Chapter 17. Cash Flow Statement – Financial Accounting

Chapter 17

Cash Flow Statement

LEARNING OBJECTIVES

After studying this chapter, you will be able to understand

  1. Meaning of Cash Flow and Cash Flow Statement

  2. Uses of Cash Flow Statement

  3. Limitations of Cash Flow Statement

  4. Classification of Business Transactions into Operating Activities, Investing Activities, and Financing Activities According to Accounting Standard (AS)–3 (Revised)

  5. Preparation of Cash Flow Statement as per AS–3 by Both Direct Method and Indirect Method.

  6. Accounting Treatment of Special Items (Non-cash Expenses and Non-operating Income)

  7. Various Stages Involved in the Preparation of Cash Flow Statement (Six Stages With Illustrations) in Accordance With AS–3 (Revised).

Introduction

The end product of the accounting process is “Financial Statement.” Financial Statements are nothing but the summarised statements of accounting data produced at the end of the accounting process by a business entity. It communicates accounting information to its users. The Balance Sheet and Profit and Loss Account (Income Statement) are the traditional financial statements of any business entity. A Balance Sheet shows the financial position of a business enterprise on the last day of an accounting period. It is only a Statement of Assets and Liabilities stating the financial position of an enterprise at a given date. A Profit and Loss Account (Income Statement) shows the financial performance (i.e., profit or loss) of a business entity during the specified period (i.e., accounting period). But revenues recorded in Profit and Loss Account will not reflect cash inflows. Likewise, some of the expenses shown in Profit and Loss Account will be non-cash expenses (like depreciation amortisation) and some will not be paid in full like goods purchased, on credit, outstanding expenses. As such, the periods of profit or loss will not bear any direct relationship with cash flows relating to that specified accounting period. No exact information will be obtained from these two traditional financial statements with regard to investing or financing activities of business entities. Hence, the need arises to assess the inflows and outflows of cash during the accounting period. Keeping in view of this aspect, the Institute of Chartered Accountants of India (ICAI) introduced one more essential component of financial statements – known as Cash Flow Statement. As per AS–3 (revised), the preparation of cash flow statement as the third financial statement has become statutory for any companies registered under the Companies Act 1956. The other forms of business organisations also prepare this third financial statement, viz. Cash Flow Statement. This Cash Flow Statement has to be prepared to provide information about the cash flows associated with operating, investing and financing activities of business entities during accounting period. Cash Flow Statement to put it in a nutshell reflects “sources and uses of cash.” This statement reveals “where cash comes from and where it goes.” This chapter describes in detail on this financial statement.

OBJECTIVE 1: MEANING OF CASH FLOW AND CASH FLOW STATEMENT
  1. Cash flow refers to movement both, inflow and outflow, of cash and cash equivalents during a period.
  2. Inflow of cash refers to all transactions that lead to increase in cash and cash equivalents.
  3. Outflow of cash refers to all transactions that lead to decrease in cash and cash equivalents.
  4. Cash Flow Statement is a statement that shows flow of cash and cash equivalents during a period.
OBJECTIVE 2: USES OF CASH FLOW STATEMENT

1. Short-term Planning: It gives information for a specific period. It is useful in short-term planning of an enterprise.

2. Easy Analysis of Liquidity and Solvency: Periodical cash flow statements assist in ascertaining liquidity and solvency of a concern.

3. Cash Management: This provides information about cash – surplus or deficit, thereby resulting in an efficient cash management.

4. Prediction: This predicts about the soundness of financial status of a concern.

5. Cash Budget: Cash Flow Statement is useful in preparing cash budgets of an enterprise.

6. Cash Position: This not only ascertains the cash position but also explains the reasons for such cash position (lower or higher).

7. Management Decisions: This is useful in determining the urgeness of management decisions and thereby acting as a deterrent against incorrect decisions.

8. A Tool of Planning: All future investments may be effectively planned with the help of Cash Flow Statements.

9. Dividend Policy: This statement also helps an enterprise in planning a good dividend policy.

OBJECTIVE 3: LIMITATIONS OF CASH FLOW STATEMENT
  1. All non-cash transactions are not covered, since this statement is based on the limited concept of cash and cash equivalents.
  2. It is not a proper substitute as this statement reveals the net cash flow only and it may not be useful as a substitute for income statement.
  3. It is not an effective tool, since this is not a good indicator of the financial position of a concern as it ignores mainly the working capital part.
  4. It is based on past records. No future planning can be properly made unless and otherwise it is accompanied by some other documents. It is historical in nature.

3.1 Meaning of Cash Flow, Cash and Cash Equivalents

  1. Cash flows are inflows and outflows of cash and cash equivalents.
  2. Cash: Cash on hand and demand deposits in banks.
  3. Cash equivalents: They are usually of short term and highly liquid investments. Treasury bills, commercial papers, money market funds and investment in preference shares are some of cash equivalents.
OBJECTIVE 4: PREPARATION OF CASH FLOW STATEMENTS

As per the syllabus, cash flow statements are to be prepared as per revised standard issued by ICAI. This revised standard is better known among professional accountants as AS–3 (revised).

This AS–3 requires a Cash Flow Statement to be prepared and presented in a manner that it shows cash flow from business transactions during a period classified as follows:

  1. Operating Activities
  2. Investing Activities
  3. Financing Activities

These classifications of business transactions as per AS–3 may be represented as follows for easy comprehension.

