Statements of Cash Flows

YouTube video

1 Introduction

Companies are required by IAS 7 Statements of Cash Flows to include a Statement of Cash Flows in their financial statements.

In this chapter we will look at the required format and explain how to prepare a Statement of Cash Flows.

2 Description

A Statement of Cash Flows is simply a summary of the cash receipts and payments. The purpose is to provide users of the financial statements with more information than is provided just by the Statement of Profit or Loss and Statement of Financial Position.

For example, the company may have issued shares during the year, but the cash balance at the end of the year may be lower than at the end of the previous year. An ordinary shareholder may be puzzled by this, but maybe the explanation is that the company had very large expenditure on non-current assets. To you as an accountant, this may be obvious from inspection of the Statement of Financial Position, but a Statement of Cash Flows will make it more obvious to the shareholder.

3 The indirect method

There are two approaches allowed in preparing a Statement of Cash Flows – the direct method and the indirect method. We will look at the indirect method first which is more common in practice.

Statement of Cash Flows - PROFORMA

X plc Statement of Cash Flows for the year ended 31 December 2008

	$	$
Cash flows from operating activities
Net profit before taxation	x
Adjustments for:
Depreciation	x
Profit on sale of non-current assets	(x)
Interest expense	x
Op. profit before working cap. changes	x
Increase in accounts receivable	(x)
Increase in inventories	(x)
Increase in accounts payable	x
Cash generated from operations	x
Interest paid	(x)
Dividends paid	(x)
Taxation paid	(x)
Net cash from operating activities		x

Cash flows from investing activities
Purchase of non-current assets	(x)
Sale proceeds of non-current assets	x
Interest received	x
Dividends received	x
Net cash from investing activities		x

Cash flows from financing activities
Proceeds from issue of shares	x
Repayment of debenture loan	(x)
Net cash from financing activities		x

Net increase in cash & cash equivalents		x
Cash and cash equivalents b/f		x
Cash and cash equivalents c/f		x

YouTube video

Blair Limited -Statement of Financial Position as at 31 December 2008

	2008		2007
	$	$	$	$
ASSETS
Non-current assets		545,000		410,000
Current assets:
Inventories	90,000		81,000
Receivables	83,000		75,000
Cash	45,000		64,000
		218,000		220,000
		763,000		630,000

EQUITY AND LIABILITIES
Capital and reserves:
$1 ordinary shares		150,000		100,000
Share Premium Account		20,000
Accumulated profits		476,000		431,000
		646,000		531,000
Current liabilities:
Trade payables	97,000		69,000
Corporation tax payable	20,000		30,000
		117,000		99,000
		763,000		630,000

	$
Turnover	1,000,000
Cost of sales	700,000
Gross profit	300,000
Administrative expenses	199,000
Operating profit	101,000
Interest	1,000
Profit before tax	100,000
Tax	39,000
Profit after tax	$61,000

Non-current asset
Balance b/f	410,000	Depreciation	40,000
Acquisitions	195,000	Disposals	20,000
(balancing figure)
		Balance c/f	545,000
	605,000		605,000

Statement of Cash Flows

	$	$
Cash flows from operating activities
Operating profit	101,000
Depreciation	40,000
Profit on sale of non-current assets	(10,000)
	131,000
Increase in inventories	(9,000)
Increase in receivables	(8,000)
Increase in payables	28,000
Cash generated from operations	142,000
Interest paid	(1,000)
Taxation paid	(49,000)
Dividends paid	(16,000)
Net cash from operating activities		76,000

Cash flows from investing activities
Purchase of non-current assets	(195,000)
Sale of non-current assets	30,000
		(165,000)

Cash flows from financing activities
Proceeds from issue of shares	70,000
Net cash from financing activities		70,000

Net decrease in cash		(19,000)
Cash and cash equivalents b/f		64,000
Cash and cash equivalents c/f		45,000

4 The direct method

In the previous paragraph, where we used the indirect method, we established the cash flow from operations by taking the profit from the Statement of Profit or Loss and working backwards – eliminating non-cash items and adjusting for changes in working capital.

The alternative approach is to calculate the cash flow from operations directly by taking the cash receipts from customers and deducting the cash payments. This is known as the direct method. (Note that the rest of the Statement of Cash Flows stays the same as before.)

The layout for arriving at the cash flow from operations is as follows:

Cash received from customers	x
Cash payments to suppliers	(x)
Cash paid to and on behalf of employees	(x)
Other cash payments	(x)
Net cash inflow from operating activities	x

YouTube video

Gatis has the following Statement of Profit or Loss for the year ended 31 December 2007:

	$
Revenue	1,200,000
Cost of sales	(840,000)
Gross profit	360,000
Distribution and administrative expenses	(120,000)
Net profit before tax	240,000

	2007	2006
	$	$
Current assets
Inventory	160,000	140,000
Trade receivables	259,000	235,000
Current liabilities
Trade payables	168,000	138,000

You are given the following further information:

expenses include depreciation of $36,000, irrecoverable debts written-off of $14,000 and employment costs of $42,000
during the year Gatis disposed of a non-current asset for $24,000 which had a book value of $18,000, the profit on which had been netted off expenses.

You are required to show:

how the cash generated from operations would be presented on the Statement of Cash Flows using the indirect method.
how the cash generated from operations would be presented on the Statement of Cash Flows under the direct method.

Direct Method

	$
Cash received from customers	1,162,000
(235,000 + 1,200,000 – 259,000 – 14,000)
Cash paid to suppliers	(830,000)
(840,000 + 160,000 – 168,000 – 140,000 + 138,000)
Cash paid to employees	(42,000)
Other cash payments
(120,000 – 36,000 – 42,000 + 6,000 – 14,000)	(34,000)
	$256,000

Indirect Method

	$
Operating profit	240,000
Depreciation	36,000
Profit on sale	(6,000)
	270,000
Increase in Inventory	(20,000)
Increase in Receivables	(24,000)
Increase in Payables	30,000
	$256,000

Answer the questions one at a time. Your progress is saved so you can leave and come back.

Open chapter practice