Krech Corporation's comparative balance sheet appears below: The company's net income (loss) for the year was ($3,000) and its cash dividends were $3,000. It did not sell or retire any property, plant, and equipment during the year. The company uses the indirect method to determine the net cash provided by operating activities. Which of the following is correct regarding the operating activities section of the statement of cash flows?
A)The change in Prepaid Expenses will be added to net income; The change in Income Taxes Payable will be subtracted from net income
B)The change in Prepaid Expenses will be subtracted from net income; The change in Income Taxes Payable will be subtracted from net income
C)The change in Prepaid Expenses will be subtracted from net income; The change in Income Taxes Payable will be added to net income
D)The change in Prepaid Expenses will be added to net income; The change in Income Taxes Payable will be added to net income

Question

Krech Corporation's comparative balance sheet appears below:  The company's net income (loss) for the year was ($3,000) and its cash dividends were $3,000. It did not sell or retire any property, plant, and equipment during the year. The company uses the indirect method to determine the net cash provided by operating activities. Which of the following is correct regarding the operating activities section of the statement of cash flows?
A)The change in Prepaid Expenses will be added to net income; The change in Income Taxes Payable will be subtracted from net income 
B)The change in Prepaid Expenses will be subtracted from net income; The change in Income Taxes Payable will be subtracted from net income 
C)The change in Prepaid Expenses will be subtracted from net income; The change in Income Taxes Payable will be added to net income 
D)The change in Prepaid Expenses will be added to net income; The change in Income Taxes Payable will be added to net income

Quizplus · Accepted Answer

According to the indirect method, changes in current assets and current liabilities are adjusted to net income to determine cash provided by operating activities. Prepaid Expenses is a current asset, so an increase in Prepaid Expenses (from $4,000 to $6,000 in this case) indicates that cash was used to pay for prepaid expenses and therefore should be subtracted from net income. Income Taxes Payable is a current liability, so an increase in Income Taxes Payable (from $0 to $3,000 in this case) indicates that cash was not yet paid for income taxes and therefore should also be subtracted from net income. Therefore, choice B is correct.

Krech Corporation's Comparative Balance Sheet Appears Below: the Company's