Note:

  1. Except B, all items relate to manufacturing concerns.
  2. Students should not misunderstand about the above representation.

This is not a distinction or difference between cash inflow and cash outflow. This only facilitates easy comprehension and better remembrance of cash inflow and cash outflow for each of the activities classified.

Illustration: 1

From the following activities, classify them as (1) Operating Activities, (2) Investing Activities and (3) Financing Activities

Requirements

  1. Issue of debentures
  2. Sale of machinery
  3. Sale of investment
  4. Sale of patent
  5. Bank balance
  6. Investment in marketable securities (only short term)
  7. Buy back of equity shares
  8. Income tax paid
  9. Office expenses
  10. Repayment of a long-term loan

Solution

 

Financing Activities

:

Issue of debenture, buy back of shares, repayment of long-term loan (manufacturer concern)

Operating Activities

:

Sale of investment, income tax paid, office expenses

Investing Activities

:

Sale of machinery, sale of investment (financial concerns) and sale of patent

Cash equivalents

:

Bank balance, investment in marketable securities (short term)

OBJECTIVE 5: CASH FLOW STATEMENT: PREPARATION

AS–3 requires that the Cash Flow Statement should show separately the activities, viz.

  1. Cash Flow from Operating Activities
  2. Cash Flow from Investing Activities
  3. Cash Flow from Financing Activities

Before preparation of cash flow statements, one should be familiar with the pro forma or format of Cash Flow Statement under two different methods – (i) Direct Method and (ii) Indirect Method.

These are the revised formats as issued by ICAI (revised) as per AS–3 (revised).

5.1 Direct Method Pro-forma or Format of Cash Flow Statement for the Year Ended

Particulars Rs Rs

Cash from Operating Activities

 

 

  A. Operating Cash Receipts

 

 

    (i) Cash Sales

 

 

    (ii) Cash Received from Customers

 

    (iii) Trading Commission Received

 

    (iv) Royalties Received

 

    (v) Others

xxxx(A)

  B. Operating Cash Payments

 

 

    (i) Cash Purchases

 

    (ii) Cash Paid to Suppliers

 

    (iii) Cash Paid to Business Expenses (office expenses, manufacturing expense, selling expense)

 

    (iv) Others

xxxx(B)

  C. Cash Generated from Operation (A−B)

 

xxx

  D. Income Tax Paid

 

xxx

  E. Cash Flow before Extraordinary Items

 

xxxx

  F. Extraordinary items (Receipts/payments)

 

xxxx

  G. Net Cash from Operating Activities

±
(–)

2. Cash flow from Investing Activities (As in Indirect Method)

 

xxxxx

3. Cash Flow from Financing Activities (As in Indirect Method)

 

xxxx

4. Net Increase/Decrease in Cash and Cash Equivalents (as in Indirect Method) (1 + 2 + 3)

 

xxxx

5. Add Cash and Cash Equivalents

 

xxxxx

  In the beginning of the year (same as in Indirect Method)

 

 

6. Cash and Cash equivalent in the end of the year

 

xxxxx

5.2 Indirect Method Pro-forma or Format Cash Flow Statement for the Year Ended

Particulars Rs Rs

1. Cash Flow from Operating Activities

 

xxx

  A. Net profit before taxation and extraordinary items

 

 

  B. Add: Items to be added

 

 

    • Depreciation

 

    • Preliminary expenses written off

 

    • Discount on issue of shares and debentures written off

 

    • Goodwill written off

 

    • Patents and Trade marks written off

 

    • Interest on Borrowings and Debentures (Only for non-finance companies to be shown – under Financial Activities)

 

    • Loss on Sale of Fixed Assets

xxx

  C. Less: Items to be Deducted

 

 

    • Interest Income (only for non-finance companies to be shown under Investment Activities)

 

    • Dividend Income (for non-finance companies to be shown under investment activities)

 

    • Rental Income

 

    • Profit on Sale of Fixed Assets (to be shown under Investment Activities – Sale Price) Operating Profit before Working Capital Charges Operating Profi t before working capital charges

xxx

  D. Operating Profit before Working Capital Changes (A + B – C)

 

  E. Add: Decrease in Current Assets and Increase in Current Liabilities Detail:

 
 

    • Decrease in Stock/inventories

 

    • Decrease in Debtors/B/R

 

    • Decrease in Accrued Incomes

 

    • Decrease in Prepaid Expenses

 

    • Increase in Creditors/B/P

 

    • Increase in Outstanding Expenses

 

    • Increase in Advanced Income

 

    • Increase in Provision for Doubtful Debt

x-x

  F. Less: Increase in Current Assets and Decrease in Current Liabilities

 
 

    • Increase in Stock/inventories

 
 

    • Increase in Debtors/B/R

 

    • Increase in Accrued Incomes

 

    • Increase in Prepaid Expenses

 

    • Decrease in Creditors/B/P

 

    • Decrease in Outstanding Expenses

 

    • Decrease in Advanced Income

 

    • Decrease in Provision for Doubtful Debt

 

 

  G. Cash Generated from Operations (D + E – F)

 
xxx

  H. Less: Income Tax Paid

 

