Chapter 11 – Statement of Cash Flows
11-1
Chapter 11
Statement of Cash Flows
INSTRUCTOR’S MANUAL
Learning Objectives
LO11-1 Classify cash transactions as operating, investing, or financing activities.
LO11-2 Prepare the operating activities section of the statement of cash flows using the indirect
method.
LO11-3 Prepare the investing activities section and the financing activities section of the
statement of cash flows.
Analysis
LO11-4 Perform financial analysis using the statement of cash flows.
Appendix
LO11-5 Prepare the operating activities section of the statement of cash flows using the direct
method.
Chapter 11 – Statement of Cash Flows
11-2
Teaching Suggestions
Chapter 11 on the statement of cash flows is used by many instructors as the capstone chapter of
the course. At a minimum, students need to be familiar with the basic format for the statement of
cash flows covered in Part A.
The chapter begins with an example of the statement of cash flows that will be further
developed throughout the chapter. Classification into operating, investing, and financing
activities needs to be carefully explained. This is especially important since, as mentioned in the
chapter, the FASB and IASB have proposed extending the operating, investing, and financing
classifications to the other major financial statements. Illustration 11-4 summarizes the
relationship of the income statement and balance sheet to the operating, investing, and financing
sections in the statement of cash flows.
Chapter 11 – Statement of Cash Flows
11-3
A
As
ss
si
ig
gn
nm
me
en
nt
t
C
Ch
ha
ar
rt
ts
s
Questions
Learning
Objective(s)
Topic
Time
(Min.)
1
LO11-1
Describe the three categories of cash flows reported
in the statement of cash flows
5
2
LO11-1
Classify changes in balance sheet accounts with
operating, investing, and financing activities
5
3
LO11-1
Explain what we mean by noncash activities and
provide an example
5
4
LO11-1
Discuss the information necessary to prepare a
statement of cash flows
5
5
LO11-1
Describe the basic format used in preparing a
statement of cash flows
5
6
LO11-1
Briefly describe the four steps outlined in the text
for preparing a statement of cash flows
5
7
LO11-1
Distinguish between the indirect method and the
direct method for reporting net cash flows from
operating activities
5
8
LO11-2
Describe the most common adjustments we use to
convert net income to net cash flows from
operations under the indirect method
5
9
LO11-2
Explain how a company can report a net loss and
have positive operating cash flows
5
10
LO11-2
Explain how we report depreciation expense using
the indirect method
5
11
LO11-2
Describe how we report a gain or loss on the sale of
an asset using the indirect method
5
12
LO11-2
Indicate the effect of changes in current assets and
current liabilities using the indirect method
5
13
LO11-2
Explain how a change in accounts receivable affects
net income and operating cash flows
5
14
LO11-3
Describe the proper reporting of noncash activities
5
15
LO11-2, 11-3
Discuss how the sale of an investment affects
operating, investing, and financing activities
5
16
LO11-3
Provide examples of financing activities reported in
the statement of cash flows
5
17
LO11-4
Explain the difference in the calculation of return on
assets and cash return on assets
5
18
LO11-4
Describe the two primary strategies firms use to
increase cash return on assets
5
19
LO11-5
Identify the primary cash inflows and cash outflows
under the direct method
5
Chapter 11 – Statement of Cash Flows
11-4
20
LO11-5
Explain why we exclude depreciation expense and
the gain or loss on sale of an asset from the
operating activities section under the direct method
5
Brief
Exercises
Learning
Objective(s)
Topic
Time
(Min.)
