Cash Flow Statement – Conceptual Framework

Paper 3B: Financial Management Chapter 3 Unit II

CA B. Hari Gopal B.com, PGDBA, FCA, FCMA, DISA(ICAI), PMP (PMI, USA), EPBM (IIMC), MCT

Learning Objectives

1. Concept of Cash Flow statement (as per Revised AS 3)1. Concept of Cash Flow statement (as per Revised AS 3)

2. Format of Cash Flow Statement2. Format of Cash Flow Statement

3. Preparation and Presentation of Cash Flow Statement3. Preparation and Presentation of Cash Flow Statement

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Introduction to Cash Flow Statement•Introduction •Background•Important terms

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Cash Flow - Introduction

1. A statement which discloses the changes in the position of cash and cash equivalents between two periods.

1. A statement which discloses the changes in the position of cash and cash equivalents between two periods.

2. According to Revised AS 3 – issued by ICAI, an organization should prepare a cash flow statement and present it for each period

2. According to Revised AS 3 – issued by ICAI, an organization should prepare a cash flow statement and present it for each period

3. Revised AS 3 deals with the provision of information about changes in cash and cash equivalents of an enterprise by means of Cash Flow statement

3. Revised AS 3 deals with the provision of information about changes in cash and cash equivalents of an enterprise by means of Cash Flow statement

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Cash Flow - Background

1. Cash flow statement is an important tool for short term analysis1. Cash flow statement is an important tool for short term analysis

2. It ascertains the changes in balance of cash in hand and at bank. 2. It ascertains the changes in balance of cash in hand and at bank.

3. Also analyses the reasons for such changes3. Also analyses the reasons for such changes

4. Two areas of analysis are – Cash generating efficiency and free cash flow4. Two areas of analysis are – Cash generating efficiency and free cash flow

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Cash Flow – Important Terms

1• Cash – cash on hand and demand deposits with banks

2• Cash equivalents – short term, highly liquid investments that

are readily convertible in to known amounts of cash and which are subject to insignificant risk of changes in value (example – Government securities)

3• Cash flow – inflows and outflows of cash and cash

equivalents

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Classification of Cash Flows

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Cash Flow - Classification

1• Cash flow from Operating Activities

• Principal revenue generating activities

2• Cash flow from Investing Activities

• Acquisition and disposal of long term assets and other investments not included in cash equivalents

3• Cash flows from Financing activities

• Activities that has an impact of owner’s capital and borrowings

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1. Cash Flow from Operating Activities

Cash receipts from sale of goods or services

Cash payments to suppliers

Cash payment to employees

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2. Cash flow from Investing Activities

Cash payment to acquire

fixed assets including

intangibles

Cash receipts from disposal of fixed assets

Cash payment to acquire

shares, debt instruments of

other companies,

etc

Cash receipts form disposal

of shares, debentures,

etc

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3. Cash Flows from Financing activities

Cash proceeds from issuing shares, debentures, etc

Cash repayments of amounts borrowed - debentures

Payment of dividend

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Cash Flows – Special Items

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Foreign Currency & Extraordinary Items

• To be disclosed separately as arising from operating / investing / financing activities

• Unrealized gains or losses from foreign exchange transactions are not cash flows

Foreign Currency

Cash Flows

• To be disclosed separately as arising from operating / investing / financing activities

• Examples – Insurance claims, Bad debt recovered, etc

Extraordinary items

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Interest and Dividends – Financial Enterprises

• Interest Paid• Cash flow from

Operating activities

• Interest Received and Dividend Received• Cash flow from

Operating activities

Financial enterprises

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Interest and Dividends – Other Enterprises

• Interest Paid on Long Term borrowings• Cash flow from Financing

Activities

• Interest Paid on Working Capital borrowings• Cash flow from Operating

activities

• Interest Received and Dividend Received• Cash flow from Investing activities

Other Enterprises

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Dividends Paid

• Dividend Paid• Cash flow from

Financing activities

In all cases

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Taxes and Acquisition/ Disposition

• Should be separately disclosed under Operating activities unless identified, otherwise

