Cash Flow Statements

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Cash Flow Statements

• Week 3

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Purpose of cash flow statement

• IAS 7 requires enterprises to present a cash flow
  statement as part of their financial statements.
• Helps users
• Assess companys ability to generate cash cash
  equivalents
• Compare performance of companies for cash flows
  not affected by accounting policies
• Extrapolation of historic cash flows to future
  periods

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What is cash?

• CASH
• Cash at hand
• Demand deposits
• CASH EQUIVALENTS
• Bank deposits with some notice for withdrawals
• Money market investments with minimally uncertain
  outcomes

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Reconciliation

• Recommended that there should be a reconciliation
  between cash at start and at end of period
• EG
• Increase in cash 92
• Cash at start of period 104
• Cash at end of period 196

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Objective of IAS 7

• Objective of IAS 7 is to provide information on
  changes by cash and cash equivalents and to
  classify cash flow under three standard headings
  
• Operating activities
• Investing activities
• Financing activities

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Items under standard headings

• Operating Activities
• Operating profit with adjustments for
  depreciation (non-cash item)
• Profit and or losses on sale of non-current
  assets
• Interest paid
• Working capital changes i.e. increases or
  decreases in inventories, receivables and
  payables.
• Also includes outflows as interest paid,
  dividends paid and tax paid.
• Investing Activities
• Purchase of non-current assets and proceeds on
  sale of such assets.
• Financing Activities
• Proceeds on the issue of shares and loan notes
  and the redemption of certain classes of shares
  and loan notes.

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Bank Overdrafts - treatments

• Negative element of cash flow
• Financing Activity
• Increase source of finance
• Decrease repayment of borrowing

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Cash flows from operating activities

• Examples
• Cash receipts from sales
• Cash receipts from royalties and fees
• Cash payments to suppliers
• Cash payments to and on behalf of employees
  salaries, PAYE tax, NICs etc
• Cash payments of tax on profits

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Direct or Indirect

• The direct method shows each major class of gross
  cash receipts and gross cash payments.
• Cash receipts from customers xx,xxx
• Cash paid to suppliers xx,xxx
• Cash paid to employees xx,xxx
• Cash paid for other op exps xx,xxx
• Interest paid xx,xxx
• Income taxes paid xx,xxx
•   ---------
• Net cash from operating activities xx,xxx
•  

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Direct or Indirect

• The indirect method adjusts accrual basis net
  profit or loss for the effects of non-cash
  transactions.

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Indirect method basic rules

• Profit before tax
• Add depreciation/amortisation
• Add Loss on sale of asset
• Subtract profit on sale of asset
• Add decrease in inventory
• Subtract increase in inventory
• Add decrease in receivables prepayments
• Subtract increase in receivables prepayments
• Add increase in payables accruals
• Subtract decrease in payables accruals

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Cash flows from Investing activities

• Types of investing activity
• Cash payments (outflows)
• Cash to acquire property, plant equipment
• Cash to acquire intangible assets
• Cash paid for long term investment in another
  entity
• Cash receipts (inflows)
• Cash receipts from sale of property, plant
  equipment
• Cash receipts from sale of intangibles

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Cash flows from Financing activities

• Cash payments
• Payments to redeem/buy back shares
• Payments to repay loans or redeem debt
• Cash payments to lessors under finance lease
  agreement where payment reduces obligation
• Cash receipts
• Proceeds from issue of shares
• Proceeds from loan or issue of debt

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Advantages of cash flow accounting 1

• Business survival depends on ability to generate
  cash
• Cash flow accounting directs attention to this
• Cash flow is more comprehensive than profit which
  depends on accounting conventions
• Creditors are interested in entitys ability to
  repay them
• Cash flow reporting provides better means of
  comparing results of different companies than
  traditional profit reporting

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Advantages of cash flow accounting 2

• Satisfies needs of all users better
• Management relevant costs for decision making
• Shareholders auditors stewardship accounting
• Creditors employees
• Easier to prepare ( more meaningful) than profit
  forecasts
• Can be audited more easily
• Forecasts easier to monitor by variance analysis
• Disadvantage should cash equivalents be in
  there?