Cash flow statement pdf

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  • 1. CASH FLOW STATEMENTMEANING OF CASH FLOW AND CASH FLOW STATEMENTCash Flows are inflows and outflows, i.e., the movement of cash and cashequivalents.The Cash Flow Statement is prepared according to Revised Accounting Standard-3on cash flow statement. The standard requires that cash flow be classified andshown in the cash flow statement under three heads, namely:1. Cash Flow from Operating Activities2. Cash Flow from Investing Activities ; and3. Cash Flow from Financing Activities. OBJECTIVES OF CASH FLOW STATEMENT The objectives of cash flow statement are: To ascertain the sources from activities (i.e., operating/investing/financingactivities) from which cash and cash equivalents were generated by anenterprise. To ascertain the uses by activities (i.e., operating/investing/financingactivities) for which cash and cash equivalents were used by an enterprise. To ascertain the net change in cash or cash equivalents indicating thedifference between sources and uses from or by the three activitiesbetween the dates of two Balance Sheets. IMPORTANT DEFINITIONS AS PER ACCOUNTING STANDARD-3 (REVISED) I. Cash comprises of cash in hand and demand deposits with banks.II. Cash Equivalents are short-term, highly liquid investments that arereadily convertible into known amount of cash and which are subject to aninsignificant risk of change in value. An investment normally qualifies as cash equivalent only when it has ashort maturity of, say (a) treasury bills,(b) commercial paper,(c)moneymarket funds and (d)investments in preference shares and redeemablewithin three months can also be taken as cash equivalents if there is norisk of the failure of the company. III. Cash Flows are inflows and outflows of cash and cash equivalents.AS-3requires a cash flow statement to be prepared and presented in a mannerthat it shows cash flows from business transactions during a periodclassifying the into:(I)Operating Activities; (ii) Investing Activities; (III) Financing Activities. IV.Operating Activities: operating activities are the principal revenueproducing activities of the enterprise and other activities that are notinvesting or financing activities.

2. V.Investing Activities: Investing activities are the acquisition and disposalof long-term assets and other investments not included in cashequivalents. These activities include transactions involving purchase andsale of long term productive assets like machinery, land, etc., which arenot held for resale.VI. Financing Activities: Financing activities are the activities that result inchange in the size and composition of the owners capital (includingpreference share capital in the case of a company) and borrowing of theenterprise. OPERATING ACTIVITIESCASH INFLOW CASH OUTFLOW Cash Sales Cash purchase Cash received from DebtorsPayment to creditors Cash received from commission Cash operating expensesand FeesPayment of Wages Royalty. Income TaxIn the case of financial companies In the case of financial companies Cash received for Interest andCash paid for interestDividends Purchase of Securities Sale of SecuritiesINVESTING ACTIVITIESCash InflowCash Outflow Sale of Fixed AssetsPurchase of Fixed Assets Sale of Investments Purchase of Investments Interest received Dividends received FINANCING ACTIVITIESCash Inflow Cash Outflow1. Issue of shares in Cash Payment of Loans2. Issue of Debentures inRedemption of preference shares CashBuy-back of Equity shares3. Proceeds from Long-term Payment of Dividend BorrowingsPayment of Interest 3. How the amount of Income Tax is paid determined?If the amount of tax paid is not given, it is calculated by preparing the provision forTax Account:Dr. PROVISION FOR TAX ACCOUNT Cr.Particulars Rs.ParticularsRs.To Bank A/c (Tax Paid) .. By Balance b/d .To Balance c/d .. By Profit and loss A/c(provision made during the ..year)......NOTE: If only the provision for tax is given in the two Balance Sheets and no informationabout tax paid is given, the amount in the previous years Balance sheet istreated as tax paid during the current year. It involves an Outflow of cash.The current years provision for tax represents the amount of tax provided for thecurrent year. It is added back to the current years profits to calculate net profitbefore tax and extraordinary items (under the indirect method). It is merely abook entry and does not involve outflow of cash.The provision for Tax Account provides information about the tax paid during thecurrent year as well as the tax provided for the current year.Indirect Method of calculating the Cash Flow from Operating Activities.Under this method, net cash flow from operating activities is calculated byemploying the information contained in the Profit and Loss Account andBalance Sheet.The amount being net profit before tax is the starting point for calculation. It canbe calculated as:Difference between the Closing Balance and the Opening Balance of Profit and Loss A/cAdd: