Cash flow statement

Chapter 6

What is meant by cash flows?

The inflows and outflows of cash and cash equivalent

What is meant cash equivalents?

Short-term, highly liquid investments that are readily convertible to known amounts of cash which are subject to an insignificant risk of changes in value

What is a cash flow statement?

It shows the:

• movements in the cash balance of the company during the accounting period

• the manner in which cash has been generated and used during the year

• the effect on cash flows of an entity’s operating, investing and financing activities for a given period

• provides information that assists in the assessment of liquidity, solvency and financial adaptability

Why is cash flow statement important ?

The adequate liquidity and cash availability are vital to the successful operation of a business. Cash flow statements focus on cash movements over the reporting period and therefore facilitate prediction of possible cash movements in the future.

What is the relationship between cash flow statement and income statement?

The income statement shows the profit, whereas the cash flow statement shows the change is cash. Profit is only one source of cash.

What is the relationship between cash flow statement and statement of financial position?

The statement of financial position is a list of assets, liabilities and equity at the end of the year, whereas cash flow statement identifies the effect on cash of the changes in assets, liabilities and capital during the accounting year

What is the standard layout for a statement of cash flows?

1. Cash flows from operating activities

   plus or minus

2. Cash flows from investing activities

   plus or minus

3. Cash flows from financing activities

   equals

4. Net increase/decrease in cash and cash equivalents over the period

What are operating activities?

The principal revenue-producing activities of the entity and the other activities that are not investing or financial activities. The cash flows from these are primarily made up of the net increase/decrease as a result of normal trading activities

What are cash flows from investing activities?

Cash flows related to acquiring or disposing of long-term assets that are reported in the investing activities of the statement of cash flows

What are cash inflows from investing activities?

Cash receipts from selling property, plant, equipment, or marketable securities

What are cash outflows from investing activities?

Cash payments for purchasing property, plant, equipment or marketable securities

What are cash flows from financing activities?

Cash flows related to borrowing (short or long-term) and stockholders’ equity which are reported in the financing activities section of the statement of cashflows

What are cash inflows from financing activities?

Cash received from borrowing money and issuing stock

What are cash outflows from financing activities?

Cash payments to repay debt and/or to buy back stock

What is the direct method?

Involves analysis of cash records of the business for the accounting period and identifying all cash payments and receipts related to operating activities

What is the indirect method?

It involves adjusting the profit or loss before tax for:

• the effects of transactions of a non-cash nature, such as depreciation

• cash receipts or payments related to changes in working capital

• Items of income or expense associated with investing or financial cash flows

What happens according to the indirect method if assets go up?

Cash flows go down and vice versa

What happens according to the indirect method if liabilities (including equity) goes up?

Cash flows go up and vice versa

What are some uses of a statement of cash flows

• To enable users to see how the various activities have been financed

• To explain how there can be a profit but a decrease in cash (or vice versa)

• To show the reasons for the difference between profit and its associated cash flows

• To assist users in making judgements on the amount, timing and degree of certainty of future cash flows and thus the ability of the entity to:

  pay its debts

  pay interest and dividends

  continue without the need for extra external finance