Taxes on Income

• Should be separately disclosed under Investing activities

Acquisition and disposition of subsidiaries and other

business units

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Non Cash Transactions

• Investing and financing transactions that do not require the use of cash or cash equivalents should be excluded from cash flow statement

• Example – Purchase of Fixed Assets by Issue of Shares / Debentures

Non-cash transactions

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Cash Flow StatementInformation Required for preparation

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Cash flows – Information Required

1. Comparative Balance Sheets

2. Profit and Loss Account

3. Additional information

Availability of 2 and 3 are optional

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Cash Flow StatementTwo Methods – Direct & Indirect

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Financial Statements

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Generally prepared on accrual basis of accounting where in

• Net Income does not mean net cash received or

• Net Loss does not mean net cash used in operating activities.

Cash Flow from Operating Activities

Cash from Operating activities can be

reported in two ways

Direct Method

Indirect Method

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Cash Flow Statement – Direct Method

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A: Cash flow from Operating Activities• Cash receipts from customers• Less: Cash paid to suppliers and employees• Cash generated from operations• Less: Income tax paid• Cash flow before extraordinary item• Add: Proceeds from earthquake disaster settlement• Net cash from Operating Activities

B: Cash flow from investing activities

C: Cash flow from Financing activities

Net Increase (Decrease) in Cash and Cash equivalents (A + B + C)

Cash and Cash equivalents at the Beginning of the period

Cash and Cash equivalents at the End of the period

Cash Flow Statement – Direct Method Continued

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A: Cash flow from operating activities

B: Cash flow from investing activities

• Purchase of fixed assets• Sale of fixed assets• Interest Paid• Net cash from Investing Activities

C: Cash flow from financing activities

Net Increase (Decrease) in Cash and Cash equivalents (A + B + C)

Cash and Cash equivalents at the Beginning of the period

Cash and Cash equivalents at the End of the period

Cash Flow Statement – Direct Method Continued

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A: Cash flow from operating activities

B: Cash flow from investing activities

• Proceeds from issue of shares / Long Term borrowings• Repayment of Long Term borrowings• Dividend Paid• Net cash from Financing Activities

C: Cash flow from financing activities

Net Increase (Decrease) in Cash and Cash equivalents (A + B + C)

Cash and Cash equivalents at the Beginning of the period

Cash and Cash equivalents at the End of the period

Cash Flow Statement – Indirect Method

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A: Cash flow from operating activities• Net Profit before tax and extraordinary items• Adjustments for:

• Depreciation• Gain or Loss on sale of fixed assets• Interest / Dividend

• Operating profit before working capital changes• Adjustments for Increase / Decrease in

• Receivables• Inventories• Payables

• Cash generation from operations• Less: Interest paid• Less: Direct Taxes paid

• Net cash from Operating Activities

Cash Flow Statement – Indirect Method Continued

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A: Cash flow from operating activities

B: Cash flow from investing activities

• Purchase of fixed assets• Sale of fixed assets• Interest Paid• Net cash from Investing Activities

C: Cash flow from financing activities

Net Increase (Decrease) in Cash and Cash equivalents (A + B + C)

Cash and Cash equivalents at the Beginning of the period

Cash and Cash equivalents at the End of the period

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A: Cash flow from operating activities

B: Cash flow from investing activities

• Proceeds from issue of shares / Long Term borrowings• Repayment of Long Term borrowings• Dividend Paid• Net cash from Financing Activities

C: Cash flow from financing activities

Net Increase (Decrease) in Cash and Cash equivalents (A + B + C)

Cash and Cash equivalents at the Beginning of the period

Cash and Cash equivalents at the End of the period

Cash Flow Statement – Indirect Method Continued

Practical IllustrationsExample 1: Direct Method

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Example 1: Balance Sheet and P&L Account31