BE11-1
LO11-1
Determine proper classification
5
BE11-2
LO11-1
Determine proper classification
5
BE11-3
LO11-2
Understand the basic format for the statement of
cash flows
5
BE11-4
LO11-2
Calculate operating activities—indirect method
5
BE11-5
LO11-2
Calculate operating activities—indirect method
5
BE11-6
LO11-2
Calculate operating activities—indirect method
5
BE11-7
LO11-2
Calculate operating activities—indirect method
5
BE11-8
LO11-3
Calculate net cash flows from investing activities
5
BE11-9
LO11-3
Calculate net cash flows from financing activities
5
BE11-10
LO11-4
Calculate the cash return on assets
10
BE11-11
LO11-4
Calculate the net cash flows from operating
activities
5
BE11-12
LO11-5
Determine cash received from customers
5
BE11-13
LO11-5
Determine cash paid to suppliers
5
BE11-14
LO11-5
Determine cash paid for operating expenses
5
BE11-15
LO11-5
Determine cash paid for income taxes
5
Exercises
Learning
Objective(s)
Topic
Time
(Min.)
E11-1
LO11-1, 11-2,
11-3,11- 4,11-5
Match terms with their definitions
10
E11-2
LO11-1
Determine proper classification
15
E11-3
LO11-1
Determine proper classification
10
E11-4
LO11-1
Determine proper classification
10
E11-5
LO11-1
Determine proper classification
10
E11-6
LO11-1
Determine proper classification
10
E11-7
LO11-2, 11-3
Prepare the basic format for the statement of cash
flows
15
E11-8
LO11-2
Calculate operating activities—indirect method
15
E11-9
LO11-2
Calculate operating activities—indirect method
15
E11-10
LO11-2, 11-3
Prepare a statement of cash flows—indirect method
30
E11-11
LO11-2
Calculate operating activities—indirect method
15
E11-12
LO11-4
Calculate financial ratios
20
E11-13
LO11-5
Calculate operating activities—direct method
20
E11-14
LO11-5
Calculate operating activities—direct method
20
E11-15
LO11-5
Calculate operating activities—direct method
15
Chapter 11 – Statement of Cash Flows
11-5
Problems
Learning
Objective(s)
Topic
Time
(Min.)
P11-1A
LO11-1
Determine proper classification
15
P11-2A
LO11-2, 11-3
Basic format for the statement of cash flows
20
P11-3A
LO11-2
Calculate operating activities—indirect method
20
P11-4A
LO11-2, 11-3
Prepare a statement of cash flows—indirect method
30
P11-5A
LO11-4
Calculate and analyze ratios
30
P11-6A
LO11-5
Calculate operating activities—direct method
20
P11-7A
LO11-5
Calculate operating activities—direct method
20
P11-8A
LO11-2, 11-5
Prepare an income statement using operating cash
flow information—indirect and direct methods
25
P11-1B
LO11-1
Determine proper classification
15
P11-2B
LO11-2, 11-3
Basic format for the statement of cash flows
20
P11-3B
LO11-2
Calculate operating activities—indirect method
20
P11-4B
LO11-2, 11-3
Prepare a statement of cash flows—indirect method
30
P11-5B
LO11-4
Calculate and analyze ratios
30
P11-6B
LO11-5
Calculate operating activities—direct method
20
P11-7B
LO11-5
Calculate operating activities—direct method
20
P11-8B
LO11-2, 11-5
Prepare an income statement using operating cash
flow information—indirect and direct methods
25
Additional
Perspectives
Topic
Time
(Min.)
AP11-1
Continuing Problem: Great Adventures
30
AP11-2
Financial Analysis: American Eagle Outfitters, Inc.
20
AP11-3
Financial Analysis: The Buckle, Inc.
20
AP11-4
Comparative Analysis: American Eagle Outfitters, Inc. vs. The
Buckle, Inc.
30
AP11-5
Ethics
20
AP11-6
Internet Research
20
AP11-7
Written Communication
30
AP11-8
Earnings Management
35
Chapter 11 – Statement of Cash Flows
11-6
Chapter Quiz Questions
The following multiple-choice questions are 10 unique quiz questions that correspond to the 10
questions at the end of each chapter. Each question covers the same learning objective but with a
little different twist. The correct answer is highlighted in bold for each item.
LO11-1
1. The purchase of inventory for cash is classified in the statement of cash flows as a(n):
LO11-1
2. The sale of an intangible asset for cash is classified in the statement of cash flows as a(n):
LO11-1
3. The purchase of long-term assets by issuing debt is classified in the statement of cash flows as
a(n):
a. Operating activity.