  I. Cash flow before extraordinary items, extraordinary items (±)

 
* * *

  J. Net Cash from (or used in) Operating Activities

 
xxx

2. Cash Flow from Investing Activities

 
 

    • Proceeds from Sale of Fixed Assets

 

    • Proceeds from Sale of Investments

 

    • Proceeds from Sale of Intangible Assets

 

    • Interest and Dividend Received (for non-finance companies only)

 

    • Rent Income

 

    • Purchase of Fixed Assets

 

    • Purchase of Investments

 

    • Purchase of Intangible Assets, e.g. Goodwill

 

    • Extraordinary Items (± or)

 

     Net Cash from (used in Investing Activities)

 
___

3. Cash Flow from Financing Activities

 
xxx

    • Proceeds from Issue of Shares and Debentures

 

    • Proceeds from other Long-Term Borrowings

 

    • Final Dividend paid

 

    • Interim Dividend paid

 

    • Interest on Loans and Debentures

 

    • Repayment of Loans

 

    • Redemption of Debentures/pret

 

    • Extraordinary Items ( + or −)

 

     Net Cash from (or used in) Financing Activities

 

 

 

4. Net Increase/Decrease in Cash and Cash Equivalents (1 + 2 + 3)

 
xxx

5. Cash and Cash Equivalents in the beginning of the year

 
 

    • Cash in Hand

 

    • Cash at Bank (less: O/D)

____

    • Short-Term Deposits

xxx

    • Marketable Securities

6. Cash and Cash Equivalents at the end of the year

 
 

    • Cash in Hand

 
 

    • Cash at Bank (less: O/D)

 
 

    • Short-Term Deposits

 
 

    • Marketable Securities

 
 

Cash Inflow from Debtors

Illustration: 2

You are required to calculate cash inflow from debtors from the following data.

Particulars Rs

Opening Balance

5,00,000

Cash Sales

2,00,000

Opening Debtors

50,000

Closing Debtors

80,000

Sales Returns

20,000

Solution: Cash inflow from debtors has to be computed. This can be prepared by two methods.

Method 1: Cash Inflow from Debtors: First the format has to be drawn. Then transfer the items as follows:

 

Cash Inflow from Debtors

Particulars   Rs

Opening Balance

Rs
50,000

ADD Credit Sales: Total Sales

5,00,000
 

Less: Cash Sales

2,00,000
3,00,000

Closing Balance of Debtors

 
3,50,000

Cash inflow from Debtors

 
 

Less:

 
 

Sales Returns

20,000
 

Closing Balance of Debtors

80,000
1,00,000

Cash Inflow from Debtors

 
2,50,000

Note

 

Step A:

Opening Debtors has to be taken as base (given in the question)

Step B:

With this Credit Sales (Total Sale − Cash Sale) is ADDED

Step C:

Then, Sales Returns and Closing Balance of Debtors to be deducted

Step D:

The result shows Cash Infl ow from Debtors

 

Method 2

 

Total Debtors Account

Total Debtors Account (ledger) is computed, as above.

Note

  1. Cash Inflow from Debtors is the balancing figure (Rs 2,50,000).
  2. Any one method may be adopted. The result will be same under both the methods, i.e. Cash Inflow from Debtors: Rs 2,50,000.

Illustration: 3

From the following calculate cash inflow from debtors

Particulars Rs

Opening Debtors

20,000

Closing Debtors

40,000

Opening Bills Receivables

15,000

Closing Bills Receivables

25,000

Total Sales

3,00,000

Cash Sales

25% of credit sales

Discount Allowed

10,000

Bad Debts

15,000

Discount Allowed

20,000

Sales Returns

35,000

Solution: First value of credit sales is to be calculated irrespective of the method to be adopted.

 

Let Credit Sales be taken as

=

X

Cash Sales

=

25% of X

 

=

X/5

*1Hence, X: Credit Sales = Rs 2,50,000

Method 1: Cash Inflow from Debtors

Particulars   Rs
Opening Debtors  
20,000
Opening Bills Receivable  
15,000
*1Add: Credit Sales (worked out above)
Rs
2,50,000
Less: Discount Allowed
(10,000)
2,85,000
Bad Debts
(15,000)
 
Sales Returns
(35,000)
 
Closing Debtors
(40,000)
 
Closing Bills Receivables
(25,000)
 
   
1,25,000
   
1,60,000*2

Total Debtors Account

Bills Receivables

Method 2: Cash Inflow from Trading Commission

Illustration:4

Calculate the amount of trading commission received during the year 2006 from the following data.

 

 

Jan 2006
Rs

Dec 31, 2006
Rs

Accrued Trading Commission

10,000

45,000

Advance Trading Commission

15,000

60,000

Trading Commission earned during the year 2006 is Rs 1,70,000

Solution: Trading Commission received can also be computed in two different ways (1) Statement Form and (2) Account Form.

 

1. Statement Form

Particulars Rs Rs

Trading Commission earning during 2006

 
1,70,000

Add: 1. Accrued Trading Commission as on Jan 1, 2006

10,000
 

2. Advance Trading Commission as on Dec 31, 2006

60,000
70,000

 

 
2,40,000

Less: 1. Accrued Trading Commission as on Dec 31, 2006

15,000
 

2. Advance Trading Commission as on Jan 1, 2006

45,000
60,000

Total Commission earned during 2006

 
1,80,000

2. Account Form Trading Commission Account

5.3 Calculation of Cash Outflow on Purchases

Purchases include both cash and credit purchases.

