Question

Preparation of a Statement of Cash Flows, Analysis) The comparative balance sheets of Madrasah Corporation at the beginning and end of the year 2020 appear below.

Madrasah Corporation

Balance Sheets

Assets   

Dec. 31, 2020

  

Jan. 1, 2020

  

Inc./Dec.

Cash

$ 20,000 

$ 13,000

$ 7,000 Inc.

Accounts receivable

 106,000 

  88,000

 18,000 Inc.

Equipment

  39,000 

  22,000

 17,000 Inc.

Less: Accumulated depreciation—equipment

  17,000 

  11,000

  6,000 Inc.

 Total

$148,000 

$112,000

Liabilities and Stockholders' Equity

Accounts payable

$ 20,000 

$ 15,000

  5,000 Inc.

Common stock

 100,000 

  80,000

 20,000 Inc.

Retained earnings

  28,000 

  17,000

 11,000 Inc.

 Total   

$148,000 

   $112,000   

Net income of $44,000 was reported, and dividends of $33,000 were paid in 2020. New equipment was purchased and none was sold.

Instructions

a. Prepare a statement of cash flows for the year 2020.

b. Compute the current ratio (current assets ÷ current liabilities) as of January 1, 2020, and December 31, 2020, and compute free cash flow for the year 2020.

c. In light of the analysis in (b), comment on Madrasah’s liquidity and financial flexibility.

Please answer complete for thumbs up

thanks

Answer 1

STATEMENT OF CASH FLOWS OF MADRASAH CORPORATION FOR THE YEAR 2020 USING THE INDIRECT METHOD

CASH FLOW FROM OPERATING ACTIVITIES DURING THE YEAR

Net income for the year : $44,000

Add Non cash and non-

operating items thar are debited to P&L:

(+)Depriciation on equipment: $6,000

Operating profit before working

capital changes: : $50,000

(+)Increase in payables: $ 5,000

(-) Increase in receivables: $ 18,000

Cash flow from operating

Activities: $37,000 -------------------------------------------- (A)

CASH FLOW FROM INVESTING ACTIVITIES:

(-)Purchase of Equipment: $ 17,000

Cash flow from investing activies ( $ 17,000) ------------------------------------------(B)   

CASH FLOW FROM FINANCING ACTIVITIES:

(+)Increase in common stock: $ 20,000

(-) dividend paid : $33,000

Cash flow from financing activity: ($13,000)--------------------------------------------(C)

Net cash from operations: (A) + (B) + (C) - $7,000

+ Cash in the beginning of the year: $13,000

Cash at the end of the year : $20,000

Notes:

1. Amounts given within brackets denote negative figures.

B. Computation of current ratio as of 1st January, 2020

Current assets:

Cash: $13,000

Accounts Receivable: $88,000

Total - : $ 101,000

Current liablities

Accounts payable : $ 15,000

Current ratio $101,000/ $15,000 - 6.74

B. Computation of current ratio as of 31st December, 2020

Current assets:

Cash: $20,000

Accounts Receivables:$106,000

Total: $126,000

Current Liablities:

Accounts Payable: $20,000

Current Ratio:

current assets/ current liablities: $126,000/$20,000 - 6.3

COMPUTATION OF FREE CASH FLOW FOR THE YEAR 2020

Cash flow from operating activies as derived in part a above: $37,000

(-)Purchase of Equipment : $ 17,000

Total :$ 20,000

ANALYSIS:

Madrasah's liquidity: The current ratio has declined from 6.74 to 6.3 which indiciate too much funds tied up with receivables which can be due to the reason of uncollective receivables or the credit period extented is more than normal. Accounts payable has been increased by $5,000 which indicates cash flows are being postponed which is a good indicator which can be on account of negotiating with the suppliers for extented credit period.

Financial Flexiblity: The net cash from all the operations show a positive number which is generally a good sign. However it is pertinent to see how well the company did in each of the three major areas: In case of operational: It has done a fairly good job with cash flows of $37,000 and opening cash cash balance of $13,000 which have been used to fund the purchase of equipment amounting to $17,000 and pay off dividend amounting to $33,000. More emphasis is to be laid on investing and financing activity to generate postive flows in the future.