Step-by-Step Guidance for Financial Accounting Worksheet: Net Income and Cash Flow Computations

Q1. Compute the net income for the year for Edson Company.

Background

Topic: Financial Statements – Net Income Calculation

This question tests your understanding of how to compute net income using changes in equity accounts, assets, liabilities, and information about dividends and stock issuance.

Key Terms and Formulas:

• Net Income: The profit earned by a company during a period, calculated as revenues minus expenses.

• Retained Earnings: The cumulative net income retained in the company after dividends are paid.

• Formula for Change in Retained Earnings:

$\text{Ending Retained Earnings} = \text{Beginning Retained Earnings} + \text{Net Income} - \text{Dividends}$

$\text{Net Income} = \text{Ending Retained Earnings} - \text{Beginning Retained Earnings} + \text{Dividends}$

Step-by-Step Guidance

1. Start by determining the beginning retained earnings. You are given ending retained earnings, but not the beginning amount. Use the accounting equation:

   $\text{Assets} - \text{Liabilities} = \text{Stockholders' Equity}$

   Stockholders' Equity consists of Common Stock and Retained Earnings.

2. Calculate Stockholders' Equity at January 1 and December 31:

   $\text{Stockholders' Equity}_{\text{Jan 1}} = \text{Assets}_{\text{Jan 1}} - \text{Liabilities}_{\text{Jan 1}}$

   $\text{Stockholders' Equity}_{\text{Dec 31}} = \text{Assets}_{\text{Dec 31}} - \text{Liabilities}_{\text{Dec 31}}$

3. At December 31, Stockholders' Equity is made up of Common Stock and Retained Earnings. Use the given values to find beginning retained earnings:

   $\text{Stockholders' Equity}_{\text{Dec 31}} = \text{Common Stock}_{\text{Dec 31}} + \text{Retained Earnings}_{\text{Dec 31}}$

   Similarly, for January 1, use the ending and issued common stock to back into the beginning retained earnings.

4. Apply the formula for change in retained earnings to solve for net income:

   $\text{Net Income} = \text{Ending Retained Earnings} - \text{Beginning Retained Earnings} + \text{Dividends}$

5. Set up the calculation with the values you have, and solve for net income. Stop here and try to compute the final value yourself!

Try solving on your own before revealing the answer!

Final Answer: 4,000

Net income for the year is $4,000. This is calculated by determining the change in retained earnings, adjusting for dividends, and using the accounting equation to find beginning retained earnings.

Q2. Johnston Enterprises: Compute Net Cash Provided/Used by Operating, Investing, and Financing Activities

Background

Topic: Statement of Cash Flows – Direct and Indirect Method

This question tests your ability to analyze financial statement data and additional information to prepare the three main sections of the cash flow statement: operating, investing, and financing activities.

Key Terms and Formulas:

• Operating Activities: Cash flows from core business operations (net income, adjustments for non-cash items, changes in working capital).

• Investing Activities: Cash flows from buying/selling long-term assets (property, plant, equipment).

• Financing Activities: Cash flows from transactions with owners and creditors (issuing stock, paying dividends, borrowing/repaying debt).

• Indirect Method for Operating Activities:

$\text{Net Cash from Operating Activities} = \text{Net Income} + \text{Depreciation Expense} + \text{Loss on Sale of Equipment} + \text{Decrease in Accounts Receivable} + \text{Increase in Inventory} + \text{Increase in Accounts Payable} + \text{Decrease in Notes Payable} + \text{Increase in Income Taxes Payable}$

Investing Activities:

$\text{Net Cash from Investing Activities} = \text{Cash received from sale of equipment} - \text{Cash paid for purchase of equipment}$

Financing Activities:

$\text{Net Cash from Financing Activities} = \text{Cash received from issuing stock} - \text{Dividends paid} - \text{Cash paid to reduce bonds payable}$

Step-by-Step Guidance

1. For Operating Activities, start with net income. Adjust for non-cash expenses (depreciation, loss on sale of equipment) and changes in current assets and liabilities (accounts receivable, inventory, accounts payable, notes payable, income taxes payable).

2. Calculate the change in each current asset and liability by subtracting the prior year value from the current year value. Remember: increases in assets decrease cash, increases in liabilities increase cash.

3. For Investing Activities, determine cash received from sale of equipment (original cost minus accumulated depreciation gives book value; compare to loss on sale to find cash received). Also, account for cash paid for new equipment purchases.

4. For Financing Activities, use changes in common stock and bonds payable, and compute dividends paid using the change in retained earnings and net income:

   $\text{Dividends Paid} = \text{Beginning Retained Earnings} + \text{Net Income} - \text{Ending Retained Earnings}$

5. Set up the calculations for each section, but stop before plugging in the final numbers. Try to complete the calculations yourself!

Try solving on your own before revealing the answer!

Final Answers:

• Net cash provided by operating activities: 210,500

• Net cash used by investing activities: (119,000)

• Net cash provided by financing activities: 43,500

Each section is calculated using the indirect method for operating activities, the cash flows from equipment transactions for investing, and changes in equity and debt for financing. Double-check your calculations for accuracy!