SUBJECT: FINANCIAL ACCOUNTING! !

F3

Statement of Cash Flow

What is the purpose of a Statement of Cash Flow?

★ A statement of cash flows shows the effect of an entity’s commercial transactions on its
cash balance.

★ In simple words, cash flow is: the inflows and outflows of cash and cash equivalents

★ I/S and SOFP can be manipulated by using different accounting policies, so the SOCF
will show you what is moving in and out of the company in actual cash.

★ Very useful for potential investors as it gives them the chance to evaluate a business
because of investment appraisal methods which use cash flows.

IAS 7: Statement of Cash Flows

There are three headings that split up the SOCF:

Cash flows from operating activities - Related to the main revenue economic activities of the entity
- Not investing or financing
- eg cash received from customers or cash paid to supplier

Cash flows from investing activities - Acquisition and disposal of long term assets and other
investments
- Not considered to be cash equivalents
- eg investments in other companies or non-current assets

Cash flows from financing activities - Anything related to getting finances into the entity
- eg loans, shares, debentures

A couple of additional key terms:

Cash means what you have physically got in your hand or what is sitting in the bank that you are able to get
your hands on immediately (in other words the back account is a current [or checking] account).

Cash equivalents are short term, highly liquid investments. You can cash them in for a known amount of
cash very quickly. The risk that these investments will change in value are quite low.

Cash Flows from Operating Activities

★ There are two ways of doing this first section: the direct method, or the indirect method.

★ The only difference between the two is how we derive the “Cash Generated from
Operations”

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INDIRECT METHOD DIRECT METHOD

Generally much easier to obtain necessary Encouraged when necessary info is not too costly
information for, so much more commonly used. to obtain, IAS 7 does not demand it.

$m $m
Net profit before taxation 3570 Cash receipts from customers 30,330
Adjustments for: Cash paid to suppliers and employees (27,600)
Depreciation 450 Cash Generated from Operations 2730
Investment Income (500)
Interest Expense 400
Operating profit before working capital exchanges: 3920
Increase in trade + other receivables (500)
Decrease in inventories 1050
Decrease in trade payables (1740)
Cash Generated from Operations 2370

Preparing an SOCF
★ There are two ways to prepare a Statement of Cash Flow, but both involve learning the
layout of the statement. Although you won’t have to recreate an SOCF in the F3 exam,
you still need to know the layout to answer questions.

★ Use the IAS 7 pro-forma at the end of this document and sit down and keep writing it out
until you can do it without looking!

1 Write out the pro-forma for the Statement of Cash Flow (the one you just learnt the layout
E P
ST of!!)

2 Here is the choice:

P
S TE
Work through the SOFP and I/S line by line and put relevant figures into the SOCF as
you get to them;

OR

Work through the SOCF line by line and look for the relevant figures in the SOCF.

3 Which ever way you work through them, you will come across a few figures that will need
E P
ST to be worked out. The easiest way is probably just by opening a T-account and putting in
the relevant info to get the answer (or do it in your calculator if you can!)

eg In Operating Activities, one line is Tax Paid:

Tax
Balance b/d! *1
Change for Yr!*3
Tax Paid! *4
Balance c/d ! *2 ! ! !
! ! Total ! ! Total
Balance c/d! *2

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*1! Tax payable from SOFP - last year’s figure

*2! Tax payable from SOFP - this year’s figure
*3! Tax expense from I/S
*4! From the totals you can work out what the actual tax paid was...

OR

You could just go: *1 + *3 - *2 = *4 in your calculator - whichever you find more
comfortable!

4 Once you have been through and input all the figures, you can check your work. Look at
E P
ST the last two entries in the SOCF: Cash and cash equivalents at beginning of yr and end
of yr. These figures are both on your SOFP under Bank (current assets). So you can
either put them in at the beginning, or do all your workings and add the 3 sections up to
hopefully get the same figures!

Important Notes
You’ll notice in the Operating Activities section that we have to add, or take away in the right way
depending on whether you have an increase or a decrease in trade receivables, trade payables
and inventories.

If you want to just learn it, here is a table, however, I strongly recommend that you learn how to
reason your way to the answer because it will help in the future - it’s not difficult:

! ! ! ! ! ! ! ! $
Trade Receivables: ! ! Increase! Less! ! (X)
! ! ! ! Decrease! Add! ! X

Trade Payables:! ! Increase! Add! ! X

! ! ! ! Decrease ! Less! ! (X)

Inventory ! ! ! Increase! Less! ! (X)

! ! ! ! Decrease! Add! ! X

Trade receivables:! ! An increase is treated as a negative because more cash is being

! ! ! ! used in credit customers.

Trade Payables:! ! An increase is treated as a positive because cash is remaining with

! ! ! ! the entity instead of going out to settle accounts.

Inventory:! ! ! Like TR, an increase is treated as a negative because more cash

! ! ! ! was spent on the additional inventory.

BASICALLY: If money is leaving the entity or not coming in when it should, it will decrease the
amount of cash in the entity, if money comes in, or remains with the company when it should have
gone out, it will increase the amount of cash in the entity.

Sources
★ BPP Study Materials for December 2010 exams
★ IASplus.com (Deloitte’s online learning thing!)

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Elyse’s Accounting Notes Co

STATEMENT OF CASH FLOWS
for year ended 31 December 2009
$m $m

Cash Flows from Operating Activities 3,390

Profit before taxation
Adjustment for: 450
Depreciation (500)
Investment income 400
Interest expense 3,740
(500)
Increase in trade receivables 1,050
Decrease in trade payables (1,740)
Decrease in inventory 2,550
Cash Generated from Operations (270)
Interest paid (900)
Income taxes paid

Net cash from Operating Activities 1,380

Cash Flows from Investing Activities (900)

Purchase of property, plant and equipment 20
Proceeds from sale of equipment 200
Interest received 200
Dividends received

Net cash used in Investing Activities (480)

Cash Flows from Financing Activities 250

Proceeds from issue of share capital 250
Proceeds from long-term borrowings (1,290)
Dividends paid

Net cash used in Financing Activities (790)

Net increase in cash and cash equivalents 110

Cash and cash equivalents at 1 Jan 2009 120
Cash and cash equivalents at 31 Dec 2009 230

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