Vol. 3 LM3 Direct and Indirect Methods For Reporting

Question 1

Describe

The direct method

Cash Flow Statements

Answer 1

Shows the specific cash inflows and outflows that result in reported cash flow from operating activities

Cash Flow Statements

Question 2

Acceptable formats

Reporting cash flow from operating activities

Cash Flow Statements

Answer 2

• Direct method
• Indirect method

Cash Flow Statements

Question 3

Describe

The indirect method

Cash Flow Statements

Answer 3

Shows how cash flow from operations can be obtained from reported net income as the result of a series of adjustments.

Cash Flow Statements

Question 4

Primary argument for

The direct method

Cash Flow Statements

Answer 4

• It provides information on the specific sources of operating cash receipts and payments.
• This is in contrast to the indirect method, which shows only the net result of these receipts and payments.

Cash Flow Statements

Question 5

Consequences of using

The direct method

Cash Flow Statements

Answer 5

Eliminates any impact of accruals and shows only cash receipts and cash payments.

Cash Flow Statements

Question 6

Primary argument for

The indirect method

Cash Flow Statements

Answer 6

The reason it’s simpler, and faster, is that it relies on net income and movements in the balance sheet rather than looking at direct cash inflows and outflows to calculate payments and expenses

Cash Flow Statements

Question 7

Fill in the blank

Whenever the ___ is used, US GAAP mandate disclosure of how much cash was paid for interest and income taxes

Cash Flow Statements

Answer 7

indirect method

Cash Flow Statements

Question 8

Fill in the blank

Whenever the indirect method is used, ____ mandate disclosure of how much cash was paid for interest and income taxes

Cash Flow Statements

Answer 8

US GAAP

Cash Flow Statements

Question 9

Fill in the blank

Whenever the indirect method is used, US GAAP mandate disclosure of how much cash was paid for _____ and _____ on the cash flow statement.

Cash Flow Statements

Answer 9

interest [and] income taxes

Cash Flow Statements

Question 10

Concept

These line items are mandated to be disclosed in the cash flow statements using the indirect method, but are normally included using the direct method; therefore, a mandate is not required with direct method

Cash Flow Statements

Answer 10

• interest paid
• income taxes paid

Cash Flow Statements

Question 11

Fill in the blank

The ___ format of the cash flow statement demonstrates that changes in balance sheet accounts are an important factor in determining cash flows.

Cash Flow Statements

Answer 11

indirect

Cash Flow Statements

Question 12

Fill in the blank

The indirect format of the cash flow statement demonstrates that changes in ____ accounts are an important factor in determining cash flows

Cash Flow Statements

Answer 12

balance sheet

Cash Flow Statements

Question 13

purpose

The indirect format of the cash flow statement

Cash Flow Statements

Answer 13

demonstrates that changes in balance sheet accounts are an important factor in determining cash flows.

Cash Flow Statements

Question 14

purpose

The statement of cash flows

Cash Flow Statements

Answer 14

• shows the change in cash during an accounting period.
• The beginning and ending balances of cash are shown on the company’s balance sheets for the previous and current years.

Cash Flow Statements

Question 15

complete the statement

Cash Flow Statements show

Answer 15

• the change in cash during an accounting period.
• the beginning and ending balances of cash are shown on the company’s balance sheets for the previous and current years.

Cash Flow Statements

Question 16

complete the statement

The bottom of the cash flow statement reconciles …

Cash Flow Statements

Answer 16

the beginning cash with ending cash

Cash Flow Statements

Question 17

complete the statement

The bottom of the cash flow statement reconciles …

Cash Flow Statements

Answer 17

the beginning cash with ending cash

Cash Flow Statements

Question 18

multiple choice

The current assets and current liabilities section of the balance sheet typically reflect a company’s

a. financing decisions and activities
b. investing decisions and activities
c. operating decisions and activities

Cash Flow Statements

Answer 18

c. operating decisions and activities

Cash Flow Statements

Question 19

complete the statement

Because a company’s operating activities are reported on an accrual basis in the income statement, any differences between the accrual basis and the cash basis of accounting for operating transaction results in …

Cash Flow Statements

Answer 19

an increase or decrease in some short-term asset or liability on the balance sheet.

Cash Flow Statements

Question 20

what is the result

If revenue reported using the accrual basis is higher than the cash actually collected

Cash Flow Statements

Answer 20

• an increase in accounts receivables, or;
• it is possible that there is a decrease in an unearned revenue liability account

Cash Flow Statements

Question 21

complete the statement

If expenses reported using the accrual basis is lower than cash paid, the result will typically be …

Cash Flow Statements

Answer 21

• a decrease in accounts payable or another accrued liability account.
• it is possible that there is an increase in prepaid expenses, inventory, or another asset account.

Cash Flow Statements

Question 22

Equation

interrelation between balance sheet, income statement, and cash flow statement

accounts receivable [balance sheet] @ t, + ? + ? = accounts receivable [balance sheet] @ t+1

Cash Flow Statements

Answer 22

+ plus: revenues [income statement] @ t+1
- less: cash collected from customers [cash flow statement] @ t+1

Cash Flow Statements

Question 23

fill in the blank

A company’s investing activities typically relate to the ____ section of the _(financial statement)_.

Cash Flow Statements

Answer 23

long-term assets;
balance sheet

Cash Flow Statements

Question 24

Concept

cash flows from these activities are identical regardless of whether the direct or indirect method is used

Cash Flow Statements

Answer 24

financing activities
investing activities

Cash Flow Statements

Question 25

List line items from

cash flow from operating activities

Cash Flow Statements

Answer 25

• cash received from customers
• cash paid to suppliers
• cash paid to employees
• cash paid for other operating expenses
• cash paid for interest
• cash paid for income tax

net cash provided by operating activities

Cash Flow Statements

Question 26

List line items from

cash flow from investing activities

Cash Flow Statements

Answer 26

• cash received from sale of equipment
• cash paid for purchase of equipment

net cash used for investing activities

Cash Flow Statements

Question 27

List line items from

cash flow from financing activities

Cash Flow Statements

Answer 27

• cash paid to retire long-term debt
• cash paid to retire common stock
• cash paid for dividends

Cash Flow Statements

Question 28

Reconciliation of

• Acme’s net income of $2,210
• Acme’s operating cash flow of $2,606

Cash Flow Statements

Answer 28

to perform this reconciliation:
* any non-operating activities
* any non-cash expenses
* changes in operating working capital items

Cash Flow Statements

Question 29

adjustments to net income using the indirect method

non-cash items

Cash Flow Statements

Answer 29

• depreciation expense of tangible assets
• amortization expense of intangible assets
• depletion expense of natural resources
• amortization of bond discount

Cash Flow Statements

Question 30

adjustments to net income using the indirect method

non-operating losses

Cash Flow Statements

Answer 30

• loss on sale or write-down of assets
• loss on retirement of debt
• loss on investments accounted for under the equity method

Cash Flow Statements