Balance Sheet of M Co limited as on 31‐Mar‐2011

31.03.2010 31.03.2011 31.03.2010 31.03.2011Liabilities Rs in 000 Rs in 000 Assets Rs in 000 Rs in 000Share Capital 360 444 Land 48 96Retained Earnings 151.8 163.8 Buildings & Equipments 360 576Accounts payable 240 234 Cash 60 72Outstanding expenses 24 48 Receivables 168 186Income tax payable 12 13.2 Inventories 264 96Accumulated Depn 120 132 Advances 7.8 9

907.8 1035 907.8 1035

Profit and Loss Account for the year ended 31‐Mar‐2011Rs in 000

Net Sales 2520Less: COGS 1980Depreciation 60Salaries and wages 240Operating expenses 80Provision for tax 88 2448Gross Profit 72

Profit on sales of equipment (Cost: 72) 1284

Dividend 72Retained Earnings 12

Example 1: Identification of Working Notes

Cash Receipts

from Customers

Cash Payments

to Suppliers

and Employee

s

Income Tax Paid

Investment in purchase of Building

and Equipments

Receipts from Sales of Equipments

(for this purpose we

need to know the

Accumulated Depreciation of Equipment

sold)

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Example 1: Direct Method – Working Note 1

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Working Note:1 (Rs. In 000)Cash Receipts from CustomersNet Sales 2520Add: Opening Receivables 168

2688Less: Closing Receivables 186

2502

Example 1: Direct Method – Working Note 2

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Working Note:2 (Rs. In 000)Cash Paid to Suppliers and EmployeesCOGS 1980Salaries and Wages 240Operating Expenses 80

2300Add:Opening Accounts Payable 240

Opening Outstanding Expenses 24Closing Inventories 96Closing Advances 9 369

2669Less:Closing Accounts Payable 234

Closing Outstanding Expenses 48Opening Inventories 264Opening Advances 7.8 553.8

2115.2

Example 1: Direct Method – Working Note 3

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Working Note:3 (Rs. In 000)

Income Taxes Paid

Provision for Tax during the year 88

Add: Opening Income Tax payable 12

100

Less: Closing Income Tax payable 13.2

86.8

Example 1: Direct Method – Working Note 4

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Working Note:4 (Rs. In 000)

Purchase of Buildings and Equipments

Opening Balance of Building and Equipments 360

Less: Cost of sold Equipment 72

288

Closing Balance of Building and Equipments 576

Purchase of Building and Equipments 288

Example 1: Direct Method – Working Note 5

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Working Note:5 (Rs. In 000)

Accumulated Depreciation on Equipments sold

Accumulated Depreciation ‐ Opening  120

Add: Depreciation during the year 60

180

Less: Accumulated Depreciation ‐ Closing  132

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Example 1: Direct Method – Working Note 6

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Working Note:6 (Rs. In 000)

Cash Receipts from Sale of Equipments

Cost of sold Equipment 72

Accumulated Depreciation on Equipments sold 48

Written Down Value of Equipment sold 24

Add: Profit on sales 12

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Example 1: Direct Method - Solution39

CASH FLOW STATEMENT

(Rs. In 000)

Cash flows from Operating activities:

Cash Receipts from Customers 2502

Cash Paid to Suppliers and Employees 2115.2

Cash Generated from Operations 386.8

Less: Income Tax Paid 86.8

Net Cash from Operating activities 300

Example 1: Direct Method – Solution - Continued

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(Rs. In 000)

Cash flows from Investing activities:

Purchase of Land 48

Purchase of Building and Equipment 288

336

Cash received on sale of Equipment 36

Net Cash from Investing activities (300)

Example 1: Direct Method – Solution - Continued

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(Rs. In 000)

Cash flows from Financing activities:

Issue of Shares 84

Dividend Paid 72

Net Cash from Financing activities 12

Net increase in Cash and Cash equivalents 12

Cash and Cash equivalents at the beginning  60

Cash and Cash equivalents at the end 72

Practical IllustrationsExample 2: Indirect Method

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Example 2: Balance Sheet and P&L Account43