LO11-1
4. The payment of dividends is classified in the statement of cash flows as a(n):
a. Operating activity.
LO11-2
5. We can identify operating activities from income statement information and changes in:
a. Current asset accounts.
11-7
LO11-2
6. In preparing a statement of cash flows under the indirect method, an increase in accounts
payable would be reported or included as a(n):
LO11-3
7. Which of the following is an example of a cash outflow from an investing activity?
LO11-3
8. Which of the following is an example of a cash inflow from a financing activity?
LO11-4
9. We calculate cash return on assets as:
a. The change in cash divided by average total assets.
LO11-5
10. Which of the following items do we not report in the statement of cash flows using the direct
method?
Chapter 11 – Statement of Cash Flows
11-8
Alternate Let’s Review
Problem #1
Required:
Indicate whether each of the following items is classified as an operating activity, investing
activity, financing activity, or significant noncash activity.
1. Payment of employee salaries.
2. Issuance of bonds.
3. Purchase of treasury stock.
4. Collection of notes receivable.
5. Purchase of equipment by issuing long-term debt.
6. Sale of equipment for cash.
Solution:
Chapter 11 – Statement of Cash Flows
11-9
Problem #2
The income statement, balance sheets, and additional information for Surround Sound, Inc., are
provided below.
Surround Sound, Inc.
Income Statement
For the Year Ended December 31, 2018
Revenues
$4,500,000
Gain on sale of land
15,000
Expenses:
Cost of goods sold
2,800,000
Operating expenses
650,000
Depreciation expense
75,000
Income tax expense
280,000
Total expenses
3,805,000
Net Income
$710,000
Surround Sound, Inc.
Balance Sheets
December 31
Assets
2018
2017
Increase (I) or
Decrease (D)
Current Assets:
Cash
$ 50,000
$ 30,000
$20,000 (I)
Accounts receivable
65,000
80,000
15,000 (D)
Inventory
130,000
90,000
40,000 (I)
Long-Term Assets:
Land
150,000
200,000
50,000 (D)
Equipment
650,000
480,000
170,000 (I)
Accumulated depreciation
(195,000)
(120,000)
75,000 (I)
Total Assets
$850,000
$760,000
Liabilities and Stockholders’ Equity
Current Liabilities:
Accounts payable
$37,500
$ 55,000
$17,500 (D)
Interest payable
7,500
5,000
2,500 (I)
Income tax payable
15,000
20,000
5,000 (D)
Long-Term Liabilities:
Notes payable
100,000
200,000
100,000 (D)
Stockholders’ Equity:
Common stock
280,000
280,000
Chapter 11 – Statement of Cash Flows
11-10
Retained earnings
410,000
200,000
210,000 (I)
Total Liabilities and Equity
$850,000
$760,000
Additional Information for 2018:
1. Sold land costing $50,000 for $65,000, resulting in a gain on sale of $15,000.
2. Purchased equipment for $170,000 cash.
3. Repaid $100,000 in notes payable at the beginning of the year.
4. Declared and paid a cash dividend of $500,000.
Required:
Prepare the statement of cash flows using the indirect method.
Solution:
Surround Sound, Inc.
Statement of Cash Flows
For the Year Ended December 31, 2018
Cash Flows from Operating Activities
Net income
$710,000
Adjustments to reconcile net income to net
cash flows from operating activities:
Depreciation expense
75,000
Gain on sale of land
Decrease in accounts payable
Increase in interest payable
$725,000
Cash Flows from Investing Activities
Sale of land
65,000
Purchase of equipment
(170,000)
Cash Flows from Financing Activities
Repaid notes payable
(100,000)
Payment of cash dividends
(500,000)
Net increase (decrease) in cash
Cash at the beginning of the period
Cash at the end of the period
$50,000
Chapter 11 – Statement of Cash Flows
11-11
Key Points by Learning Objective
LO11-1 Classify cash transactions as operating, investing, or financing activities.
