 Hello, and welcome to the session in which we would look at the statement of cash flows, an important topic on the CPA exam, as well as your intermediate accounting course. Do not take the CPA exam if you are not 100% comfortable with the statement of cash flows, because understanding the statement of cash flows would also help you understand converting cash to a cruel, another important topic on the exam. So you don't want to go into the exam not comfortable converting from a cruel to cash, which is the statement of cash flow or cash to a cruel. Both are extremely important and the reason is simple. In the real world, most companies, the number of companies that use cash accounting and want to convert is more than companies that strictly use the statement of cash flows. Because most small companies, which is the majority of companies in terms of number of companies that you are going to be helping when you work in a CPA firm uses cash method. So you have to go from cash to a cruel and obviously all companies will have to prepare the statement of cash flows. So the topic is extremely important. Now, if you're a CPA candidate studying for your CPA exam, or an accounting student, I strongly suggest you check out my website, farhatlectures.com. I don't replace your CPA review course. That's something for you to keep. I can be a useful addition. How I can explain the material in details different than your CPA review course. And you will see in this session, how I'm going to go over this example in detail showing you all the steps in helping you understand the concept. If you understand this problem that I'm going to go over today, then you will have a strong understanding of the statement of cash flows. And I can assure you, you can answer any multiple choice question or a simulation that it comes to the statement of cash flows. Now, this is only one exercise. I do have the statement of cash flow explained in the details, the indirect method, the indirect method, so on and so forth. Your risk is one month of subscription. Try it. If it helps you, keep it. If not, cancel. That's your risk one month of subscription. Your potential return is passing the CPA exam. And if not for anything, take a look at my website to find out how well your university is doing on the CPA exam. I do have resources and lecture for other courses such as intermediate accounting. Please connect with me on LinkedIn if you haven't done so. And take a look at recommendation. Students that took my, took my subscription and used it, used my resources to pass the exam. Then see if it's, see if it helped them and see how it helped them. Please connect with me on LinkedIn, Instagram and Facebook. Now let's take a look at the statement of cash flows to complete a complete statement of cash flows. You have to have two years of balance sheet, which we have here. You have to have an income statement and you might have also additional information. So this, I'm going to treat this as a simulation, a big simulation. Most likely on the exam, you will not be giving that, that large of a simulation in my opinion, you might be given, you might be asked to complete a portion of the statement of cash flow. If it's the whole thing, it may not be as involved as this one. It could be, but if you can go over this, you will be fine. So, so here's the, the year one or 2016 and year two. So on the exam, you might, you may not see here. You might see year one and year two. Okay. Or sometime you may not see year one and year two. They might give you the beginning balance and the ending balance. And those are the beginning balance year one and the ending balance is year two. So, so you have to be careful how the information is giving to you because you need to interpret it. You need to interpret it and apply it within a problem. So you are giving the balance sheet. Additional information. One, a fully depreciated plant assets, which originally cost 20,000 and had a salvage value and had no salvage value was sold for $1,000. So here we are told that one of the assets, one of the plant assets were sold originally cost 20,000 no salvage value. We sold it for a thousand. Now, number one will affect our, there's three sections operating investing and financing. It will, it's going to affect our investing section because we are dealing with plant asset. So you want to know, read the instruction first, the additional information to find out if there's anything given to you, that's going to complement what's in the balance sheet and the income statement. Two, bonds were issued at bar value. Two-third of the bond were exchanged for land. The remaining one-third is for cash. So we have to be careful here because we issued bond. Bond is financing and we bought land. Land is investing. So notice here that it affects two parts of the balance, the two parts of the statement of cash flow. Common stock was sold for cash. Easy. That's a financing transaction. The only entries in the retained earnings are for dividend paid in the amount of 10,000 and for net income for the year. That's fine. So that's going to be financing. Normal depreciation expense was recorded during the year and the franchise was amortized. They're giving us additional information about depreciation and amortization. Now we are ready to prepare the statement of cash flow starting with the operating section. When we're looking at the operating section, there are several, I would say several steps you have to go through. I'm