5.3.1 Credit Purchases

 

+ ■ Credit Purchases +

 

 

+ ■ Opening Creditors +

Items to be added

 

+ ■ Opening Bills Payable

 

 

− ■ Closing Creditors

 

 

− ■ Closing Bills Payable

 

 

− ■ Discount Received

Items to be deducted

 

− ■ Purchase Returns

 

This can also be calculated by preparing Total Creditors Account. [The balancing figure and bills payable can be inserted in the A/c by preparing Bills Payable A/c (balancing fig).]

Illustration: 5

Calculate cash outflow to creditors from the following:

 

   Total Purchases

:

Rs 1,80,000

   Cash Purchases

:

50% of credit purchases

   Opening Creditors

:

Rs 5,000

   Closing Creditors

:

Rs 20,000

   Purchase Returns

:

Rs 25,000

   Discount (Received)

:

Rs 10,000

Solution

First, we have to calculate credit purchase. Credit purchase is not given in the problem. So, let us assume,

Credit purchases = Rs x.

Cash purchase is given as 50% of credit purchase

So, Cash purchase = x/2

     Total purchases = Cash purchase + Credit purchase

Method 1: Calculation of Cash Outflow to Creditors

Particulars   Rs

Opening Balance of Creditors

 
5,000

Add: Credit Purchases

 
1,20,000

Less:

Rs
 

    (i) Closing Balance of Creditors

(20,000)
 

    (ii) Discount Received

(10,000)
 

    (iii) Purchase Returns

(25,000)
55,000

Cash Outfl ow to Creditors

 
70,000

Method 2:

 

Total Creditors Account

(Note: Balancing figure = Rs 1,25,000 – 55,000) = Rs 70,000

Illustration: 6

Complete cash outflow to creditors from the following:

 

 

 

Rs

 

Cost of Goods Sold

3,00,000

 

Operating Stock

5,000

 

Closing Stock

15,000

 

Opening Balance of Creditors

25,000

 

Return Outwards

10,000

 

Discount Received

15,000

 

Opening Bills Payable A/c

40,000

 

Closing Bills Payable A/c

50,000

 

Closing Balance of Creditors

40,000

 

Cash Purchases

60,000

Solution: Credit purchases will have to be calculated first. For this, from the figures, total purchases are calculated.

    Total Purchases = Cost of Sales (Cost of Goods Sold) + Closing Stock − Opening Stock

Students should note that cost of sales and cost of goods sold are one and the same

    = Rs 3,00,000 + 15,000 – 5,000 = Rs 3,10,000

Then, Credit Purchases = Total Purchases – Cash Purchases

 

 

=

Rs 3,10,000 ‒ Rs 60,000

 

=

Rs 2,50,000

Method 1: Cash Outflow to Creditors Account

Particulars   Rs

Opening Balance of Creditors A/c

 
25,000

Opening Balance of Bills Payable A/c

 
40,000

Add: Credit Purchases

 
2,50,000

Less:

Rs
3,15,000

    1. Discount Received

15,000
 

    2. Returns Outwards

10,000
 

    3. Closing Balance of Creditors

40,000
 

    4. Closing Balance of Bills Payable

50,000
1,15,000

Cash Outfl ow to Creditors

 
2,00,000

Method 2

 

Total Creditors Account

Bills Payable A/c

5.4 Cash Outflow on Expenses Incurred

To find out cash outflow, the amount of expenses (given in P & L A/c) has to be adjusted.

 

Step 1: For this * (i) amount outstanding in the beginning and (ii) prepaid at the end to be added with expenses (given in P & L A/c).
Step 2: (i) Amount outstanding in the end and (ii) prepaid at the beginning have to be deducted from P & L A/c.
Step 3: Net figure arrived will be cash paid for expenses.
Note 1: All non-cash expenses have to be ignored because no cash payment is involved (i.e., cash flow does not take place).

Treatment of non-cash expenses: Such expenses are as follows:

  1. Depreciation
  2. Preliminary expenses written off
  3. Discount on issue of shares and debentures written off
  4. Goodwill written off
  5. Patents and copyrights written off
  6. Underwriting commission written off

Note 2: All appropriations: To be ignored: Outflow of cash does not occur

Appropriations:

  1. Proposed dividend
  2. Provision for taxation
  3. Transfers to General Reserves

Note 3: All items relating to investing activities and financing activities are ignored because they are taken into calculation of cash flow from investing or financing activities. For example, profit/loss on sale of fixed assets.

Illustration: 7

Compute Cash Outflow on Business Expenses from the following (taken from P & L A/c)

 

 

 

Rs

 

Expenses occurred during the year 2006

25,000

 

Opening Outstanding Expenses

3,000

 

Closing Outstanding Expenses

5,000

 

Opening Prepaid Expenses

4,000

 

Closing Prepaid Expenses

2,500

Solution

Method I: Cash Outflow on Business Expenses

Particulars Rs Rs

Expenses incurred during the year

 
25,000

Add: Opening Outstanding Expenses Closing Prepaid Expenses

3000
 

Less: Closing Outstanding Expenses Opening Prepaid Expenses

2500
5,500

 

 
30,500

Less: Closing Outstanding Expenses

5000
 

Opening Prepaid Expenses

4000
9,000

Cash Outflow on Expenses

 
21,500

Method II

 

Expenses Account

Calculation of Cash from Operating Activities (Direct Method)

Illustration: 8

Direct Method illustrated:

Calculate cash flow from the following data by Direct Method.