Operating activities generally relate to income statement items and changes in current assets and
current liabilities. Investing activities primarily involve changes in long-term assets. Financing
activities primarily involve changes in long-term liabilities and stockholders’ equity.
LO11-2 Prepare the operating activities section of the statement of cash flows using the
indirect method.
Using the indirect method, we start with net income and adjust this number for (1) revenue and
LO11-3 Prepare the investing activities section and the financing activities section of the
statement of cash flows.
Most investing activities can be explained by changes in long-term asset accounts. Most
Analysis
LO11-4 Perform financial analysis using the statement of cash flows.
Appendix
LO11-5 Prepare the operating activities section of the statement of cash flows using the
direct method.
The indirect method and direct method differ only in the presentation of operating activities. In
11-12
Chapter 11 – Statement of Cash Flows
11-13
Common Mistakes
Common Mistake
Students sometimes misclassify dividends in preparing the statement of cash flows. Dividends
received are included in operating activities. Dividends paid are included in financing activities.
Common Mistake
assets is the opposite of an expense, so we subtract it from net income to arrive at net cash flows
Students sometimes are unsure whether to add or subtract a loss on the sale of assets. Just
remember that a loss is like an expense—both reduce net income. Treat a loss on the sale of
Common Mistake
that the investing activities section reports the actual cash received or paid for an asset, which is
Some students mistakenly record a cash inflow from investing activities, like the sale of land for
Chapter 11 – Statement of Cash Flows
11-14
Decision Points
Question
Accounting Information
Analysis
Did the company have
any significant noncash
investing and financing
Noncash activities are reported
either directly after the cash
flow statement or in a note to
The disclosure of noncash investing
and financing activities can be
combined with information reported
Question
Accounting Information
Analysis
Is a company’s net
income supported by
Operating activities section of
the statement of cash flows
The operating activities section using
the indirect method reconciles net
Question
Accounting Information
Analysis
Are the company’s
cash flows based
more on selling at
higher prices or on
Cash flow to sales and asset
turnover ratios
Companies with high cash flow to
sales ratios obtain high cash inflows
from sales to customers in relation to
the cash outflows to produce the
Chapter 11 – Statement of Cash Flows
11-15
Career Corner
Career Corner
Are you good at analysis? If so, you might consider a career as a financial analyst. A career in
this field involves understanding the operations of companies, assessing the reasonableness of
their stock price, and predicting their future performance. Analysts rely heavily on financial
Chapter 11 – Statement of Cash Flows
11-16
Ethical Dilemma
Ethical Dilemma
Ebenezer is CEO of a successful small business. One day he stops by to see Tim Cratchit, the
new branch manager at First National Bank. Ebenezer and his partner Marley would like to
double the size of their loan with the bank from $500,000 to $1 million. Ebenezer explains,
“Business is booming, sales and earnings are up each of the past three years, and we could
certainly use the funds for further business expansion.” Tim Cratchit has a big heart, and
Ebenezer has been a close friend of the family. He thinks to himself this loan decision will be
easy, but he asks Ebenezer to email the past three years’ financial statements as required by bank
policy.
In looking over the financial statements sent by Ebenezer, Tim becomes concerned. Sales
and earnings have increased just as Ebenezer said. However, receivables, inventory, and
accounts payable have grown at a much faster rate than sales. Further, he notices a steady
decrease in operating cash flows over the past three years, with negative operating cash flows in
each of the past two years.
Who are the stakeholders, and what is the ethical dilemma? Do you think Tim should go
ahead and approve the loan?
Key Issues
• What was it in Tim’s analysis of the financial statements that caused him concern?
• Should Tim go ahead and approve the loan?
Option 1: Approve the loan
• The business has been successful in the past.
• Ebenezer already has an established business relationship with the bank based on the
Option 2: Deny the loan
• Doubling the loan size will increase the risk of default.
• Receivables, inventory, and accounts payable have grown at a much faster rate than sales,
while operating cash flows have steadily decreased over the past three years.