Answer:
a. an operating activity subtraction from net income
b. a financing activity
c. an operating activity subtraction from net income
d. an operating activity addition to net income
e. an operating activity addition to net income
f. Direct cash flow method - an operating activity addition to net income
g. Investing activity
h. not used to prepare the cash flows statement.
i. Financing activity
j. an operating activity addition to net income
k. an operating activity addition to net income
l. an operating activity subtraction from net income
m. an operating activity addition to net income
n. an operating activity addition to net income
Explanation:
Requirement A
a. Increase in inventory:
Inventory requires in day to day to activities. Therefore, it is related to operating activities despite being a balance sheet item. However, as it is similar to working capital, also that is required to deduct from net income. Hence, it is an operating activity item that needs subtraction from net income.
Requirement B & C
b. Issuance of common stock:
As the common stock is the capital of shareholders'. Shareholders finance it. Therefore, a new stock issuance means the company finances it.
c. Decrease in Accrued liabilities
The decrease in current liability means the firm pays cash to its payable. It means there is a cash outflow. Therefore, it will be deducted from net income in the operating activity section.
Requirement D
d. Net income
After deducting the operating expenses, other income/expenses, and interest & taxes from Gross profit, we get net income. As cash flow cannot be found directly from net income, we need to adjust the net income. The cash flow statement starts with the net income, and all the items are adjusted with the net profit.
Requirement E
e. Decrease in prepaid expenses
When we pay cash in advance for any expenses, it is prepaid expenses. When the time becomes over for that increases, it becomes a reasonable expense. Therefore, the cash outflow becomes an average balance. As there will be no cash outflow, it will add to the net income under the operating activities.
Requirement F & G
f. collection of cash from customers
It is an operating activity. However, in the direct method of cash flow statement, it is required. Therefore, it is added back to the net income as there is cash inflow.
g. purchase of equipment with cash
The cash is outflown when purchasing a piece of equipment with money. As the company uses the machine for many years, it is an investing activity for a firm.
Requirement H & I
h. retained earnings
It is only required to determine the dividend. It is not necessary to prepare the cash flow statement.
i. Payment of dividends
If a firm pays dividends, the cash is decreasing. Again, as the shareholders' get a bonus, and they are the company owners, paying a dividend to them will go to the finance section. Therefore, it is a financing activity with cash outflow.
Requirement J & K
j. increase in accounts payable
The increase in accounts payable means the cash is not disbursed to them. Therefore, it will be added to net income under operating activity.
k. decrease in accounts receivable
The decrease in accounts receivable mean they have paid us the amount. Therefore, there is a cash in-flow. So, it will be added to the net income under operating activity.
Requirement L
l. Gain on sale of a building
When we sale any non-current assets, we have to measure its book value or market value. If the sale exceeds the book value, there is an additional profit from the sale. It will be subtracted from the net income under the operating activity because the income is already added during the preparation of the income statement.
Requirement M & N
m. Loss on sale of land
When the book value of the land exceeds the sale value, there exists a loss. The loss will be added back to the net income under the operating activity.
n. Depreciation expense
It is a non-cash item that is subtracted in the income statement. Any non-cash item should be added to net income during the preparation of the cash flow statement as those items cannot generate cash.