Balance Sheet of M Co limited as on 31‐Mar‐2011

31.03.2010 31.03.2011 31.03.2010 31.03.2011Liabilities Rs in 000 Rs in 000 Assets Rs in 000 Rs in 000Share Capital 360 444 Land 48 96Retained Earnings 151.8 163.8 Buildings & Equipments 360 576Accounts payable 240 234 Cash 60 72Outstanding expenses 24 48 Receivables 168 186Income tax payable 12 13.2 Inventories 264 96Accumulated Depn 120 132 Advances 7.8 9

907.8 1035 907.8 1035

Profit and Loss Account for the year ended 31‐Mar‐2011Rs in 000

Net Sales 2520Less: COGS 1980Depreciation 60Salaries and wages 240Operating expenses 80Provision for tax 88 2448Gross Profit 72

Profit on sales of equipment (Cost: 72) 1284

Dividend 72Retained Earnings 12

Example 2: Identification of Working Notes

Income Tax PaidInvestment in purchase

of Building and Equipments

Receipts from Sales of

Equipments (for this purpose we need to know

the Accumulated Depreciation of Equipment sold)

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Example 1: Indirect Method – Working Note 1

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Working Note:1 (Rs. In 000)

Income Taxes Paid

Provision for Tax during the year 88

Add: Opening Income Tax payable 12

100

Less: Closing Income Tax payable 13.2

86.8

Example 1: Indirect Method – Working Note 2

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Working Note:2 (Rs. In 000)

Purchase of Buildings and Equipments

Opening Balance of Building and Equipments 360

Less: Cost of sold Equipment 72

288

Closing Balance of Building and Equipments 576

Purchase of Building and Equipments 288

Example 1: Indirect Method – Working Note 3

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Working Note:3 (Rs. In 000)

Accumulated Depreciation on Equipments sold

Accumulated Depreciation ‐ Opening  120

Add: Depreciation during the year 60

180

Less: Accumulated Depreciation ‐ Closing  132

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Example 1: Indirect Method – Working Note 4

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Working Note:4 (Rs. In 000)

Cash Receipts from Sale of Equipments

Cost of sold Equipment 72

Accumulated Depreciation on Equipments sold 48

Written Down Value of Equipment sold 24

Add: Profit on sales 12

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Example 2: Indirect Method - Solution49

CASH FLOW STATEMENT

(Rs. In 000)Cash flows from Operating activities:Net Profit Before tax and extradinary items:Gross Profit 72Provision for Tax 88

160Adjustments for:Depreciation 60Operating profit before working capital changes 220

Adjustments for Working Capital Changes:Add: Decrease in Inventories 168Less: Increase in Receivables ‐(18)Less: Increase in Advances ‐(1.2)Less: Decrease in Accounts Payable ‐(6)Add: Increase in Outstanding expenses 24

166.8Cash Generation from Operations 386.8

Less: Income Tax Paid 86.8Net Cash from Operating activities 300

Example 2: Indirect Method - Solution- Continued

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(Rs. In 000)

Cash flows from Investing activities:

Purchase of Land 48

Purchase of Building and Equipment 288

336

Cash received on sale of Equipment 36

Net Cash from Investing activities (300)

Example 2: Indirect Method - Solution- Continued

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(Rs. In 000)

Cash flows from Financing activities:

Issue of Shares 84

Dividend Paid 72

Net Cash from Financing activities 12

Net increase in Cash and Cash equivalents 12

Cash and Cash equivalents at the beginning  60

Cash and Cash equivalents at the end 72

Lesson Summary

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We have learnt important terms used in Cash Flow Statement -Cash, Cash Equivalents and Cash Flow StatementWe have learnt important terms used in Cash Flow Statement -Cash, Cash Equivalents and Cash Flow Statement

Cash Flow Classification - Cash Flow from Operating, Investing and Financing ActivitiesCash Flow Classification - Cash Flow from Operating, Investing and Financing Activities

Treatment of certain special items in Cash Flow StatementTreatment of certain special items in Cash Flow Statement

Format of Cash Flow Statement - Direct Method and Indirect MethodFormat of Cash Flow Statement - Direct Method and Indirect Method

Preparation and Presentation of Cash Flow StatementPreparation and Presentation of Cash Flow Statement

Thank You

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