Solutions Guide: Please reword the answers to essay type parts so as to guarantee that your answer is an original. Do not submit as your own.

...... CheckPoint: Preparing a Statement of Cash Flows · Resource: Ch. 4 of Understanding Financial Statements · Complete Problem 4.5 on p. 141 (Ch. 4). Refer to Exhibit 4.1 on p. 118 (Ch. 4) to create your statement of cash flows. · 4.5. The following comparative balance sheets and income statement are available for Little Bit Inc. Prepare a statement of cash flows for 2009 using the indirect method and analyze the statement. December 31, 2009 2008 Cash $ 40,000 $ 24,000 Accounts receivable (net) 48,000 41,500 Inventory 43,000 34,500 Prepaid expenses 19,000 15,000 Total Current Assets $ 150,000 $ 115,000 Plant and equipment $ 67,000 $ 61,000 Less accumulated depreciation (41,000) (23,000) Plant and equipment (net) $ 26,000 $ 38,000 Long-term investments 90,000 89,000 Total Assets $ 266,000 $ 242,000 Accounts payable $ 13,000 $ 11,000 Accrued liabilities 55,000 71,000 Total Current Liabilities $ 68,000 $ 82,000 Long-term debt 25,000 8,000 Deferred taxes 4,000 3,500 Total Liabilities $ 97,000 $ 93,500 Common stock ($1 par) and additional paid-in capital 112,000 97,000 Retained earnings 57,000 51,500 Total Liabilities and Equity $ 266,000 $ 242,000 Income Statement for 2009 Sales $155,000 Cost of goods sold 83,000 Gross profit $ 72,000 Selling and administrative $45,700 Depreciation 18,000 63,700 Operating Profit $ 8,300 Interest expense 2,000 Earnings before tax $ 6,300 Tax expense 800 Net income $ 5,500 CHAPTER 4 Statement of Cash Flows 141

Little Bit, Inc.
Statement of Cash Flows
For Year Ended December 31, 2009
Cash flow from operating activities
Net income / $ 5,500
Non-cash expenses included in net income:
Depreciation / 18,000
Deferred income taxes / 500
Cash provided by (used for) current assets and liabilities
Accounts receivable / (6,500 / )
Inventory / (8,500 / )
Prepaid expenses / (4,000 / )
Accounts payable / 2,000
Accrued liabilities / (16,000 / )
Net cash used by operating activities / ( / $ 9,000 / )
Cash flows from investing activities
Purchase of plant and equipment / (6,000 / )
Purchase of long-term investments / (1,000 / )
Net cash used by investing activities / ( / $ 7,000 / )
Cash flows from financing activities
Additions to long-term debt / 17,000
Sale of common stock / 15,000
Net cash provided by financing activities / $ 32,000
Increase in cash / $ 16,000

Analysis

Inflows
/ $ / %
Long-term debt / 17,000 / 53
Sale of common stock / 15,000 / 47
Total / 32,000 / 100
Outflows
Operating activities / 9,000 / 56
Purchase of property and equipment / 6,000 / 38
Purchase of long-term investments / 1,000 / 6
Total / 16,000 / 100

Little Bit, Inc. failed to generate cash from operating activities due primarily to growth in inventories, receivables and prepaid expenses, combined with the payment of accrued liabilities. The firm may be expanding as evidenced by the increase in capital assets.

The expansion is being supported primarily by long-term debt and the sale of common stock. It would appear that Little Bit is using long-term debt only for the acquisition of plant and equipment, but also to cover the negative cash flow from operations. This is generally not good to match long-term debt maturities with the financing of current assets.

It is essential that Little Bit generate cash flow in the future to lessen the

need for debt, perhaps by controlling the growth of inventories and receivables.