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    TABLE OF CONTENTS

    History and Variations01What Is A Cash Flow Statement? ..02Components of Cash Flows Statements..03

    Operating Activities03Investing Activities.03

    Financing Activities04Format of Cash Flow Statement..05Example...06Methods of Computation of Operating Activities06Direct Method...06

    Indirect Method08Key Terms10How to Analyze a Cash Flow Statement..11Conclusion13

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    CASH FLOW STATEMENT

    History and variations:

    Cash basis financial statements were common before accrual basis financialstatements. The cash flow statement was previously known as the statement ofchanges in financial position or flow of funds statement. The cash flow statementreflects a firm's liquidity or solvency.

    In the United States in 1971, the Financial Accounting Standards Board (FASB)defined rules that made it mandatory under Generally Accepted AccountingPrinciples (US GAAP) to report sources and uses of funds, but the definition of"funds" was not clear. "Net working capital" might be cash or might be the difference

    between current liabilities and current assets. From the late 1970 to the mid-1980s,the FASB discussed the usefulness of predicting future cash flows. In 1987, FASBStatement No. 95 (FAS 95) mandated that firms provide cash flow statements.

    In 1992, the International Accounting Standards Board issued InternationalAccounting Standard 7 (IAS 7), Cash Flow Statements, which became effective in1994, mandating that firms provide cash flow statements. US GAAP and IAS 7 rulesfor cash flow statements are similar. Differences include

    IAS 7 requires that the cash flow statement include changes in both cash and cash

    equivalents. US GAAP permits using cash alone or cash and cash equivalents.

    IAS 7 permits bank borrowings (overdraft) in certain countries to be included in

    cash equivalents rather than being considered a part of financing activities.

    IAS 7 allows interest paid to be included in operating activities or financing

    activities. US GAAP requires that interest paid be included in operating activities.

    US GAAP (FAS 95) requires that when the direct method is used to present the

    operating activities of the cash flow statement, a supplemental schedule must alsopresent a cash flow statement using the indirect method. The IASC stronglyrecommends the direct method but allows either method. The IASC considers theindirect method less clear to users of financial statements. Cash flow statementsare most commonly prepared using the indirect method, which is not especiallyuseful in projecting future cash flows.

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    What is a Cash Flow Statement?

    The cash flow statement is basically the most important financial statement a businessprepares. It traces the flow of funds or in other words working capital into and out of

    your business during an accounting period. The cash flow statement became arequirement for publicly traded companies in 1987. There are various rules governinghow information is reported on cash flow statements, as determined by generallyaccepted accounting principles (GAAP). While your business may not be a publiccompany, a cash flow statement is still important to measure and track the flow ofcash into and out of your business

    For a small business, a cash flow statement should probably be prepared as frequentlyas possible. This means either monthly or quarterly. An annual statement is a must forany kind of business. A cash flow statement can be used to assess the timing, amountand predictability of future cash flows and it can be used as the basis for budgeting. .A cash flow statement is also a key to understanding the investment and financing

    philosophy of a borrower.

    Cash flow is essentially the movement of money into and out of your business; it's thecycle of cash inflows and cash outflows that determine your business' solvency.

    The purpose of the statement of cash flows is to provide an entry for the cash balanceshown on your balance sheet. But, in essence, the statement of cash flows provides a

    business with so much more. An examination of the statement of cash flows willshow you exactly where your cash surplus or deficit is coming from.

    Cash flow analysis is the study of the cycle of your business' cash inflows andoutflows, with the purpose of maintaining an adequate cash flow for your business,and to provide the basis for cash flow management. Cash flow analysis involvesexamining the components of your business that affect cash flow, such as accountsreceivable, inventory, accounts payable, and credit terms. By performing a cash flowanalysis on these separate components, you'll be able to more easily identify cashflow problems and find ways to improve your cash flow.

    The statement of cash flows is meant to serve as a bridge between the minute detail ofthe profit and loss sheet, and the sketchy details of the balance sheet. When properly

    used, the statement of cash flows will fill in many gaps left in the reporting ofinformation from one level of detail to the next.

    The balance sheet is a snapshot of a firm's financial resources and obligations at asingle point in time, and the income statement summarizes a firm's financialtransactions over an interval of time. These two financial statements reflect theaccrual basis accounting used by firms to match revenues with the expensesassociated with generating those revenues. The cash flow statement includes onlyinflows and outflows of cash and cash equivalents; it excludes transactions that do notdirectly affect cash receipts and payments. These non-cash transactions includedepreciation and write-offs on bad debts. The cash flow statement is a cash basis

    report on three types of financial activities: operating activities, investing activities,and financing activities. Non-cash activities are usually reported in footnotes.

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    The cash flow statement is intended to

    1. provide information on a firm's liquidity and solvency and its ability to changecash flows in future circumstances

    2. provide additional information for evaluating changes in assets, liabilities and

    equity3. improve the comparability of different firms' operating performance by

    eliminating the effects of different accounting methods4. indicate the amount, timing and probability of future cash flows

    The cash flow statement has been adopted as a standard financial statement because iteliminates allocations which might be derived from different accounting methods,such as various timeframes for depreciating fixed assets.