The Proposed Dividend for the current yearAdd: The Interim Dividend paid during the yearAdd: Transfer to ReserveAdd: The Provision for tax made during the yearLess: Refund for tax credited to the Profit and Loss A/cLess: Extraordinary items, if any, credited to the Profit and Loss A/cNet profits before tax and extraordinary items 4. After having computed the Net Profit before tax and extraordinary items, it isfurther adjusted to arrive at the net Cash Flow from Operating Activities. Theseadjustments are classified into two categories: 1. Adjustments for Non-Cash and Non-Operating Items:Non-Cash and non-operating items (such as depreciation, interest on longterm borrowings, discount on issue of shares or debentures written off,goodwill/patents/copyright amortized, loss on sale on assets orinvestments, premium payable on redemption of debentures or preferentialshares, etc) are added back and non-operating incomes and gains (such asprofit on sale on fixed assets and investments, interest, rent or dividendreceived, etc) are deducted. 2. Adjustments for Changes in the Current Assets and Current LiabilitiesRelated to Operating Activities:(e.g., debtors, bills receivable, stock, prepaid expenses, creditors, billspayable, outstanding expenses, etc)A decrease in current assets (excluding cash and cash equivalents) andincrease in current liabilities (excluding bank overdraft) is added and anincrease in current assets and a decrease in current liabilities is deductedfrom operating profit before working capital changes to arrive at cashgenerated from operation.After that tax paid (the net of refund of tax) is deducted from cash generatedfrom operations to arrive at the cash flow from operating activities beforeextraordinary items. After that we add or subtract the proceeds ofextraordinary item(s) to get Net cash from (used in) operating activities.EFFECT OF CHANGE IN CURRENT ASSETS AND CURRENTLIABILITIES.Current Assets 1) Stock: Change in the level of stock must be considered forcalculating the cash flow from operating activities. A decrease instock will increase the cash inflow from operating activitieswhereas an increase in stock will decrease the cash inflow fromoperating activities. 2) Debtors and Bills Receivable: A decrease in debtors or bills willreceivable will increase the cash inflow from operating activities,whereas an increase in debtors or bills receivable will decrease thecash inflow from operating activities. 3) Prepaid Expenses: A decrease in the prepaid expenses willincrease the cash inflow from operating activities. Conversely, anincrease in the prepaid expenses will decrease the cash inflowfrom operating activities. 5. Current Liabilities 1) Creditors and Bills Payable: A decrease in creditors and bills payablewill reduce cash. Conversely, an increase in creditors/bills payable willeffectively increase the cash available to the enterprise. 2) Outstanding Expenses: A decrease in outstanding expenses will reducecash. Similarly, an increase in outstanding expenses will increase thecash available to the enterprise.The general rules that develop from the above discussion are: 1. An increase in current assets leads to decrease in cash. 2. A decrease in current assets leads to an increase in cash. 3. An increase in current liabilities leads to an increase in cash. 4. A decrease in current liabilities leads to a decrease in cash.Preparation of Fixed Assets Account 1. Fixed Asset Account (on Original Cost Basis): If the BalanceSheet contains an item of provision for depreciation or accumulateddepreciation, it means that the fixed assets are shown in the balancesheet at their original cost. In such cases, fixed assets fixed assets andprovision for depreciation account should be prepared.Fixed asset account will disclose the purchase and sale of the fixes assetduring the year and by preparing provision for depreciation account theamount of depreciation charged during the year will be found out. 2. Fixed Asset Account (on the Written Down Value Basis):When the Balance sheet does not contain the item of provision fordepreciation or accumulated depreciation for both the years, it meansthat the fixed assets are shown in the Balance sheet at their writtendown value (after depreciation) and hence the fixed asset account will beprepared on the written down value basis.In this case the amount of current years depreciation should becredited to the Asset Account.Treatment of DepreciationAt the time of calculating profit/loss, depreciation is debited to profitand loss account. It does not involve cash but is a book entry. Therefore,depreciation is to be added back to net profit before tax forcalculating cash flow. 6. Treatment of profit or loss on sale of Fixed AssetsFor calculating net profit/loss, loss on sale of fixed assets is debited toprofit and loss account. Similarly, profit on sale of fixes assets iscredited to profit and loss account. It does not involve cash. Rather cashis involved on sale of fixed assets. Profit or loss is a result