Cash Flow Statement

Four major financial statements are required for external reports, which are an income statement (statement of comprehensive income), a statement of owner’s equity (statement of changes in equity), a Balance Sheet (statement of financial position) and a cash flow statement (statement of cash flows).

 The purpose of the cash flow statement is to highlight the major activities that directly and indirectly impact cash flows and hence affect the overall cash balance. In preparing a statement of cash flows, the term cash is broadly defined to include both cash and cash equivalents. It is a summary of a firm’s cash receipts and cash payments during a period of time. Statements of cash flow classified into three sections:

  • Operating Activities,
  • Investing Activities and
  • Financing Activities

 

 The cash flow statement may be presented using either a “direct” method or an “indirect” method. The only difference between the direct and indirect methods of presentation concerns the reporting of operating activities; the investing and financing activity sections would be identical under each method. The cash flow statement is usually divided into three sections: Operating, Investing and Financing activities.

 

1. Operating Activities (Indirect Method)

First of all it is important to note that you required current year Income Statement and two years balance sheet for preparing cash flow statement. Following steps are used to calculate cash flow from operating activities under the indirect method:

  • Start with net profit.
  • Add non-cash expenses, such as depreciation, amortization and depletion that are already included in net income.
  • Less non-cash gains, such as gain on sale of assets.
  • Add or Less changes in working capital excluding short term borrowing (not payable and like nature) and cash equivalents (cash in hand, cash at bank and marketable securities). Working capital is current assets and current liabilities.
  • Inflow of cash is any decrease in non-cash current asset or any increase in current liability. Outflow of cash is any increase in non-cash current asset or any decrease in current liability:

 

Inflow of Cash Outflow of Cash
Any decrease in non-cash current asset Any increase in non-cash current asset
Any increase of current liability Any decrease in current liability

 

In another way we can show above concepts in below mention table: 

  Non-cash Current Assets Current Liability (Excluding N/P)
Inflow Decrease Increase
Outflow Increase Decrease

 



Example # 1:

 UMAR FAROOQ Company’s current asset and liability balances for the past two years are as follows.  Net income for the year was Rs. 120,000 and depreciation expense was Rs. 15,000. 

December 2016   December 2017
Accounts receivable Rs. 80,000 Rs. 65,000
Inventory Rs. 130,000 Rs. 140,000
Accounts payable Rs. 45,000 Rs. 40,000
Accrued liabilities Rs. 12,000 Rs. 15,000

 

Required: You are require to prepare operating activities section of cash flow statement?

 

 Solution:

 UMAR FAROOQ

 Cash Flow Statement

 For the year ended December, 2017 

Operating Activities:
Net income Rs. 120,000
Depreciation 15,000
Decrease in accounts receivable 15,000
Increase in inventory (10,000)
Decrease in accounts payable (5,000)
Increase in accrued liabilities 3,000
Net cash flow from operating activities Rs. 138,000

 

Example # 2:

Zainab Iftikhar Corporation’s current asset and liability balances for the past two years are as follows.  Net income for the year was Rs. 150,000, depreciation expense was Rs. 22,000, and gain on sale of land was Rs. 28,000. 

June 2016 June 2017
Accounts receivable Rs. 80,000 Rs. 92,000
Inventory Rs. 120,000 Rs. 110,000
Accounts payable Rs. 35,000 Rs. 30,000
Accrued liabilities Rs. 12,000 Rs. 8,000

 

Required: Using the indirect method, prepare the cash flows provided by operating activities section of the statement of cash flows.

 

Solution:

 Zainab Iftikhar

 Cash Flow Statement

 For the year ended June, 2017 

Operating Activities:
Net income Rs. 150,000
Depreciation 22,000
Gain on sale of land (28,000)
Increase in accounts receivable (12,000)
Decrease in inventory 10,000
Decrease in accounts payable (5,000)
Increase in accrued liabilities (4,000)
Net cash flow from operating activities Rs. 133,000



 

2. Investing Activities

 Investing activities generally involve in the cash flows of non-current assets which are long term investment and fixed assets. Important accounts for investing activities show below:

 

Cash Flow from Investing Activities
Sales of machinery ******
Payment for long term investment (******)
Cash paid to buy plant and equipment (******)
Cash received from selling a building ******
Net Cash Flow from Investing Activities

 

3. Financing Activities

Financing activities involve cash flow of short term borrowing (not payable and like nature), long term liabilities shareholder’s equity and dividend. 

