Financial Accounting: In an Economic Context

T-ACCOUNT ANALYSIS AND PREPARING THE STATEMENT OF CASH FLOWS

In this appendix we describe how the statement of cash flows can be prepared from two balance sheets and an income statement. The approach involves T-account analysis, a mechanical process by which by reconstructing activity in a T-account one can infer information not directly reported on the financial statements. T-account analysis is a valuable tool because it is used by companies to prepare the statement of cash flows, and it can be used by analysts to create useful information about a company not reported in the financial statements. We will also illustrate and differentiate the two methods used to present the statement of cash flows—the direct method and the more difficult but far more common indirect method.

Figure 4A–1 includes two balance sheets (2011 and 2010), an income statement (2011), and some additional information for Wildcat Industries. Figure 4A–2 includes the T-accounts corresponding to each of the accounts listed on the financial statements as well as the activity that took place in those accounts during 2011. The balance sheet accounts contain beginning balances (BB), which reflect the balances on the 2010 balance sheet as well as ending balances (EB), which reflect the balances on the 2011 balance sheet. Entries within the T-accounts correspond to the numbered journal entries listed in Figure 4A–3. Figure 4A–4 includes the statement of cash flows, derived using T-account analysis, using the direct ...