Peoria Corp. just completed another successful year, as indicated by the following income statement:
For the Year Ended
December 31, 2012
Sales revenue......................................................................$1,250,000
Cost of goods sold....................................................................700,000
Gross profit.................................................................$ 550,000
Operating expenses...................................................................150,000
Income before interest and taxes........................................$ 400,000
Interest expense.........................................................................25,000
Income before taxes.......................................................$ 375,000
Income tax expense..................................................................150,000
Net income................................................................$ 225,000
Presented here are comparative balance sheets:

Other information is as follows:
a. Dividends of $60,000 were declared and paid during the year.
b. Operating expenses include $50,000 of depreciation.
c. Land and plant and equipment were acquired for cash, and additional stock was issued for cash. Cash also was received from additional bank loans.
The president has asked you some questions about the year's results. She is very impressed with the profit margin of 18% (net income divided by sales revenue). She is bothered, however, by the decline in the company's cash balance during the year. One of the conditions of the existing bank loan is that the company maintain a minimum cash balance of $50,000.
Required
1. Prepare a statement of cash flows for 2012 using the direct method in the Operating Activities section.
2. On the basis of your statement in part (1), draft a brief memo to the president to explain why cash decreased during such a profitable year. Include in your explanation any recommendations for improving the company's cash flow in future years.

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December 31 2012 2011 Cash Accounts receivable Inventory Prepayments S 52,000 90,000 130,000 200,000 25,000 S 477,000 445,000 S 750,000 $600,000 500,000 180,000 230,000 15,000 Total current assets Land Plant and equipment Accumulated depreciation 700,000 (250,000) (200,000) Total long-term assets $1,200,000 $ 900,000 $1,677,000 $1,345,000 S 130,000 148,000 63,000 110,000 $ 288,000 321,000 S 350,000 300,000 S 550,000 400,000 324,000 $1,039,000 724,000 $1,677,000 $1,345,000 Total assets Accounts payable Other accrued liabilities Income taxes payable 68,000 90,000 Total current liabilitie:s Long-term bank loan payable Common stock Retained earnings 489,000 Total stockholders' equity Total liabilities and stockholders' equity