 

 

 

Rs

 

Cash Sales

6,00,000

 

Cash Purchases

3,00,000

 

Royalties Received

25,000

 

Commission Paid

15,000

 

Rent Paid

12,000

 

Tax Paid

33,000

 

Tax Refund Received

13,000

 

Cash Received from Debtors

15,000

 

Cash Paid to Creditors

5,000

 

Wages and Salaries Paid

30,000

 

Manufacturing Expenses Paid

10,000

 

Office Expenses Paid

8,000

 

Insurance Claim for Tsunami Loss

35,000

Solution

 

Cash flow from Operating Activities

Particulars   Rs

A. Operating Cash Receipts

 

 

    Cash Sales

 

6,00,000

    Cash Received from Debtors

 

15,000

    Royalties Received

 

25,000

 

 

6,40,000

B. Operating Cash Payments

Rs

 

    Cash Paid to Creditors

5,000

 

    Cash Purchases

3,00,000

 

    Commission Paid

15,000

 

    Rent Paid

12,000

 

    Wages and Salaries

30,000

 

    Manufacturing Expenses

10,000

 

    Office Expenses

8,000

3,80,000

C. Cash From Operations Before Tax

Rs

2,60,000

D. Income Tax Paid

33,000

 

    Less: Refund Received

13,000

20,000

E. Cash Flow from Operations before Extraordinary Items

 

2,40,000

F. Extraordinary Items: Insurance Claim for Tsunami

 

35,000

G. Net Cash Flow From Operating Activities

 

2,05,000

Cash Flow from Operating Activities (Indirect Method)

So far, we have discussed the calculation of cash flow (Operating Activities) by Direct Method, stage by stage. Now we have to discuss this by the following Indirect Method.

One has to make adjustments on net profit arrived as in P & L Account.

To put in a nutshell, the net operating profit before working capital charges has to be adjusted as:

Items to be added

Items that lead to increase in cash have to be added.

They are as follows:

  1. Decrease in Current Assets
  2. Increase in Current Liabilities

Items to be deducted

Items that lead to decrease in cash have to be deducted.

They are as follows:

  1. Increase in Current Assets
  2. Decrease in Current Liabilities

Illustration: 9

Calculate Cash Flow from Operating Activities from the Following P & L A/c by Indirect Method

Solution: First, net profit before tax has to be calculated

 

 

Adjustment

Net profit as per P & L A/c

Rs 15,000

 

Items to be added:

1. Proposed Dividend

Rs 10,000

 

 

2. Provision for Tax

Rs 5,000

 

 

 

30,000

 

Items to be deducted:

1. Refund of Tax

Rs 3,000

 

 

2. Net Profit before Tax

Rs 27,000

 

 

 

30,000

Now we have to compute cash flow.

 

Cash Flow from Operating Activities

Particulars   Rs

Net Profit Before Tax

 

27,000

Adjustments

Rs

 

Add: Depreciation

3,000

 

Goodwill Written off

5,000

 

Loss on Sale of Machinery

2,000

10,000

 

 

37,000

Less: Profit on Sale of Building

 

12,000

Operating Profit before Working Capital Charges

 

25,000

I.T. Refund Received

 

3,000

Net Cash flow from Operating Activities

 

28,000

Illustration: 10

The following is the position of Current Assets and Current Liabilities of a Company

Particulars 1.1.2009 Rs 31.12.2009 Rs

 

Rs
 

Provision for Bad Debts

5,000

Short-Term Loan

20,000
30,000

Creditors

25,000
20,000

Bills Receivable

30,000
50,000

The company incurred a loss of Rs 70,000 during the year 2009. Calculate cash flows from operating activities by Indirect Method.

Solution

Calculation of cash flow from Operating Activities: Indirect Method

Particulars   Rs

Loss During 2009

 

–70,000

Adjustments

 

 

  (a) Increase in Current Assets

Rs

 

Bills Receivable

(20,000)

 

  (b) Decrease in Current Liabilities Creditors

(5,000)

 

Provision for Bad Debts

(5,000)

 

 

 

–30,000

Cash used in Operating Activities

 

(–1,00,000)

Negative Cash from Operations Illustrated:

  1. Here, students should note that Net Loss is given instead of Net Profit. The result is negative one. This means (negative cash from operation) that there is net outflow of cash from Operating Activities.
  2. Short-Term Loan: This is financing activity. So it has to be shown under cash flow from financing activities.
  3. So, increase in short-term loan is ignored.

5.5 Adjustments

For sale and purchase of (non-current) fixed assets (as per revised standard)

  1. Cash received from sale of an item of (non-current) fixed assets is not to be considered as cash flows from investing activities.
  2. Profit/Loss on sale of (non-current) fixed assets is taken into account in calculating cash flow from operating activities.
  3. While preparing (non-current) fixed assets account much care should be taken into accounts.

