Accounting: The Language of Business - Vol. 1 (Part 98)

The concept of fair value accounting [Fair value is a broad measure of an asset's worth and is not the same as market value, which refers to the price of an asset in the marketplace. In accounting, fair value is a reference to the estimated worth of a company's assets and liabilities that are listed on a company's financial statement (investopedia).] is correct and useful, but the application during periods of crisis is problematic. It's another one of those unintended consequences of making a rule that's supposed to be good that turns out the other way.

Stephen A. Schwarzman

 Statement of Cash Flows (Part D)

by

Charles Lamson

Common Stock

The common stock account shown below (continued from part 97) increased by $8,000 and the paid-in capital [Paid-in capital is the amount of capital "paid in" by investors during common or preferred stock issuances, including the par value of the shares plus amounts in excess of par value. Paid-in capital represents the funds raised by the business through selling its equity and not from ongoing business operations (investopedia).] in excess of par---common stock account increased by $40,000, as shown below. These increases result from issuing 4,000 shares of common stock for $12 per share.

This cash inflow is reported in the financing activities section as follows:

Bonds Payable

The bonds payable account decreased by $50,000, as shown below. This decrease results from retiring the bonds by a cash payment for their face amount.

This cash outflow is reported in the financing activities section as follows:

Building

The building account increased by $60,000, and the accumulated depreciation building account increased by $7,000, as shown below.

The purchase of a building for cash of $60,000 is reported as an outflow of cash in the investing activities section, as follows:

The credit in the accumulated depreciation---building account, shown earlier, represents depreciation expense for the year. This depreciation expense of $7,000 on the building has already been considered as an addition to net income in determining cash flows from operating activities, as reported in Exhibit 5, from part 97 and reintroduced below.

EXHIBIT 5 Cash Flows from Operating Activities---Indirect Method

Land

The $45,000 decline in the land account resulted from two separate transactions, as shown below.

The first transaction is the sale of land with a cost of $60,000 for $72,000 in cash. The $72,000 proceeds from the sale are reported in the investing activities section, as follows:

The proceeds of $72,000 include the $12,000 gain on the sale of land and the $60,000 cost (book value) of the land. As shown in Exhibit 5, the $12,000 gain is also deducted from net income in the cash flows from operating activities section. This is necessary so that the $12,000 cash inflow related to the gain is not included twice as a cash inflow.

The second transaction is the purchase of land for cash of $15,000. This transaction is reported as an outflow of cash in the investing activities section, as follows:

Preparing the Statement of Cash Flows

The statement of cash flows for Rundell Inc. is prepared from the data assembled and analyzed in the last few posts, using the indirect method. Exhibit 6 shows the statement of cash flows prepared by Rundell Inc. The statement indicates that the cash position increased by $71,500 during the year. The most significant increase in net cash flows, $100,500, was from operating activities. The most significant use of cash, $26,000, was for financing activities.

EXHIBIT 6 Statement of Cash---Indirect Method

*WARREN, REEVE, & FESS, 2005, ACCOUNTING, 21ST ED., PP. 651-653* 

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