Financial Accounting: An Integrated Statements Approach, 2nd Edition

Chapter 10 Liabilities 467

Effective Interest Rate Method of Amortization

The effective interest rate method of amortizing discounts and premiums provides for

a constant rate of interest on the carrying amount of the bonds at the beginning of each

period. This is in contrast to the straight-line method, which provides for a constant

amount of interest expense.

In the statement of cash flows, the net income is adjusted by
the change in current liabilities in determining the cash flows
from operating activities. That is, increases in current liabilities
are added to net income, while decreases in current liabilities

are deducted from net income. The Operating Activities section

of the statement of cash flows is reproduced below for Cendant

Corporationfor a recent year.

The shaded area shows the changes in current liability ad-
justments to net income. In this case, all the changes were in-
creases, which were added to net income in order to obtain the
net cash used in operating activities.
The Financing Activities section of the statement of cash
flows will disclose the increases and decreases in cash from

long-term liability financing. Increases in long-term liabilities will

result in an increase in cash, while a decrease will result in a

use of cash. This disclosure is shown below for Cendant

Corporation.

The shaded area shows both proceeds from issuing new

debt and the use of cash from retiring debt.

Liabilities

FOCUS ON CASH FLOW

APPENDIX

Cendant Corporation

Partial Statement of Cash Flows—Operating Activities Section

Cendant Corporation

Partial Statement of Cash Flows—Financing Activities Section

(in millions)

Net income (loss) $1,172

Adjustments to reconcile net income (loss) to net cash provided

by (used in) operating activities (142)

Changes in operating assets and liabilities:

Accounts receivable (214)

Deferred income taxes (121)

Other current assets 44

Accounts payable and other current liabilities 401

Current portion of long-term debt 1,599

Deferred income taxes 174

Net cash provided by (used in) operating activities $2,913

(in millions)

Proceeds from borrowings $ 2,593

Principal payments on borrowings (3,479)

Issuances of common stock 446

Repurchases of common stock (1,090)

Other, net (86)

Net cash provided by (used in) financing activities $(1,616)