There are two methods for this:

Treatment of (non-current) fixed assets – on original basis and – on W.D.V. basis.

5.5.1 On Original cost basis

  1. Look at the Balance Sheet
  2. If there is “Provision for Depreciation” or “Accumulated Depreciation” for both years, it shows that fixed assets are shown at their original cost.
  3. In such cases, both “Fixed Assets Account” and “Provision for Depreciation Account” will have to be prepared to arrive at purchase and sale of fixed assets and the actual amount of depreciation.

5.5.2 On Written Down Value basis

  1. If there is no such item, depreciation appears in the Balance Sheet, it means that fixed assets are shown at written down value (i.e., after depreciation).
  2. Only fixed asset account has to be prepared and current year’s depreciation has to be credited to Fixed Assets Account (i.e., no need to prepare Provision for Depreciation Account).

Illustration: 11

Compute Cash Flow from Operating Activities by Indirect Method

Particulars Opening Balance
Rs
Closing Balance
Rs

P & L Account

45,000
55,000

General Reserve

25,000
30,000

Provision for Depreciation on Plant

40,000
45,000

Outstanding Expenses

5,000
2,000

Goodwill

25,000
15,000

Sundry Debtors

60,000
50,000

An item of plant costing Rs 50,000 having book value of Rs 40,000 was sold for Rs 45,000 during the year.

Solution

Step 1: First, net profit before tax is to be calculated

 

Net profit for the year

 

Difference between opening and closing balances in the problem (i.e. Rs 55,000 − Rs 45,000)

Rs 10,000

Adjustment

 

Add General Reserve (Difference Rs 30,000 − 25,000)

Rs 5,000

Net Profit before Tax

Rs 15,000

Step 2: Next,

Treatment of Plant A/c

  1. Plant A/c has to be prepared
  2. This has to be prepaid to arrive at depreciation, as cost, book value and sale of plant were given
  3. Balancing figure in the plant account is the figure arrived at for depreciation
  4. Profit on Sale = Sale Price – Book Price

    = Rs 45,000 – 40,000 = Rs 5,000

Plant Account

Step 3

  1. Next, provision for Depreciation of Plant A/c has to be prepared
  2. Balancing figure in this account is the amount provided for depreciation during the year
  3. Depreciation arrived at as in Plant Account has to be transferred here under “Plant A/c.”

Treatment of Provision for Depreciation

 

Provision for Depreciation on Plant Account

Step 4

Finally, now computation of cash flow from operating activities has to be worked out as follows:

 

Calculation of Cash Flows from Operating Activities

Particulars Rs

Net Profit Before Tax

15,000

Adjustments

 

Add: Non-cash expenses

 
Particulars   Rs

 

Rs

 

Depreciation

15,000

 

Goodwill written off

10,000

25,000

 

 

40,000

Less: Non-cash incomes

 

 

Profit on Sale of Plant

 

(5,000)

Operating Profit before Working Capital Charges

 

35,000

Add: Decrease in Current Assets: Sundry Debtors Debtors

 

10,000

 

 

45,000

Less: Decrease in Current Liabilities: Outstanding Expenses

 

(3,000)

Cash Flows from Operating Activities

 

42,000

Illustration: 12

Calculate cash flows from Operating Activities from the following information

Particulars 2008 (Rs) 2009 (Rs)

Debtors

42,000
46,000

Prepaid Expenses

2,000
2,700

Accrued Income

1,500
1,200

Income Revised in Advance

800
1,000

Creditors

26,000
29,000

Bills Payable

13,000
11,000

Outstanding Expenses

8,000
6,000

Profit made during 2009 amounted to Rs 1,00,000 after taking into account the following adjustments

  1. Profit on Sale of Investment : Rs 2,000
  2. Loss on Sale of Machine      : Rs 900
  3. Goodwill Amortised             : Rs 3000
  4. Depreciation Charged           : Rs 2900

Answer: Cash flow for Operating Activities

Particulars   Rs

Profit for the Year

 

1,00,000

Items to be added back to profit

Rs

 

Add: Depreciation

2,900

 

Goodwill Amortised

3,000

 

Loss on Sale of Machine

900

  6,800

 

 

1,06,800

Less. Profit on Sale of Investment

(2,000)

 (2,000)

Cash Generated from Operation before

 

1,04,800

Working Capital Charges (operation profit)

 

 

Add: Decrease in Current Assets and Increase

 

 

in Current Liabilities

300

 

Accrued Income

200

 

Income Received in Advance

 

 
Particulars Rs Rs

Creditors

2,000
  2,500

 

 

1,07,300

Less: Increase in Current Assets and Decrease in Current Liabilities:

 
 

Debtors

(4,000)
 

Prepaid Expenses

(200)
 

Bills Payable

(2,000)
 

Outstanding Expenses

(2,000)
(8,700)

Net Cash Flow from Operating Activities

 
98,600

Illustration: 13

The net profit of a company before tax is Rs 12,50,000 as on Mar 31, 2009 after considering the following:

 

 

Rs

Depreciation on Fixed Assets

25,000

Goodwill Written off

15,000

Loss on Sale of Machine

12,000

The current assets and current liabilities on the beginning and at the end of the year were as follows:

Particulars Mar 31, 2008 (Rs) Mar 31, 2009 (Rs)

Bills Receivables

25,000
15,000

Bills Payable

10,000
12,500

Debtors

30,000
38,800

Stock in Hand

18,000
14,000

Outstanding Expenses

8,000
7,000

Calculate cash flow from Operating Activities.

