Hi WSO,
I am trying to understand my accounting technicals for a long time and I have always struggled with the accounting side of IB questions. I am comfortable with valuation questions, merger, and LBO questions. But it seems the "easy" accounting questions always throw me off.
Could someone explain to me how an increase in $100 in cost of goods sold affects 3 financial statements?
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I/S- Pre-tax income down by $100. With 30% marginal tax rate, net income is down $70.
CFS- Net income going down $70 flows into cash flow from operations. There is also a change in working capital as inventory is reduced by $100. Remember that a COGS increase (debit) corresponds to a decrease (credit) in inventory. Reductions in current assets are a cash inflow. So in CFO, we have -$70 and +$100. CFO up by $30. No changes in investing or financing section, so net increase in cash is $30.
B/S- Cash is up $30 and inventory is down $100. Net change in assets is down $70. Net income flows into retained earnings, which is also down by $70. Assets went down by $70 and stockholders equity went down by $70, so we are balanced.
Thanks.
How does a COGS increase result in a decrease of inventory? Especially since your reduction of $100 of COGS leads to a reduction of inventory by $100?
Inventory when sold, reduces to zero and cost of keeping/making that inventory is expensed as cogs in the IS
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