Question

Paper' within the broad framework of Financial Write a "Term Reporting The paper:- (ii) should analyze any accounting issue/topic of your choice the issue/topic can be empirical or theoretical, related to general purpose financial reporting should be in not more than four (4) type written pages; 12-Times new roman font size (iii) You may wish to organize the paper in the following order:- Introduction 30% Theory and Practice (Discussions) 50% Conclusion or Recommendations 20%

Answer 1

Solution:

Introduction:

A set of general purpose financial reporting includes balance sheet, income statement, statement of owner’s equity, & cash flow statement.

So here we will discuss about Cash flow statement.

It is a financial statement which shows , how changes in balance sheet accounts and income affect cash & cash equivalent. The primary purpose of the statement of cash flows is to provide information about cash receipts, cash payments, and the net change in cash resulting from the operating, investing, and financing activities of a company during the period.

A cash flow statement is a financial statement that provides aggregate data regarding all cash inflows a company receives from its ongoing operations and external investment sources. It also includes all cash outflows that pay for business activities and investments during a given period.

The cash flow statement uses cash basis accounting instead of accrual basis accounting which is used for the balance sheet and income statement by most companies. This is important because a company may accrue accounting revenues but may not actually receive the cash.

The objectives of cash management are straightforward – maximise liquidity and control cash flows and maximise the value of funds while minimising the cost of funds. The strategies for meeting such objectives include varying degrees of long-term planning requirements

Theory & practice:

Cash inflow is the money going into a business. That could be from sales, investments or financing. It's the opposite of cash outflow, which is the money leaving the business. A business is considered healthy if its cash inflow is greater than its cash outflow.

As prescribed Accounting standards there are two methods which can be used to prepare cash flow statements:

A. Indirect method

B. Direct method

Whichever method be used, the end result under all three activities i.e. operating, investing and financing will be the same

1. Preparation under Indirect method:  

I. Operating Activities

The cash flow from operating activities are derived under two stages;

A. Calculating the operating profit before changes in working capital

B. The effect of changes in working capital

Stage 1: Operating profit before changes in working capital can be calculated as follows:

Net profit before Tax and extra ordinary Items	xxx
Add: Non-cash and non-operating Items which have already been debited to profit and Loss Account like;
Depreciation	xxx
Amortisation of intangible assets	xxx
Loss on the sale of Fixed assets	xxx
Loss on the sale of Long-term Investments	xxx
Provision for tax	xxx
Dividend paid	xxx	xxx
Less: Non-cash and Non-operating Items which have already been credited to Profit and Loss Account like
Profit on sale of fixed assets	xxx
Profit on sale of Long term investment	xxx	xxx
Operating profit before working Capital changes		xxx

Stage 2: Effect of changes in Working Capital is to be taken into as follows:

a. Current Assets

i. An increase in an item of current assets causes a decrease in cash inflow because cash is blocked in current assets

ii. A decrease in an item of current assets causes an increase in cash inflow because cash is released from the sale of current assets

b. Current Liabilities

i. An increase in an item of current liability causes a decrease in cash outflow because cash is saved

ii. A decrease in an item of current liability causes an increase in cash outflow because of payment of the liability

Thus, in a nutshell

Cash from operating activities = Operating profit before working capital changes + Net decrease in current assets + Net Increase in current liabilities – Net increase in current assets – Net decrease in current liabilities

II. Investing Activities

The cash flow from investing activities is derived by adding all the cash inflows from the sale or maturity of assets and subtracting all the cash outflows from the purchase or payment for new fixed assets or investments.

Cash flow arising from Investing activities typically are:

i. Cash payments to acquire Fixed Asset

ii. Cash receipts from disposal of fixed asset

iii. Cash payments to acquire shares or debenture investment

iv. Cash receipts from the repayment of advances and loans made to third parties

Furthermore,

Examples of Cash inflow from investing activities are:

i. Cash sale of plant and machinery, land and Building, furniture, goodwill etc

ii. Cash sale of investments made in the shares and debentures of other companies

iii. Cash receipts from collecting the Principal amount of loans made to third parties

Examples of Cash outflow from investing activities are:

i. Purchase of fixed assets i.e. land, Building, furniture, machinery etc

ii. Purchase of Intangible assets i.e. goodwill, trademark etc

iii. Purchase of shares and debentures

iv. Purchase of Government Bonds

v. Loan made to third parties

III. Financing activities

Cash flows from financing activities are the cash paid and received from activities with non-current or long-term liabilities and shareholder’s capital.

Cash flow arising from Financing activities typically are:

1. Cash proceeds from the issue of shares or other similar instruments

2. Cash proceeds from the issue of debentures, loans, notes, bonds, and other short-term borrowings

3. Cash repayment of the amount borrowed

Examples of cash inflow from financing activities are:

i. The issue of Equity and preference share capital for cash only

ii. The issue of Debentures, Bonds and long-term note for cash only

Examples of cash outflow from financing activities are:

i. Payment of dividends to shareholders

ii. Redemption or repayment of loans i.e. debentures and bonds

iii. Redemption of preference share capital

iv. Buyback of equity shares

Conclusions & Recommendation

The cash flow statement must then reconcile net income to net cash flows by adding back non-cash expenses such as depreciation and amortization. Similar adjustments are made for non-cash expenses or income such as share-based compensation or unrealized gains from foreign currency translation

Because the management of cash flow is so crucial for businesses and small businesses in particular, most analysts recommend that an entrepreneur study a cash flow statement at least every quarter.