Answer: Students should once again remember the steps in preparing cash flow from Operating Activities:

 

Step 1:

Net profit before tax is taken as the base.

Step 2:

Items to be added back to the net profit have to be written one by one and add with net profit.

Step 3:

This added value is “operating profit before working capital charges.”

Step 4:

With this the following items to be added:

 

Decrease in the value of Current Assets

 

Increase in the value of Current Liabilities

Step 5:

Then, the following items have to be deducted:

 

Increase in the value of Current Assets

 

Decrease in the value of Current Liabilities

Step 6:

Net result is “net cash flow from operating activities”

 

Calculation of Cash Flow from Operating Activities

Particulars   Rs

A. Net Profi t before Tax

 

12,50,000

B. Add: (Items to be added back to Net Profit)

Rs

 

  Depreciation on Fixed Assets

25,000

 

  Goodwill Written off

15,000

 

  Loss on Sale of Machine

12,000

52,000

  (A + B) C. Operating Profi t before Working Capital Charges (A + B)

 

13,02,000

D. Add: (Decrease in Current Assets and Increase in Current Liabilities

 

 

  Decrease in Bills Receivables

9,500

 

  Decrease in Stock

4,000

 

  Increase in Bills Payable

2,500

16,000

E. (Deduct) Less: (Increase in Current Assets and Decrease in Current Liabilities

 

13,18,000

  Increase in Debtors

8,000

 

  Decrease in Outstanding Expenses

1,000

(9,000)

  (C + D − E) F. Net Cash Flow from Operating Activities (C + D − E)

 

13,08,200

5.6 Cash Flow from Investing Activities

  1. The investing activities of a concern relate to the acquisition and disposal of long-term assets and other reinvestments not included in cash equivalents.
  2. The cash flow from investing activities is ascertained by analysing the changes in fixed assets and long-term investments in the beginning and at the end of the year.
  3. The cash inflow and cash outflow (i.e. cash flow) of items included in this category of investing activities are as follows:

Payments (Cash Outflow)

  1. Cash payments to acquire fixed assets.
  2. Cash payments to acquire shares, warrants or debt instruments of other enterprises and interests in joint ventures.
  3. Cash advances and loans to third parties.

    Receipts (Cash Inflow)

  4. Cash receipts from disposal of fixed assets.
  5. Cash receipts from disposal of shares, warrants or debt instruments of other enterprises and interests in joint ventures.
  6. Cash receipts from the repayment of loans and advances made to third parties.

5.6.1 Accounting Treatment

5.6.1.1 Fixed Assets: There are two categories: (i) Fixed assets are shown at Written Down Value (W.D.V.). No additional information will be shown.

  1. To compute the missing figures, fixed asset account is opened and all items are recorded.
  2. To ascertain purchase of fixed assets → balancing figure on the debit side of the A/c.
  3. To ascertain sale of fixed assets → balancing figure on the credit side of the A/c.
  4. To ascertain depreciation → balancing figure on the credit side of the account.
  5. In cases, if both sale and depreciation are not given, it may be assumed to be either sale or depreciation and such assumption should be expressly recorded.
  6. In case of land → no depreciation recorded.
  7. In case of patents, trade marks, goodwill, etc. → the amount has to be written off.

Illustration:14

A public limited company has plant and machinery whose written down value on Apr 1, 2009 was Rs 7,50,000 and on Mar 31, 2010 was Rs 9,00,000. Depreciation for the year was Rs 30,000. At the beginning of the year a part of the plant was sold for Rs 20,000 which had written down value of Rs 17,500. Calculate the net cash flow from investing activities.

Solution

Note: Fixed assets are shown at written down value

Stage 1: Purchasing amount has to be calculated. So Plant and Machinery A/c has to be opened

 

Plant and Machinery Account

* Cash payment to acquire plant and machinery is ascertained as Rs 1,97,500

Stage 2: Cash flow from Investing Activities

Particulars Rs Rs

Cash Payments to Acquire Plant and Machinery

(1,97,500)
 

Cash Receipts from Sale of Plant and Machinery (given in question)

20,000
(1,77,500)

Cash Flow from Investing Activities

 
__________ (1,77,500)

Second Category

5.6.1.2 Fixed Assets are shown:   At cost and accumulated depreciation (separately maintained) or provision for depreciation

  1. In this case, depreciation is not directly charged to the Fixed Assets Account.
  2. Depreciation for the year is ascertained from Provision for Depreciation Account (Accumulated Depreciation A/c).

This can be explained with the help of the following illustration.

Illustration: 15

From the following information, calculate the cash flow from Investing Activities.

Particulars Mar 31, 2008 (Rs) Mar 31, 2009 (Rs)

Machinery (at cost)

5,00,000
5,50,000

Accumulated Depreciation

1,00,000
1,20,000

Patents

3,00,000
1,90,000

Additional Information

  1. During 2008–2009, a machine costing Rs 50,000 with accumulated depreciation Rs 30,000 was sold for Rs 25,000.
  2. Patents were written off to the extent of Rs 55,000 and some patents were sold at a profit of Rs 25,000.