going to list the steps for you and in my lecture I go through those steps in the deals. What is the operating statement of cash flow? What's the idea? The idea is to take net income, this net income here and convert this net income into a cash, in quote, net income. So the key is to convert your net income accrual into cash net income. How do we do so? Well, we're going to start by net income. We're going to start with net income. I would say this is step one. First you start with net income and you're going to start the conversion. Step two, this is step one. Step two, I would say add non-cash expenses. This is step two. Step two is add non-cash expenses. What are non-cash expenses? For example, depreciation is a non-cash expense. Immortization, bad debt expense. In any expense, any expense that you debit an expense and you credit something that's non-cash, like depreciation, debit depreciation expense, credit accumulated depreciation, amortization, debit amortization expense, credit the asset or credit amortization expense depending on how the company use it. Bad debt expense, debit depreciation, bad debt expense, credit accumulated depreciation. So this is step two. Step three, if you have any gains, deduct any gains and if you have any losses, add the losses. This is step three. So we have step one. It's pretty easy. Starting with net income. Step two, add non-cash expenses. Step three, deduct the gains and add the losses. And once we get to this, we'll explain the concept a little bit further. Step four is analyze current assets and current liabilities. And this will take a little bit more of work once we get to it. We'll analyze it. So the operating section, in my opinion, there are four steps. Starting with net income. Net income is easy. Here's net income for you. Net income, 26,000. Now I'm going to make certain adjustments. I'm going to adjust net income to come up with my cash net income or operating section. Okay. What's a step one? We said step one. A step one is done. Step two is add depreciation, amortization, any bad debt expense. If we look here, they're not listed explicitly. Those numbers are not listed explicitly. Well, what does that mean? It means you have to come up with these figures. Well, starting, then what do you do? If depreciation and amortization is not giving, then you have to figure them out. What does it mean? Figure them out? It means you have to find out what happened from the balance sheet information. How would you find this out? How can you find what happened from the balance sheet information? You have to analyze the numbers. You have to analyze the figures in order to come up with that number. Okay. Starting with amortization. We see that the franchise account went from 32 to 24. It means, and we did not sell anything. So simply put, the franchise account, we happened to have amortized 8000. This is pretty straightforward. Why? Because the account went from 32 to 24. It means this company, they will debit amortize expense and they will credit franchise. And the amount was in total of 8000. Now, notice this is an expense, but we did not credit cash. This is an uncash expense. Therefore, we have to add $8000 to the $26000, because what happened is, inside this operating expense, inside of this $59000, there were $8000 that was non-cash expense. It means we deducted net income. We reduced net income. Sorry. It means we reduced our net income by 8000, but we did not pay it in cash. Now, let's take a look at accumulated depreciation. Accumulated depreciation, sorry, sorry. Accumulated depreciation, we have to analyze this account along, sorry about that. We have to analyze this account along property, plant and equipment. So, this is what we're going to do. We're going to do accumulated depreciation. You are giving the beginning balance. The beginning balance is 86 and the ending balance is 80,000. That's what you are giving. That's what you are giving. Here's what you are told. You remember in letter 1, this one here, you are told that an asset was sold and the original cost was $20,000 and it was fully depreciated. When we sell an asset, when we get rid of an asset, we get rid of any accumulated depreciation. It means we debited accumulated depreciation $20,000 when we sold this asset. So simply put, when we sold this asset, what we did is this. We debited accumulated depreciation $20,000. We credit the asset, we credit the asset was sold for $1,000, originally cost $20,000. We credited the asset $20,000 and we sold it for $1,000. Therefore, we debit, if you want the full entry, we debit cash $1,000 and we credit the gain $1,000. Actually, let's do this entry because we're going to need it shortly. So when we sold this asset, let's do the entry because it's very important that you see it from the entry perspective. From an entry perspective, we debited cash $1,000. We debited accumulated depreciation $20,000 because they told us it was fully depreciated. We credited the asset, which is plant asset. It doesn't matter. I'm going to call it plant asset, the original cost $20,000. And we had the gain of $1,000 because we're going to come up with that gain. That's why I wanted to do this. So now we started with $86,000. We reduced the account $20,000, but we end up with $80,000. What does that mean? It means we booked depreciation of $14,000. It means this was the depreciation expense. So on the exam, you might have to figure out depreciation expense from the information that's given. I