Cash Payments lor Merchandise and for Expenses Accounting Help

The next item in the statement of cush [low», “Cash paid to suppliers and employees,” includes all cash payments for PUl L’h’I~CS of merchandise and for operating expenses (other than interest and income Payments of interest and income taxes are listed as separate items in the statement. The amounts or cash paid for purchases of merchandise and for operating expenses are computed separately.

Cash Paid, for Purchases of Merchandise

An accrual basis income statement reflects the cost oj goods sold during the year, regardless of whether the merchandise was acquired or puid for in that period. The statement of cash flows, on the other hand, reports the cas” paid for merchandise during the year, even if the merchandise was acquired in a previous period or remains unsold at year-end, The relationship between cash paymcnts for merchandise and the cost of goods sold ‘depends on the changes during the period in :11’0 related balance sheet accounts: inventory and accounts payable to supplicrs of merchandise, This relationship may be staled as follows

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Let us review the logic behind this computation. If a company is increasing its inventory, it is buying more merchandise than it sells during the period. However, if the company is increasing its account payable to merchandise creditors; it is not paying cash for all of these purchases,

Cash Paymentuor Expenses Expenses, as shown in the income statement, represent

the cost of goods and services used up during the period, However, the amounts shown as expenses may differ significantly from the cash payments made during the period. Consider,

for example. depreciation expense. Recording depreciation expense requires , no cash payment, but it does increase total expenses measured on the accrual basis. Thus, in converting accrual-basis expenses to the cash basis, we must deduct depreciation expense and any other noncash expenses from our accrual-basis operating expenses. Other noncash expenses-expenses not requiring cash outlays-include amortization of intangible assets, any unfunded portion of postretirement benefits expense, and amortization of bond discount.

A second area of difference arises from short-term timing differences between- the recognition of expenses and the actual cash payments. Expenses are recorded in, accounting records when the related goods or services are used. However, the cash payments for these expenses might occur (1) in an earlier period, (2) in the same period, or (3) in a later period. Let us briefly consider each case. ‘ 1.

If payment is made in advance, the payment creates an asset, termed a prepaid expense, or, in our formula, a “prepayment.” Thus, to the extent that prepaid . expenses increase-over the year, cash payments exceed’the amount recognized as expense.

2. If payment is made in the same period, the cash payment is equal, to the amount of expense.

3 fpayment is made in a later period, the payment reduces a liability- for an accrued tlItpCnsepayable. Thus, to the extent that accrued expenses payable decrease over the _year, cash payments exceed the amount recognized as expense. “

The relationship between cash payments and accrual-basis expenses is summarized below:  Cash Payments for IntereSt and Taxes Interest expense and income taxes expense may be converted to cash payments with the same formula we used to convert operating expenses, Allison Corporation’s income statement shows interest expense of $35,000, and paragraph 5 states that the liability for interest payable increased by $7,000 during the year. The fact that the liability for unpaid interest increased over the year means that not al! of the interest expense shown in the income statement was paid i,rc(lsh. To determine  the amount of interest actually paid. we must subtract from total interest expense the portion that has been financed through an increase in the liability for interest payable. The computation is a follows:

Similar reasoning is used to dctermlne the amount of income taxes paid by Allison Corporation during the year.

The accrual-based income taxes expense reported in the income statement amounts to $36,000. However, paragraph 6 states that the company has reduced its liability for income taxes payable by $2.000 over the year.

Incurring income taxes expense increases the tax liability; making cash payments to tax authorities reduces it. Thus,

If the liability decreased over the year, cash payments to tax. authorities must have been greater than the income taxes expense for the current year.

The amount of the cash payments is determined as follows A Quick Review We have now shown the computation of each cash flow relating to AII is on Corporation’s operating activities. Previously we illustrated a complete.

Posted on November 21, 2015 in Statement of cash Flows

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