Chapter 5: Q28Q. (page 238)
What is the purpose of a free cash flow analysis?
Free cash flow is calculated with the primary purpose of depicting the availability of cash to purchase more fixed assets or investments.
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The current assets and current liabilities sections of the balance sheet of Allessandro Scarlatti Company appear as follows.
ALLESSANDRO SCARLATTI COMPANY | ||||
BALANCE SHEET PARTIAL | ||||
December 31, 2017 | ||||
Cash | \(40,000 | Account payable | \)61,000 | |
Accounts receivables | \(89,000 | Note payable | 67,000 | |
Less: Allowance for doubtful accounts | (7,000) | 82,000 | \)128,000 | |
Inventory | 171,000 | |||
Prepaid expenses | 9,000 | |||
\(302,000 |
The following errors in the corporation’s accounting have been discovered:
1. January 2018 cash disbursements entered as of December 2017 included payments of accounts payable in the amount of \)39,000, on which a cash discount of 2% was taken.
2. The inventory included \(27,000 of merchandise that had been received at December 31 but for which no purchase invoices had been received or entered. Of this amount, \)12,000 had been received on consignment; the remainder was purchased f.o.b. destination, terms 2/10, n/30.
3. Sales for the first four days in January 2018 in the amount of \(30,000 were entered in the sales journal as of December 31, 2017. Of these, \)21,500 were sales on account and the remainder were cash sales.
4. Cash, not including cash sales, collected in January 2018 and entered as of December 31, 2017, totaled \(35,324. Of this amount, \)23,324 was received on account after cash discounts of 2% had been deducted; the remainder represented the proceeds of a bank loan.
Instructions
(a) Restate the current assets and current liabilities sections of the balance sheet in accordance with good accounting practice. (Assume that both accounts receivable and accounts payable are recorded gross.)
(b) State the net effect of your adjustments on Allessandro Scarlatti Company’s retained earnings balance.
In what section of the balance sheet should the following items appear, and what balance sheet terminology would you use?
(a) Treasury stock (recorded at cost).
(b) Checking account at bank.
(c) Land (held as an investment).
(d) Sinking fund.
(e) Unamortized premium on bonds payable.
(f) Copyrights.
(g) Pension fund assets.
(h) Premium on common stock.
(i) Long-term investments (pledged against bank loans payable).
How does separating current assets from property, plant, and equipment in the balance sheet help analysts?
4. Franco Company uses IFRS and owns property, plant, and equipment with a historical cost of \(5,000,000. At December 31, 2016, the company reported a valuation reserve of \)690,000. At December 31, 2017, the property, plant, and equipment was appraised at \(5,325,000. The valuation reserve will show what balance at December 31, 2017?
(a) \)365,000.
(b) \(325,000.
(c) \)690,000.
(d) $0.
Case 3: Deere & Company Presented below is the SEC-mandated disclosure of contractual obligations provided by Deere & Company in a recent annual report. Deere & Company reported current assets of \(50,060 and total current liabilities of \)21,394 at year-end. (All dollars are in millions.)
Aggregate Contractual Obligations
The payment schedule for the company’s contractual obligations at year-end in millions of dollars is as follows:
Total | Less than 1 year | 1-3 Years | 4 and 5 Years | More than 5 Years | |
Debt | |||||
Equipment Operations | \( 5,091 | \) 434 | \( 270 | \)775 | \( 3,612 |
Financial services | 31,692 | 9,962 | 11,477 | 6,578 | 3,675 |
Total | 36,783 | 10,396 | 11,747 | 7,353 | 7,287 |
Interest on debt | 4,777 | 609 | 1,069 | 745 | 2,354 |
Account payable | 2,743 | 2,611 | 90 | 39 | 3 |
Capital lease | 87 | 39 | 42 | 4 | 2 |
Purchase obligations | 3,007 | 2,970 | 37 | 0 | 0 |
Operating leases | 371 | 121 | 134 | 70 | 46 |
Total | \) 47,768 | \( 16,746 | \)13,119 | 8,211 | 9,692 |
Instructions
(a) Compute Deere & Company’s working capital and current ratio (current assets ÷ current liabilities) with and without the off-balance-sheet contractual obligations reported in the schedule.
(b) Briefly discuss how the information provided in the contractual obligation disclosure would be useful in evaluating Deere & Company for loans (1) due in one year and (2) due in five years.
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