highly doubt it. They will give you something like this, but you want to be comfortable with this. Okay. So now we figure out depreciation expense. So let's complete step two. Step two, we add depreciation expense of $14,000. We add amortization of franchise of $8,000. And those are the what we call the non-cash expenses. So we're done. Let's delete the entries here. Let's delete the entries. So we're done with step one. We're done with step two. Okay. Now step three. Step three, it says deduct any gains, add any losses. Well, we have right in the income statement, a gain of $1,000. And I showed you where the gain came from $1,000. Now, why do we deduct the gain? The gain, this $1,000 increase our cash by $1,000. I'm sorry. I apologize. Increase our net income. Increase this number by $1,000. But that's not an operating activity. When you sell an asset, that's going to be remembered. I told you this is part of finance. Therefore, what we have to do, it increase our net income without increasing our cash for operating purposes. Therefore, we deducted. And the same thing apply for a loss. If we sell something for a loss, we add the loss because the loss reduce net income without reducing our cash for operating purposes. Therefore, step three is deduct. We deduct the gain of $1,000. So we're done with step three. So step one, two and three are done. So let me erase them. Step one, two and three are done. Now, let's look at step four. What do we do in step four? Step four, we're going to analyze current assets and current liabilities to determine how do they affect cash. Now, obviously, we don't use cash because we're trying to explain this difference. So, you know, we don't touch cash. Starting with a counter-receivable. We see that a counter-receivable went up from 74 to 79. Well, if a current asset goes up, it means you deduct from a cash flow perspective. Why? Because you are selling more on account. You sold 5,000 more. Therefore, you deduct. If a current asset goes down, it means it's a positive to cash flow. So copy these formulas down. It doesn't have to be current asset. Any asset, same concept, except obviously cash. So there we go. Now, let's analyze prepaid. Prepaid also went up. Prepaid went up. It means we are buying prepaid. It means from a cash perspective it's negative. The difference is 6,000. I'm sorry. Inventory first, not prepaid. Inventory. And prepaid also went up negative 1,000. So notice, all our prepaid went up. All our prepaid went up. As a result, I'm not old prepaid. All the current assets happen to go up. Happens to go up. They could go down, too. If they go up, it's a negative to cash flow. Now we're done with current assets. Let's take a look at our current liabilities. For current liabilities, I'm going to switch colors. For current liabilities, every time our current liabilities goes up, it's good for us. For cash flow, it means we are not using the cash. We are using other people's money. Every time the current liability goes down, it means a negative cash flow. Because one does your current liability goes down is when you pay it. It means you are paying cash. So notice, for current liabilities, they work the same way. Current liabilities up. Cash flow up. Current liabilities down. Cash flow down. Let's take a look at our accounts payable. Our accounts payable went up. That's positive. Increase our accounts payable of 12,000. Now what we do is we net... Not we net. First, we add the... Yeah, we net them out. The net is 21,000 positive. Now we can figure out our net income on a cash flow basis, which is called net cash provided. Because it's positive. Be careful on the exam. Provided versus used. This is not cash provided by operating expenses. So simply put, from a net income perspective, they only made 26,000. But from a cash perspective, they made 47,000. And the reason is simple. They had 14,000 of depreciation, 8,000 of amortization. You know, their current assets consumed some cash. But they used some debt as well to operate their business. Therefore, overall, net cash provided by operating activities is 47,000. We are done with the first section of the cash flow statement. The second section. Now, by the way, this is the indirect method. Now in the next session, I will work you the direct method. The same example, but I will work the direct method. Okay, the direct method. Now we're going to look at the investing section. Investing comes first. Investing deals with your assets, plant assets, land, all that stuff. Okay, now we know that we purchase land because we go from zero to 86,000. Well, if that's the only information we have, if that's the only information we have, we would say that, well, we paid $86,000 for land. That's what we say. However, that's not the only information we are giving. Remember, we were giving additional information. Under the additional information, we were told that land was purchased. We issued a bond in land and the bond was issued for the land. So we did not really pay cash. So we took out the loan and we took the land. Therefore, we did not really pay any cash for the land itself. We did not pay any cash for the land itself. But we sold an asset, plant asset for $1,000 and received $1,000. Therefore cash from investing activities, sale of a plant asset of $1,000. Okay, now we're not done yet. We have to analyze a plant asset, this account here. This account here, let's analyze it because you have to analyze your plant asset because you have to determine