Chapter 16 Flashcards
1 Explain the basic function of all accounting reports
The basic function of all accounting reports is to provide the owner of the business with financial information in order to aid decision-making.
2 Explain why it is important to report on both cash and profit
Cash and profit are different measures of performance, and there are many possible reasons why a business that is earning a profit can experience a shortage of cash, or a business may be experiencing a loss yet has cash in the bank. This is why it is important to report on both cash and profit.
3 Explain the function of the Statement of Receipts and Payments.
The function of the Statement of Receipts and Payments is to detail cash received and cash paid during the reporting period, and then identify the change in the firm’s bank balance.
Operating Activities
Cash Flows related to day-to-day trading activites
Investing Activites
Cash Flows related to the purchase or sale of non current assets
Financing Activities
Cash flows related to changes in the financial structure of the firm
2 Explain how the preparation of a Cash Flow Statement can assist in decision-making.
The Cash Flow Statement can assist decision-making about the firm’s cash activities by detailing the sources and uses of cash in a particular period.
3 Explain how the preparation of a Cash Flow Statement can assist in planning for the future.
The Cash Flow Statement can assist in planning for future cash activities by providing a basis for the next budgeted Cash Flow Statement, which will set targets for the future.
4 Explain why it may be more beneficial to prepare a Cash Flow Statement rather than just a Statement of Receipts and Payments.
A Cash Flow Statement will identify Net Operating Cash Flows separately. Thus, if it is negative, the business will be unable to meet its other payments without contributions from the owner or external finance. This indicates that the business is unable to pay its own way, as it cannot rely on capital contributions and loans every period. If a business is unable to generate sufficient cash flow from its operating activities (day-to-day trading activities) to meet its financial obligations, then its future as a going concern is in serious doubt.
1 Identify the three main reasons why the change in a firm’s cash position may be different from its profit over the same period.
- Some cash items do not affect profit.
- Some profit items do not affect cash.
- Some items affect both cash and profit, but by differing amounts
2 Identify two cash inflows that are not revenues. Explain the effect these items will have on both bank and Net Profit.
- Cash capital contribution
- Receipt of loan
- GST refund
These items are cash inflows that increase bank; however, they are not revenues, and so have no effect on Net Profit.
3 Identify three cash outflows that are not expenses. Explain the effect these items will have on both bank and Net Profit.
- Cash drawings
- Loan principal repayment
- Cash purchase of a non-current asset
- GST settlement
All these items are cash outflows that decrease bank; however, they are not expenses so have no effect on Net Profit.
4 Explain how a stock gain might explain how a firm can earn profit despite suffering a cash deficit
Stock gain represents a gain of stock, not cash, and so is not reported in the Cash Flow Statement. It is a revenue that increases Net Profit but is not a cash outflow so has no effect on bank. This can lead the firm to earn a profit despite suffering a cash deficit.
5 Identify three items that will be reported as expenses in the Income Statement, but will not be reported in the Cash Flow Statement.
- Depreciation
- Stock loss
- Any expense incurred but not yet paid
6 Explain the effect on both cash and profit if:
- credit sales is greater than receipts from debtors – the revenue (credit sales) increases profit more than the corresponding cash inflow (receipts from debtors) increases cash
- cost of sales is greater than payments to creditors/cash purchases of stock – the expense (cost of sales) decreases profit more than the corresponding cash outflow (payments to creditors /cash purchases of stock) decreases cash
- expenses are prepaid for the next reporting period – the cash paid for the expense will decrease cash more than the corresponding ‘expense incurred’ decreases profit.
