Tracy company reports the following in its statement of cash flows:
Net Income $1,000 -
Depreciation and Amortization 350
Decrease (Increase) in Accounts receivable (10)
Decrease (increase) in inventory 200
Decrease (increase) in prepaid expenses 80
Increase (decrease) in trade payables (300)
Increase (decrease) in taxes payable 75
Cash Flow from operations 1,395 -
Tracy used the indirect method of determining cash flow from operations (CFO), had they used the direct method
Click on the arrows to vote for the correct answer
A. B. C. D.B
The method does not affect the CFO.
To determine the cash flow from operations (CFO) using the indirect method, you start with net income and make adjustments for non-cash expenses, changes in working capital, and other operating activities. The given information provides the necessary details to analyze the impact of using the direct method instead.
Let's break down the adjustments:
Net Income: $1,000 This is the starting point for calculating CFO.
Depreciation and Amortization: $350 This amount is a non-cash expense, meaning it is added back to net income under the indirect method to arrive at CFO. Therefore, when using the direct method, it would also be added back.
Decrease (Increase) in Accounts Receivable: ($10) A decrease in accounts receivable is a source of cash, so it would be added back to net income under the indirect method. Similarly, under the direct method, it would also be added back.
Decrease (Increase) in Inventory: $200 A decrease in inventory is a source of cash, so it would be added back to net income under the indirect method. The same would apply under the direct method.
Decrease (Increase) in Prepaid Expenses: $80 A decrease in prepaid expenses is a source of cash, so it would be added back to net income under the indirect method. The same would apply under the direct method.
Increase (Decrease) in Trade Payables: ($300) An increase in trade payables means the company received goods or services without paying for them immediately, resulting in a source of cash. It would be added back to net income under the indirect method, and the same adjustment would be made under the direct method.
Increase (Decrease) in Taxes Payable: $75 An increase in taxes payable means the company has deferred paying taxes, which is a source of cash. It would be added back to net income under the indirect method, and the same adjustment would be made under the direct method.
Given the adjustments, we can conclude the following:
Under the direct method, CFO would have been higher because both gains (such as a decrease in accounts receivable, inventory, and prepaid expenses) and non-cash expenses (depreciation and amortization) are added back to net income. This eliminates any indirect adjustments made in the indirect method.
The correct answer is, therefore, A. CFO would have been higher as gains are not deducted in arriving at CFO.
It's worth noting that the direct method provides a more detailed view of cash inflows and outflows from operating activities, but it requires additional information, such as itemized cash receipts and cash payments. Without this information, it is not possible to determine the exact CFO under the direct method, but we can infer that it would be higher based on the given adjustments.