of sale.Therefore, loss on sale of fixed assets is added back and profit onsale of fixed assets is deducted from net profit before tax forarriving at the cash flow from operating activities.Sale proceeds of fixed assets will, of course, result in a cash inflow but this inflowwill be shown in the cash flow statement under cash flow from investing activities.CASH FLOW FROM INVESTING ACTIVITIESInvesting activities of an enterprise are acquisition and disposal ofthe long term assets and other investments not included in cashequivalents. Accordingly, the cash inflow and outflow relating to thefixed assets, shares and debt instruments of other enterprises,interests in joint ventures, advances and loans to third parties andalso their repayments are shown under investing activities in thecash flow statement.Cash flow from investing activities is ascertained by analyzing thechanges in fixed assets and long term investments in the beginningand at the end of the year.For getting the missing figure regarding purchase/sale of fixed assetsand depreciation, fixed assets account and provision for depreciationaccount is prepared.Ascertaining Missing Amounts regarding Fixed Assets orDepreciation.CASE 1: When the Fixed Asset is shown at the Written down Value.Under this case, depreciation is charged to the Asset Account and thebalance of the Asset Account shows the written down value of theasset, which is also called the book value. 7. Dr.FIXED ASSETS ACCOUNT (AT WRITTEN DOWN VALUE)Cr.Particulars Rs. Particulars Rs.To Balance b/dBy Bank A/c (sale of Fixed Asset) To Bank A/c (purchases) By Profit & loss A/cTo Profit & loss A/c (Loss on sale of Fixed Asset)(Profit on sale of Fixed Asset) By Depreciation A/cBy Balance c/dNOTES:1) Generally, the purchase of fixed assets is a balancing amount on the debit side of the account and depreciation or the sale of fixed assets on the credit side of the account.2) Information regarding depreciation is generally given in the question. Students are required find out only the sale or purchase of asset.3) If the sale and depreciation are not given, then assume it is either sale or depreciation and give your assumptions. In case of land, it should be assumed sale as depreciation is not charged on land. In case of patents/goodwill/trade marks, it should be assumed that the amount is written off.CASE 2: When the fixed assets are shown at their original cost andaccumulated depreciation (provision for depreciation) is separatelymaintained.Under this case, (in contrast to the above case), depreciation is not directlycharged to the Asset Account. The depreciation for the period is debited to thedepreciation account (transferred to P&L A/c) and credited to AccumulatedDepreciation Account.In the Balance Sheet, asset appears at its original cost and the accumulateddepreciation is shown either by deducting from Fixed Asset Account or on theliability side of Balance sheet. In such cases, we prepare separate accounts forfixed assets and accumulated depreciation. Depreciation for the year can beascertained from provision for depreciation account. 8. Dr.FIXED ASSET ACCOUNT (AT COST) Cr. Particulars Rs.ParticularsRs. To Balance b/d. By Bank A/c (Sale of Fixed Asset). To Profit & loss A/c. By Accumulated Dep. A/c. (Profit on sale of Fixed asset)(Accumulated Dep. On fixed asset sold) To Bank A/c ..By Profit & loss A/c .. (Purchase of Fixed Asset)(loss on sale of Fixed Asset)By Balance c/d ..NOTE: Normally, the purchase of fixed asset is a balancing amount on the debitside of the account and the sale of fixed asset on the credit side of the account.Dr.ACCUMULATED DEPRECIATION ACCOUNT Cr.ParticularsRs. Particulars Rs.To Fixed Asset A/c By Balance b/d ..(Acc. Dep. on Fixed Asset Sold) By Profit & loss A/c . To Balance c/d(Dep. Charged for current year)NOTE: Accumulated depreciation on the fixed asset sold or depreciation charged for the current accounting year may not be given, which shall be the balancing amount. CASH FLOW FROM FINANCING ACTIVITIESFinancing Activities of an enterprise are those activities that result in change inthe size and composition of owners capital and borrowing of the enterprise. Itincludes proceeds from issue of shares or other similar instruments, issue ofdebentures, loans, bonds, other short-term loans or long term borrowings andrepayments of amounts borrowed. Accordingly, receipts and payments onaccount of the above are disclosed in the cash flow statement as the cash flowfrom financing activities.Dividends paid (in all enterprises) and interest paid (in case of non-financingenterprise) is also included in Financing Activities.It is important to note that an increase in share capital due to bonus issue will notbe shown in the cash flow statement, since it is a capitalization of reserves. 9. When shares are issued at a premium, the cash flow statement reflects the totalcash generated by the issue (i.e., Face Value of shares + Premium).The cash flow from financing activities is ascertained by analyzi...