    Components of Cash flows Statements:

    In the accounting, banking and business communities there has been much debate asto the best method to report cash flow information. Accounting experts recommendusing three categories to organize cash flow data which are as follows:-

    1. Operating Activities2. Investing Activities3. Financing Activities

    Operating Activities:

    The area of cash flows from operating activities will show you if your sales, your cashreceipts, and inventory and your accounts receivables are experiencing any dramaticchanges. Cash flow from operating activities is probably the most complex section

    because there are two methods of computing it. The direct method will be introducedfirst. However, the direct method is not the most widely used method to calculate thecash flow from operating activities. Many companies use the Indirect Method. Thechoice of method does not change the amount of cash flow reported from operatingactivities. These methods will be discussed later. It includes

    receipts from the sale of goods or services

    receipts for the sale of loans, debt or equity instruments in a trading portfolio

    interest received on loans

    dividends received on equity securities payments to suppliers for goods and services

    payments to employees or on behalf of employees

    tax payments interest payments (alternatively, this can be reported under

    financing activities

    Investing Activities:

    Cash flow from investing activities is the second part of both types of cash flowstatements. Investing activities are the changes to your cash position owing to the

    buying or selling of non current assets. This includes selling and replacing equipmentthat wears out or acquiring a new building or land so that your company can grow.Investing activities can also include the purchase or sale of stock, bonds, and

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    securities. Lending money and receiving loan payments are also considered investingactivities

    The area of cash flows from investing activities will provide you with a quickreference for any changes in permanent assets. Any sales or purchases of equipment,

    even bonds, will show up here. The monitoring of investment activities, when usedwith your operating activities, will tell you when moments of opportunity and needare presenting themselves. It includes

    collections on loan principal and sales of other firms' debt instruments

    investment returns from other firms' equity instruments, including sale of

    those instruments receipts from sale of plant and equipment

    expenditure for purchase of plant and equipment

    loans made and acquisition of other firms' debt instruments

    expenditure for purchase of other firms' equity instruments (unless held for

    trading or considered cash equivalents)

    Financing Activities:

    The financing activities section of the cash flow statement will show repayments ofdebt, borrowing of funds, as well as injections of capital and the payment ofdividends. As a company expands, this area of the cash flow statement will becomeincreasingly important. It will tell outsiders how the company has grown and thefinancial strategies of management. The area of cash flows from financing activitiesrefers to any activity of investing, borrowing. It includes

    proceeds from issuing shares

    proceeds from issuing short-term or long-term debt

    payments of dividends

    payments for repurchase of company shares

    repayment of debt principal, including capital leases

    for non-profit organizations, receipts of donor-restricted cash that is limited to

    long-term purposes

    Conclusion is that together, the three sections of the cash flow statement show the net

    change in cash during the period being examined. A comparison between past periodswill give owners and managers a good idea of the trend of their business. Positivetrends in cash flow may encourage owners to consider long-term financing as an aidto growth and increase their comfort level concerning the company's ability togenerate cash for repayment. Strong cash flow will also make it easier to acquirefinancing and to negotiate with lenders from a position of strength. Preparation of acash flow statement is the first step toward financial management for long-termsuccess. Prepared on a regular basis, it is a powerful tool for growth and long-termsuccess.

    Format of Cash Flow Statement

    Company name

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    Statement of Cash flows

    Period Covered

    Cash flow from operating activities

    (List of individual items) XX

    Net cash provided by operating activities XXX

    Cash flow from investing activities

    (List of individual inflows and outflows) XX

    Net Cash provided by investing activities. XXX

    Cash flow from financing activities

    (List of individual inflows and outflows) XX

    Net Cash provided by financing activities. XXX

    Net increase (decrease) in cash XXX

    Cash at the beginning of the period XXX

    Cash at the end of period XXX

    EXAMPLE:

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    Cash Flow Statement

    ABC Company

    For the year ended 200X

    Cash Flow From Operations

    Net Income* $200Additions(Sources of cash(

    Depreciation $100

    Increase in accounts payable $30

    Increases in accrued income taxes $10

    Subtractions (Uses of cash(

    Increase in Accounts Receivable ) $150(

    Increase in Inventory ) $25(

    Net cash flow from operations $165

    Cash Flows from Investing Activities

    Equipment ) $400(

    Cash Flows Associated with Financing

    Activities Notes payable $30

    Net change in Cash ) $205(

    Methods of Computation of Operating activities:

    1. Direct method2. Indirect method

    Direct method:

    The statement of cash flows from operating activities can be presented in a directformat, or an indirect format. The information reported for the investing and financingactivities, doesnt change. The format variable here affects only the operatingactivities cash statements.

    Operating activities computation is a bit different in direct method. The direct methodfor creating a cash flow statement reports major classes of gross cash receipts and

    payments. Under IAS 7, dividends received may be reported under operatingactivities or under investing activities. If taxes paid are directly linked to operatingactivities, they are reported under operating activities; if the taxes are directly linkedto investing activities or financing activities, they are reported under investing orfinancing activities.

    Sample cash flow statement using the direct method

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    Cash flows from operating activities

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    Cash receipts from customers $27,500

    Cash paid to suppliers and employees )20,000(

    Cash generated from operations (sum( 7,500

    Interest paid )2,000(

    Income taxes paid )2,000(

    Net cash flows from operating activities $3,500

    Cash flows from investing activities

    Proceeds from the sale of equipment 7,500

    Dividends received 3,000

    Net cash flows from investing activities 10,500

    Cash flows f...