 

Example # 3:

Usama Ali Khan Company experienced the following at end of year, December 2017: 

  1. Issued preferred stock for Rs. 250,000
  2. Repurchased Rs. 140,000 of its own common stock
  3. Borrowed Rs. 200,000 from a bank issuing a 5 year note
  4. Retired bonds by paying Rs. 55,000
  5. Declared dividends of Rs. 135,000 payable on March 1, 2018

 

Required: Prepare the financing section of the statement of cash flows.

 

Solution:

 Usama Ali Khan

 Cash Flow Statement

 For the year ended December, 2017 

Financing Activities:
Issued preferred stock Rs. 250,000
Repurchased of its own common stock (140,000)
Borrowed from a bank issuing a 5–year note 200,000
Retired bonds (55,000)
Net Cash Flow from Financing Activities Rs. 255,000

 

Checking Point:

We can check prepared cash flow statement with the help of cash and cash equals. Last year Cash Equals + Changes in Cash Equals = Current year Cash Equals. 

Increase in Cash and Cash Equivalents ******
Cash and Cash Equivalents in Last year ****
Cash and Cash Equivalents in Current year ****

 

Steps for cash flow statement

Preparing the statement of cash flow involves five steps, having two year balance sheet and current year income statement:

  1. Determine the net cash flow from operating activities by direct or indirect method
  2. Determine net cash flows from investing activities
  3. Determine net cash flows from financing activities
  4. Determine the change in cash equals
  5. Last year Cash Equals + Changes in Cash Equals = Current year Cash Equals

 

Example # 4:

Classify each of the following items of cash flows as a Not Cash Flow, Operating, Investing and Financing Activities:

Description Not Cash flow Operating Investing Financing
Repayment of bank loan X
Purchase of new machine X
Payment of monthly payroll X
Issuance of bonds X
Purchase of inventory on account X
Pay weekly salary X
Pay dividends X
Receive interest on bank account X
Exchange old delivery truck for new one and take note for balance  

X

Sell land X
Repurchase corporate stock X
Sell merchandise on account X
Collect cash from customers X
Pay for inventory purchased X
Payment of rent X

 

Example # 5:

Data related to Simren Shah Inc. are presented below. Prepare a statement of cash flows, for the year ended December 31, 2017:

cash flow statement

 

statement of cash flows

 

Solution:

Simren Shah Inc.

Cash Flow Statement

For the Year Ended December 31, 2017

Operating Activities:
Net income 40,000
Depreciation 11,400
Loss on sale of investment 5,000
Increase in accounts receivable (4,200)
Decrease in inventory 3,400
Decrease in prepaid insurance 1,200
Decrease in accounts payable (3,000)
Net cash flow from operating activities 53,800
Investing Activities:
Sale of long term investment (10,200 – 5,000) 5,200
Net cash flow from operating activities 5,200
Financing Activities:
Sale of common stock 4,800
Dividend paid (15,000)
Net cash flow from financing activities (10,200)
Net increase in cash 48,800
Cash at Last year 24,200
Cash at Current year 73,000

 

 

Example # 6:

The following information was gathered from Waji-Ul-Hassan Corporation’s financial records at the end of December 31st, 2017:

Net income   Rs. 65,000
Depreciation expense 12,000
Beginning cash balance 22,000
Decrease in accounts receivable 12,000
Increase in inventory 8,000
Decrease in accounts payable 6,000
Decrease in accrued liabilities 2,000
Proceeds from bank loan 25,000
Payment of dividends to stockholders 16,000
Purchase of land

 

Cash balance at the end

35,000

 

69,000

 

Required: Using the indirect method, prepare a statement of cash flows

 

Solution:

Waji-Ul-Hassan Corporation

Cash Flow Statement

For the Year Ended December 31, 2017

Operating Activities:
Net income 65,000
Depreciation expense 12,000
Decrease in accounts receivable 12,000
Increase in inventory (8,000)
Decrease in accounts payable (6,000)
Decrease in accrued liabilities (2,000)
Net cash flow from operating activities 73,000
Investing Activities:
Purchase of land (35,000)
Net cash flow from operating activities (35,000)
Financing Activities:
Proceeds from bank loan 25,000
Payment of dividends to stockholders (16,000)
Net cash flow from financing activities 9,000
Net increase in cash 47,000
Cash at Last year 22,000
Cash at Current year 69,000

 

>>> Practice Cash Flow Statement Quiz 1 and Quiz 2.