Problem

Prepare and Analyze a Statement of Cash FlowsLGIN was founded in 2014 to apply a new techn...

Prepare and Analyze a Statement of Cash Flows

LGIN was founded in 2014 to apply a new technology for the Internet. The company earned a profit of $190,000 in 2014, its first year of operations. Management expects both sales and net income to more than double in each of the next four years.

Comparative balance sheets at the end of 2014 and 2015, the company’s first two years of operations, appear below. (Notice that the balances at the end of the current year appear in the right-hand column.)

LGIN
COMPARATIVE BALANCE SHEETS
	December 31,
	2014	2015
Assets
Cash and cash equivalents	$ 45,000	$ 42,000
Accounts receivable	15,000	880,000
Plant and equipment (net of accumulated depreciation)	680,000	3,140,000
Totals	$740,000	$4,062,000
Liabilities and Stockholders’ Equity
Notes payable (short-term)	$ 0	$1,490,000
Accounts payable	45,000	82,000
Accrued expenses payable	55,000	38,000
Notes payable (long-term)	200,000	785,000
Capital stock (no par value)	250,000	915,000
Retained earnings	190,000	752,000
Totals	$740,000	$4,062,000

Additional Information

The following information regarding the company’s operations in 2015 is available in either the company’s income statement or its accounting records:

1. Net income for the year was $562,000. The company has never paid a dividend.
2. Depreciation for the year amounted to $125,000.
3. During the year the company purchased plant assets costing $2,585,000, for which it paid $2,000,000 in cash and financed $585,000 by issuing a long-term note payable. (Much of the cash used in these purchases was provided by short-term borrowing, as described below.)
4. In 2015, LGIN borrowed $1,490,000 against a $4.5 million line of credit with a local bank. In its balance sheet, the resulting obligations are reported as notes payable (short-term).
5. Additional shares of capital stock (no par value) were issued to investors for $665,000 cash.

Instructions

a. Prepare a formal statement of cash flows for 2015, including a supplementary schedule of noncash investing and financing activities. (Follow the format illustrated in Exhibit 13–8 . Cash provided by operating activities is to be presented by the indirect method. )
b. Briefly explain how operating activities can be a net use of cash when the company is operating so profitably.
c. Because of the expected rapid growth, management forecasts that operating activities will include an even greater use of cash in the year 2016 than in 2015. If this forecast is correct, does LGIN appear to be heading toward insolvency? Explain.

EXHIBIT 13–8

Auto Supply Co. Statement of Cash Flows

AUTO SUPPLY CO.
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED DECEMBER 31, 2015
Cash flows from operating activities:
Net income		$ 250,000
Add: Depreciation expense		60,000
Decrease in inventory		5,000
Increase in accounts payable		10,000
Subtotal		$ 325,000
Less: Increase in accounts receivable	$ 10,000
Decrease in accrued expenses payable	15,000
Gain on sales of marketable securities	20,000	45,000
Net cash provided by operating activities		$ 280,000
Cash flows from investing activities:
Proceeds from sales of marketable securities	$ 35,000
Cash paid to acquire plant assets (see supplementary schedule below)	(30,000)
Net cash provided by investing activities		5,000
Cash flows from financing activities:
Dividends paid	$ (140,000)
Payments to retire bonds payable	(150,000)
Net cash used for financing activities		(290,000)
Net decrease in cash		$ (5,000)
Cash and cash equivalents, Jan. 1, 2015		50,000
Cash and cash equivalents, Dec. 31, 2015		$ 45,000
Supplementary Schedule: Noncash Investing and Financing Activities
Purchases of plant assets		$ 100,000
Less: Portion financed through issuance of long-term debt		70,000
Cash paid to acquire plant assets		$ 30,000