Cash flow statement- IAS7

IAS 7 requires enterprises to present a cash flow statement as part of their financial statements.

A cash flow statement is needed as a consequence of the difference between profits and cash and thus provides the user with a mechanism for:

l assessing the current liquidity of a business activities

l providing an overview of the major sources of cash inflow and out flow from the business

l a guide to estimate future cash flows

l determining cash flows generated from trading as opposed to other sources of finance

IAS 7 is to provide information on changes by cash and cash equivalents and to classify cash flow under three standard headings:

l Operating activities

l Investing activities

l Financing activities

What items comprise these standard headings and thus net cash flow ?

Operating activities

Operating profit with adjustments for

-depreciation (non-cash item)

-profit and or losses on sale of non-current assets

-interest paid

Together with working capital changes i.e.

-increases or decreases in inventories, receivables and payables**

-outflows as interest paid, dividends paid and tax paid.

increase in inventories, receivables-- cash outflow

decrease in inventories, receivables-- cash inflow

increase in payables -- cash inflow

decrease in payables -- cash outflow

Investing Activities

Purchase of non-current assets and proceeds on sale of such assets.

Financing Activities

-Proceeds on the issue of shares

-loan notes

-redemption of certain classes of shares and loan notes.

We can now consider and example of the preparation of a cash flow statement in accordance with IAS7

Cash and cash equivalents

'cash' means cash on hand and deposits available on demand

'cash equivalent' means short-term highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes in value.

Two alternative methods of calculation:

Direct method: -It records the gross trading cash flows.

-The information for this method could be found in the accounting records or derived from the other financial statements.

e.g.

Cash received from customers

Cash payments to suppliers

Cash paid to and on behalf of employees

Other cash payments

Net cash inflow from operation activities

Indirect method: - It starts with profit, not cash and adjusts profit for the non-cash expense of depreciation and for the movements in working capital items.

- The information for the indirect method is found in the other financial statements.