from the firm | |

|Operating cash flow |$150 |

|Capital spending |(150) |

|Additions to net working capital | (25) |

|Total |$(25) |

|Cash flow to the investors | |

|Debt |$(75) |

|Equity | 50 |

|Total |$(25) |

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