Week 8 - Solutions to Preparation Questions for week 8...

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Solutions to Preparation Questions for week 8 Solution to Chapter 13 discussion questions: 1. Managing cash flow is important because in our economy cash is the medium of exchange by which business is done. An enterprise must have sufficient cash inflow to cover its need for cash outflow to pay bills, buy new assets, pay dividends and so on. In the short run, or at difficult times of the year, managing cash flow may be more important than managing overall performance as measured by the accrual-basis income statement. After all, it is with cash that you are paying interests and debt when they fall due. 2. Yes. A company can show good net profit, but if the company does not collect its accounts receivable then cash inflows would be less than the company’s revenue. Alternatively, it the company buys too much inventory, but does not manage to sell this inventory, then the company has incurred an outflow of cash, but has not recognised expenses as COGS is recognised at the point of sale. In this case, cash outflow would be greater than expenses. In both these cases, cash flow from operations would be smaller than net profit. 3. Net profit includes substantially non-cash expenses (depreciation especially) that decrease profit, but do not affect cash from operations. Thus, for most companies, net profit will be lower that cash from operations. 4. Cash and cash equivalents are cash on hand, cash in the bank plus assets that are really holding places for temporarily unneeded cash (such as term deposits and other temporary investments) minus very short-term borrowings with repayments that could be demanded in cash at any time (such as money market funds and bank overdrafts which are repayable on demand). 5. Cash flow from operations can be reported using either the direct or indirect method. The direct method reports gross cash inflows and gross cash outflows. Under the indirect method the accrual-based profit figure is adjusted to get the cash flow from operations by adding or subtracting: Adjustments to remove accruals for non-cash expenses or revenues arising from noncurrent assets changes such as depreciation expenses and profit or
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Week 8 - Solutions to Preparation Questions for week 8...

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