Week 7 Flashcards
The purpose of the
statement of cash flows
The statement of cash flows:
• evaluate the entity’s financial structure, including its liquidity and
solvency
• assess the entity’s ability to generate cash in the future and enable
predictions of future cash flows to be made
• check the accuracy of past assessments of future cash flows, and
• examine the relationship between profitability and net cash flow
• Cash is the life-blood of any business and without it survival is very
unlikely
2 methods
Direct method
Indirect method
Direct Method
Determines the gross and net cash flows from operating,
investing and financing activities in relation to the
opening and closing cash at bank balance
Indirect Method
Reconciles the operating profit to the cash flow from
operating activities by examining the increase and
decreases in current assets and liabilities
Direct and indirect method
Both the indirect and direct methods will yield the same net cash flows
from operating activities.
AASB 107 permits either the direct or the indirect method but
‘encourages’ the direct method.
When using the direct method a reconciliation of cash flows from
operations to profits is required.
Statement of cash flows- 3 Sections
Operating activities
Investing Activities
Financing Activities
Operating activities
inflows from customers and
outflows to suppliers of all goods and services, with
payments of tax and interest received and paid
shown separately
Investing Activities
outflows from purchasing noncurrent
assets and inflows if non-current assets are
sold
Financing Activities
inflows from long term
borrowing or capital contributions by owners, and
outflows from loan repayments and withdrawals by
owners
The basic structure of the statement
+/- Cash flows provided (used) by operating activities
+/- Cash flows provided (used) by investing activities
+/- Cash flows provided (used) by financing activities
– Net increase (decrease) in cash
+ Cash, beginning of year
– Cash, end of year
Analysis of cash and other records
Step 1: Ascertain net cash provided from operating activities
Step 2: Ascertain net cash provided from investing activities
Step 3: Ascertain net cash provided from financing activities
Step 4: Ascertain net cash increase (decrease) for the year
Step 5: Reconcile cash at end of year with
beginning of year
Preparing the statement of cash flows
In order to explain a company’s change in cash, you must explain the
changes in the company’s non-cash accounts. To do that, you need the
following items:
• a comparative statement of financial position (balance sheet)
• an statement of comprehensive income (income statement)
• additional information on changes in account balances
Reporting cash flows from operating
activities: direct method
• When reporting operating cash flows under the direct method,
companies calculate and report cash receipts from operating activities
and cash payments for operating activities.
• Cash receipts are calculated by converting revenues from the income
statement to cash collections.
• Cash payments are calculated by converting expenses from the
income statement to cash payments.
Cash receipts from customers
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Cash paid to suppliers
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Cash paid for insurance
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Cash paid for wages
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Adjustments for gains and losses from
investing and financing activities
• Profit may include a gain or loss arising from an investing or financing
activity e.g. a loss from the sale of equipment or a gain from the early
retirement of debt.
• The entire cash inflow associated with the transaction will be reported
as either an investing or financing cash flow.
• The effect of the gain or loss must be removed from net income so
that operating cash flows are not affected by the transaction.
Calculate the amount of cash paid to suppliers of
services (including employees) during 2017.
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Calculating cash flows from investing activities
• To calculate cash flows from investing activities, all changes in noncurrent
assets must be examined.
• In general, an increase in a non-current asset suggests a purchase
and therefore a cash outflow.
• A decrease suggests a sale and therefore a cash inflow.
Types of investing inflows of cash
• Cash flows from investing activities include cash inflows from the sale
of property, plant and equipment (PPE), and the sale of securities
(shares and bonds) of other companies
• Cash outflows include the purchase of PPE, and the purchase of
shares
Calculating cash flows from financing activities
• To calculate cash flows from financing activities, the balances for
non-current liabilities, equity accounts and dividends must be
examined.
• In general, an increase in a liability or an equity account suggests a
cash inflow.
• A decrease in a liability suggests a cash outflow from payments to
creditors.
Analysing a company’s statement of cash flow
• The statement of cash flows can be used to answer many questions
about a company’s cash.
• Two of the broader questions that can be addressed are as follows:
✓ Is the company able to generate enough cash to grow? And
✓ Is the company able to satisfy its obligations?
Analysing a company’s statement of cash flow 2
• explain the changes to cash and cash equivalents
• explain the effect of operating activities on cash
• explain the effect of financing and investing
activities
• comparison to position in prior periods
