Question

|OPERATING PROFIT INFLOW DECREASE INVESTING INCREASE FINANCING OUTFLOW CASH NON-CASH

Answer 1

A statement of cashflows is a useful report that discloses all cash movements during the period. Classification of cash flows into operating, investing and financing activities. It is important that cash flow from operating activities is positive as it indicates sufficient cash was received from business operations to cover outgoing business cashflows. A significant cash inflow from operating activities should be recceipt from customers which will decrease when discounts are offered or when bad debts are written off as bad. While cost of sales is important to determine profit, it is cash paid to accounts payable that is key outflow under operating activities. Any cash paid for expenses including any prepaid or accrued expenses represents cash outflow for the statement of cash flows. Investing activities relate only to acquisition or disposal of non current assets. Sometimes gain or loss on sale is reported, but because these are non cash, they donot appear on statement of cashflows. Relevant items would be cash paid for new property, plant or equipment or cash received from sale of assets. Even though depreciation is non cash item, it impacts the calculation so must be taken into account. If asset such as land shows an increase during the period, donot only assume cash has been spent on the asset, it may be due revaluation of assets which is non cash item. If company has loaned cash to some party it would be disclosed as cash outflow under investing activities. When such loans are repaid to business an inflow of cash would be reported. If the operating section includes all common business related cashflows and investing section focuses on all non current asset transactions, then financing cash flow must relate to something else. A share issue involves cash inflow whereas payment of dividend represents financing cash outflow. Where business loans increase during accounting period, it means more cash has been borrowed by the entity which is shown as inflow of cash under financing activities. Repayment of these loan represents financing cash outflow. The reconciliation prepared under the direct method outlines why profit in the income statement doesnot agree with cash flow from operating activities. This takes into account non cash items as well as changes in current assets and liabilities.