A long-lived asset is sold for cash at a loss. As a result of this sale, which of the following statements relating to its impact on the financial statements is least likely accurate?
A. Net income will decrease
B. Total assets will decrease
C. CFO will decrease
The answer is C: Sale of a long-lived asset at a loss will reduce income and total assets but has no impact on CFO as the proceeds from the sale will be classified as an inflow in CFI.
Can anyone explain this? A and B make sense but I thought you add losses and subtract gains to arrive at CFO. Should it have said “CFO will increase”? The answer says it has no impact on CFO though…
There was a loss on Sale of the asset. So Net Income would decrease.
Asset was sold - so Total Assets would decrease.
So that eliminates A and B - leaving C as the answer for you, just by elimination.
What the other long winded statement “Sale of a long-lived asset at a loss will reduce income and total assets but has no impact on CFO as the proceeds from the sale will be classified as an inflow in CFI” is saying:
An Asset was sold - so it is an inflow to CFI.
When you take that inflow in its entirety (Sales Proceeds) - the loss is included there already. Since that loss is present in the entire sales proceeds - you need to add the loss to the NI to arrive at CFO - but there is actually no impact on the CFO itself. The net cash position of the firm would be CFO + CFI + CFF.
CFI has the loss already due to the Sales Proceeds being included.
Net Income also has the loss adjusted already.
So now you have 2 Loss in Sale of Asset included. To balance it out - you add one back.
Hope I have been able to convey what I am trying to say above.