whether something is purchased or not. The plant asset, we started with $224,000. We end up with $279,000. Clearly, our plant asset went up. But also we know that we sold $20,000 of plant asset. Okay, so notice what we have to do. We have to analyze the plant asset account to determine what was the increase in plant asset. So what is $224,000 minus $20,000 equal to $279,000? And the answer is it means we purchased $75,000 worth of assets. How did I find this out? I had to analyze plant asset. I had to analyze the account. I'm told that I sold $20,000 and let me just confirm and let me compute this and confirm the computation $224,000 plus $75,000 minus $20,000 equal to $279,000. So you want to confirm this. Okay, so notice I did confirm that indeed I purchased $75,000 worth of assets. I'm done. I accounted for plant asset. I accounted for land. I'm done with the investing section. The investing section I consumed. Notice the difference between the terminology used. Be careful on the exam. Select the word used when you are doing this. So we are done also with the investing section. We're done with the investing section. What's left is the financing section. The financing section is how you finance yourself basically through debt and equity. And we do have some additional information about debt and equity. Now we're going to start with the financing section, the third section of the statement of cash flow. We sold $35,000 worth of stocks. And this is clearly showing here. This is the common stock. We started with $250,000, went to $275,000. We started with $46,000, went to $56,000. And we are told we issued the stocks for cash. Therefore, sale from the sale of stock is $35,000. Clearly. Sale of the bond. Remember, here all what they say, here's why I like this exercise because it's giving you the information indirectly. Bonds payable were issued at par. So bonds payable, we did not have anything. We issued $129,000. There were exchange for land. That means part of this $129,000 went for land. And we know from our balance sheet, land was $86,000. So if this amount, $86,000 went through land. Well, if $86,000 went through land, they're giving us the ratio. But even we don't have to know the even ratio. If $129,000 went to land, minus $86,000, what's left in cash is $43,000. Therefore, sale of the bond equal to $43,000. We sold $129,000 worth of bonds. $86,000 went to land, which is it's not cash. We purchased land for it. It's a non-cash activity. Oops. It's non-cash activity. Therefore, what's left is $43,000. Now, if you want to take $129,000 times $13,000, that's fine. $129,000, $13,000 went was cash, and $2,000 was for the land. That's fine, too. Okay. So we're done with this. Notes payable. We are giving a notes payable. It was $63,000 went down to $58,000. Sorry. Let's do the dividend first. Okay. Now, we have to figure out the dividend amount because what we are told in number four, the entries in the retained earnings are dividend paid for 10? Oh, they're already giving us the dividend. Okay. But here we go. They may not give you the dividend. Let's assume they all what they told you on the problem because I'm going to say the only entries in the retained earnings are for dividend paid and net income for the year. So if you are not giving this information, here's what you have to do. You say my retained earnings started at $29,000, end up at $45,000. My net income was $26,000. So how much dividend did I pay? So they may not give you the dividend itself. Okay. So you take $29,000 plus $26,000 minus something equal to $45,000. That something must have been $10,000. Okay. So notice they may not give you the dividend. Here they gave you the dividend. So this makes it easier for you. So $29,000 plus $26,000 minus $10,000. And you'd say it's $45,000. I confirm my answer. So the dividend is $10,000. I also issued it seems I paid off a note. $63,000 went to $58,000. I paid $5,000 of my note. Notice here it went from $63,000 to $58,000. I'm practically done with my net cash provided. So it means I brought in cash from financing. No, I net operating financing and investing with the net income, net increase in net increase. So I know I net this out, $26,000 plus $47,000 minus $74,000 plus $63,000. It means there was an increase in cash of $36,000. I'm going to take this increase, add it to my beginning cash of $62,000. It should give me $98,000 my ending cash. And this is the statement of cash flow from A to Z using the indirect method. Now, there was a non-cash investing and financing of $86,000. This is non-cash. It means you bought an asset and you issued stocks or bonds, but you did not really get the cash. And that's $86,000. This is part of the two-third of the bond exchange for the land. Non-cash. It's called non-cash investing and financing. So you have to understand this statement of cash flow inside out in order to be comfortable and ready to take the CPA exam. Do not take the CPA exam if you are not ready with the statement of cash flow. I can help you. For-hand lectures can help you understand this concept inside out. My material will mirror image your CPA review course. So when they cover the cash flow, I cover the cash flow. If you want to understand this better, have more confidence. Check out my website, for-handlectures.com. I can help you tremendously. Your risk is one month of subscription. Your CPA is a long-term investment in your career. Take it seriously, study hard, good luck, and of course, stay safe.