I am working an Cash Flow question and I am having some trouble Stalla L1-01291. The question wants to know what a companies cash payments to suppliers during a year were. They give you the balance sheet to work with. The formula they give to solve the problem is COGS-Change in A/P+Change in Inventory My question: Is that the formula or is it COGS +or- Change in A/P +or-change in Inventory, depending on whether the changes to both A/P & inventory increase or decrease. In the problem they give COGS is $5,000,000 in 2004 2003 A/P $540,000 2004 A/P $630,000 2003 Inventory $520,000 2004 Inventory $760,000 Reason for my question, when I look at a Cash Flow statement I think A/P had a net increase of $90k and on a cash flow statement that is a +change. Same with Inventory there is a net increase of $240k. When I think of cash flow statement I think of this increase in Inventory as (-). So Stalla gets $5,000,000-$90,000+240,000=$5,150,000 My thought is $5,000,000+$90,000-240,000=$4,850,000 Because I am thinking of how this would work on a Cash Flow Statement (CFO), should I forget this thinking and just memorize the formula? Sorry for the long explanation, I am just confused and don’t really just want to memorize something but understand how it really works. Thanks for you help and comments, JT
well COGS include both cash payments and payments on account to suppliers therefore you need to subtract the change in A/P so you’re removing the NON-Cash payments. Likewise considering that changes in inventory are not included in COGS but the products were still purchased from the supplier you need to add the Change in Inventory because you did pay the supplier for your new found inventory. So memorizing the formula is an options, but if you can keep in mind the relationship between these accounts, then recalling the formula may be easier. Perhaps rearranging the formula is more intuitive. COGS (paid with cash & credit) + Inventory (paid with cash & credit) - A/P (the credit extended by suppliers) The summation equals the CASH payments 5,000,000 + 240,000 - 90,000 Don’t confuse this question with similar worded questions requiring the steps in constructing a Cash Flow Statement from two Balance sheets. Hope this helps
Here is how I remember this: Basic inventory formula: New Purchase = COGS + (End Inventory - Begin Inventory) Basic Cash formula for purchase: Begin A/P + New purchase - cash paid = End A/P Replacing the New purchase you will get: Cash paid = GOGS + Increase of Inventory - Increase of A/P Your confusion, I guess, maybe because you remembered CFO will increase due to increased A/P but for decreased inventory. The trick here is we are discussing cash out, so the increase of cash out would be a reverse to above mentioned rule: cash out will inrease due to increase inventory and decreased A/P. Hope these two ways would help you memorize the formula.
The idea to memorize is as follows. You are given with some balance sheet line change - like increase/decrease of AR, AP, inventories or whatever. You just have to think - do you have to pay for such a change - or is there someone who pays to you? Like - to increase inventories by $240k you will probably have to pay someone for this. [Cash outflow] If there is payables decrease by $90 - why should it happen? Probably because someone paid to you. [Cash inflow] Remember also that all assets and all liabilities changes affect cash flows in same ways. So if you meet accounts receivable you may think about this the same way as about inventories. Basically, what you are doing when preparing cash flow - is adjusting something to get it its cash equivalent. That’s how you can consider it For example, you bought: Wood - $100 (paid 50%) Paint - $50 (paid 50%) You spent 2 labour hours for $10 each to construct, let’s imagine, wooden chair. (paid salary, 100%) Depreciation is $5. And you sold it for $200. (paid 80%) Your CoGS related are 100 + 50 + 20 +5 = 175. Your revenue is 200. NI = 25. Now you have to adjust these amounts to have cash flows. 25 +5 added depreciation 200 x 0.2 = -$40 - increase in receivables (amount that you did NOT get in cash yet) 100 x 0.5 = $50 - increase in payables (you paid 50 dollars less than expensed, it’s good for you, it’s a cash flow increase). $50 x 0.5 = $25 - the same CF = 25 + 5 - 40 + 50 + 25 = <65> Or Total inflow = 200 x 80% = 160 Total outflow = 50% x 100 + 50% of 50 + 20 = 95 Net CF = 64 again.
cam2win Wrote: ------------------------------------------------------- > > My thought is > $5,000,000+$90,000-240,000=$4,850,000 Because I > am thinking of how this would work on a Cash Flow > Statement (CFO), should I forget this thinking and > just memorize the formula? > The other posts are right, but they are confusing and don’t address your question directly. Your basic “disconnect” here is that you are not answering the question that was asked. You are correct in terms of how the info appears on a CF statement. The issue is that a CFO statement is telling you how much you pocketed (or spent). Here the question being asked is how much cof your cash the vendor pocketed. If you had no income, and no change in your balance shet except a $100 reuction in AP, then your csh flow statement would show a -$10. From the vendor perspective it is +$10. That’s why in this problem you start with CGS as a (presumed) outflow, and adjust based on the opposite of the sign that you would see in the CFO.
Super I Wrote: ------------------------------------------------------- > > The other posts are right, but they are confusing > Welcome to my mind…
It would help if I could type or if they had a proofread button. Expanded Cleaned up version of the last 2 paragraphs in my previous post: If you had no income, and no change in your balance sheet except a $100 reduction in AP, then your cash flow statement would show a -$100 from the paydown of the liability. From the vendor perspective (which is what your example is asking) it is +$100. That’s why in this problem you start with CGS as a (presumed) outflow, and adjust based on the opposite of the sign that you would see in the CFO. Note to Char-Lee: I was focused more on one of the other posts when I used the word confusing, and I bet you can figure out which one I meant.