Question 1

Very few companies use the direct method for disclosing their cash ﬂows from operating activities.

Accepted Answer

The indirect method is the most commonly used method for disclosing cash flows from operating activities in a company's cash flow statement. The direct method is more time-consuming and expensive to prepare, which is why it is rarely used.

Question 2

Proceeds from borrowing and issuing the ﬁrm's own equity securities are examples of ﬁnancing cash inﬂows

Accepted Answer

Proceeds from borrowing and issuing the firm's own equity securities are both ways for a firm to receive cash, which is a financing cash inflow.

Question 3

Billton Company purchased a machine in the current year for $18,000. Payment included cash, $5,000; a one-year note payable, $5,000; and a 2-year, $8,000 note payable. This transaction decreases cash by $5,000 in the current year.

Accepted Answer

The payment of $5,000 in cash decreases cash in the current year.

Question 4

Any item that appears on the statement of earnings would be considered either a cash inﬂow or cash outﬂow from operating activities.

Accepted Answer

The statement of earnings (or income statement) includes non-cash items such as depreciation and amortization, which affect net income but do not represent actual cash flows from operating activities.

Question 5

The capital expenditures ratio (Cash Flow from Operating Activities ÷ Cash Paid for Property, Plant, and Equipment) reﬂects the portion of purchases of property, plant, and equipment ﬁnanced from operating activities without the need for outside debt or equity ﬁnancing or the sale of other investments or other long-term assets.

Accepted Answer

The statement accurately describes the meaning of the capital expenditures ratio.

Question 6

Cash ﬂow from investing activities is considered the most important category on the cash ﬂow statement because it is considered the best measure of expected earnings.

Accepted Answer

Cash flow from investing activities measures the cash inflows and outflows associated with the purchase or sale of long-term assets, such as property, equipment, or investments. While important for understanding a company's investment activities, it is not considered the best measure of expected earnings. The net income or earnings per share are better indicators of a company's profitability and future earnings potential.

Question 7

The acquisition of a building by issuing a mortgage note payable would be considered both an investing activity and ﬁnancing activity that do not affect cash and would be reported in the notes to the ﬁnancial statements.

Accepted Answer

Issuing a mortgage note payable to acquire a building would involve both investing activity (acquiring a long-term asset) and financing activity (incurring a long-term liability), but it would not affect cash flow. Therefore, it would be disclosed in the notes to the financial statements rather than in the statement of cash flows.

Question 8

The quality of earnings ratio (Cash Flow from Operating Activities ÷ Net earnings) measures the portion of proﬁt that was generated in cash.

Accepted Answer

The quality of earnings ratio is a measure of how much of a company's net earnings are generated in cash, and it is calculated by dividing cash flow from operating activities by net earnings. Therefore, statement A is true.

Question 9

Wish Corporation acquired a computer for $15,000 and paid for it in full by issuing 1,000 shares of its own common shares, par $10 (current market price $15 share). This transaction should not be reported on the statement of cash ﬂows because cash was neither paid out nor received.

Accepted Answer

The transaction involves an exchange of non-cash assets (shares) for another non-cash asset (computer), and since no cash was involved in the transaction, it does not appear on the statement of cash flows.

Question 10

Under the indirect method, noncash expenses are added to net earnings.

Accepted Answer

Noncash expenses, such as depreciation or amortization, are added back to net earnings under the indirect method to arrive at cash flow from operating activities.

Question 11

Investing activities reported on the statement of cash ﬂows include cash payments to acquire property, plant, and equipment, and short-term and long-term investments.

Accepted Answer

Cash payments to acquire property, plant, and equipment, and short-term and long-term investments are all examples of investing activities that are reported on the statement of cash flows.

Question 12

Acquisitions and sales of long-lived assets are examples of investing cash ﬂows.

Accepted Answer

Acquisitions and sales of long-lived assets involve cash flows related to investing activities, such as purchasing or selling property, plant, and equipment or investments in other companies.

Question 13

In preparing statement of cash ﬂows, an increase in the common shares account during a period would be an investing activity.

Accepted Answer

An increase in the common shares account is a financing activity, not an investing activity. Investing activities include purchases and sales of long-term assets or investments.

Question 14

A low capital expenditures ratio indicates a higher need to obtain outside ﬁnancing to expand property, plant, and equipment assets.

Accepted Answer

A low capital expenditures ratio suggests that a company is investing less in its property, plant, and equipment assets, which may indicate a need to seek external financing for expansion or upgrades if internal cash flows are insufficient.

Question 15

The net increase (or decrease) in cash that is reported on the statement of cash ﬂows should be the same as the change in the balance of the cash account for the two most recent years on the comparative statements of ﬁnancial position.

Accepted Answer

The statement of cash flows is prepared to show the net increase or decrease in cash for a particular period, while the balance sheet provides a snapshot of the financial position of a company at a specific date. However, the change in the balance of the cash account for the two most recent years on the comparative statements of financial position should be reflected in the net increase (or decrease) in cash reported on the statement of cash flows. Therefore, the statement is true.

Question 16

Depreciation expense does not cause a cash outﬂow for the current period; therefore, it should never be shown on the statement of cash ﬂows.

Accepted Answer

Depreciation expense does not involve a cash outflow in the current period, but it does reduce the value of assets on the balance sheet. As a result, it is included in the operating section of the statement of cash flows as a non-cash expense.

Question 17

Capital expenditures are a normal use of cash for ﬁrms.

Accepted Answer

Capital expenditures, also known as CapEx, are investments made by companies in long-term assets such as property, plants, and equipment (PP&E). These expenditures are necessary for a company's growth and are a normal use of cash for firms.

Question 18

Operating activities include the cash effects of transactions that Evaluation revenues and expenses.

Accepted Answer

Operating activities involve the cash inflows and outflows related to the main business operations of a company, such as the cash effects of transactions that generate revenues and expenses.

Question 19

When using the indirect method, a loss on the sale of equipment should be added to proﬁt to derive cash ﬂows from operating activities.

Accepted Answer

In the indirect method of cash flow statement preparation, non-cash expenses and losses, such as a loss on the sale of equipment, are added back to net income to adjust for the fact that these items reduced net income but did not involve an outflow of cash during the period.

Question 20

A higher quality of earnings ratio indicates that it is less likely that the company is using aggressive revenue recognition policies to increase proﬁt.

Accepted Answer

A higher quality of earnings ratio indicates that the company's earnings are derived from sustainable and recurring sources rather than one-time events, and that there is less likelihood of aggressive revenue recognition practices.

Quiz 5: Fraud, Internal Control, and Cash