Solution

  • Fixed Assets value is shown at cost
  • Accumulated depreciation is also shown
  • Further information particulars are also in the problem
  • In this question details on patents are also shown
  • So, we have to open separate accounts for
    1. Machinery
    2. Accumulate Depreciation Account
    3. Patents Account

to ascertain all the missing figures.

Step 1

 

 

Profit on sale of machinery is to be calculated.

 

Profit on Sale of Machinery = Sale Price − Book Value

 

= Rs 25,000 − (Cost − Accumulated Depreciation)

 

= Rs 25,000 − (Rs 50,000 − Rs 30,000)

 

= Rs 25,000 − (Rs 20,000)

 

= Rs 5,000

This amount has to be debited to Machinery A/c as P & L A/c.

Step 2

 

Machinery Account

Step 3

 

Accumulated Depreciation Account

Step 4

 

Patents Account

Step 5

 

Cash Flow from Investing Activities

Particulars Rs

Inflow from Sale of Machinery

25,000

*1 Outflow on Purchase of Machinery

(1,00,000)

*3 Inflow from Sale of Patents

80,000

Net Cash Flow from Investing Activities

5,000

Illustration: 16

From the following particulars, calculate the cash flows from investing activities.

  Purchases Rs Sales Rs

Investments

3,00,000
2,00,000

Goodwill

1,50,000

Machinery

6,50,000
2,10,000

Patents

1,00,000

Dividend received on shares held as investment Rs 30,000. Interest received on debentures held as investment Rs 40,000. A building purchased for investment purposes (out of surplus funds) was let out and rent proceeds received thereby Rs 1,20,000.

Solution

This is a different problem.

  • All purchases and sales are given straight.
  • No need to prepare separate account for any item.
  • So, cash flow from investing activities can straight away be calculated as follows:

Cash Flow from Investing Activities

Particulars Rs

Investments Purchased

(3,00,000)

Proceeds from Sale of Investments

2,00,000

Goodwill Purchased

(1,50,000)

Machinery Purchased

(6,50,000)

Proceeds from Sale of Machinery

2,10,000

Proceeds from Sale of Patents

1,00,000

Interest Received on Debentures

40,000

Dividend Received on Shares

30,000

Rent Received

  1,20,000

Net Cash Flow from Investing Activities

(4,00,000)

5.7 Cash Flow from Investing Activities

Illustration:17

A company has investments at the beginning of the year Rs 40,000 and at the end of the year Rs 30,000. During the year the company had sold 50% of its investments held in the beginning of the year at a profit of Rs 10,000. Compute cash flow from Investing Activities.

Solution

Step 1: First, cost of sales is to be calculated at 50% of the investment held in the beginning.

= × 40,000 = Rs 20,000

With this, profit has to be added to arrive at cash inflow from sale of investment.

So Sale of Investment = Rs 20,000 + Rs 10,000 = Rs 30,000

Step 2: Next, investment account is to be prepared to compute outflow on purchase of investment (i.e., the balancing figure in this account)

 

Investment Account

Step 3

 

Calculation of Cash Flow from Investing Activities

Particulars   Rs

Inflow from Sale of Investment

Rs
 

Cost of Investment Sold

20,000
 

Add: Profit on Sale

10,000
30,000

Less: Outflow on Purchase of Investment

 
(10,000)

Net Cash Flow from Investing Activities

 
20,000

Illustration: 18

 

Calculate Cash Flow from Investing Activities

Particulars   Rs

 

Rs
 

Machinery (at Cost)

6,00,000
6,25,000

Accumulated Depreciation

1,10,000
1,25,000

During the year, one of the machines costing Rs 60,000 with accumulated depreciation for this machine Rs 35,000 was sold for Rs 30,000.

Solution

 

Step 1:

Computation of profit on sale of fixed assets and book value of assets.
Profit on sale of machinery has to be calculated.
Profit on Sale of Machinery = Sale Price – Book Value
Sale price is given = Rs 30,000

Step 2:

Book value is to be found out
Book Value = (Cost – Accumulated Depreciation)
            = (Rs 60,000 – 35,000)
            = Rs 25,000

Step 3:

Profit on sale of machinery
= Rs 30,000 – 25,000 = Rs 5,000

Step 4:

Then machinery account is to be prepared

 

Machinery Account

Step 5: Accumulated Depreciation Account is to be prepared

 

Accumulated Depreciation Account

Step 6: Cash flow from investing activities is prepared

 

Cash Flow from Investing Activities

Particulars Rs

Inflow from Sale of Machinery

30,000

Outflow from Purchase of Machinery

(85,000)

(Balancing Figure in Machinery A/c)

 

Net Cash Flow from Investing Activities

               
(55,000)

5.8 Cash Flow from Financing Activities

5.8.1 Meaning

Activities that result in change in the size and composition of owners’ capital and borrowing of the enterprises are termed as financing activities.

Items included in financing activities are as follows:

  1. Proceeds from issue of shares
  2. Proceeds from issue of debentures
  3. Proceeds from long-term borrowings
  4. Receipts by way of loan
  5. Proceeds from issue of bonds
  6. Redemption of preferences shares/debentures
  7. Repayment of long-term borrowings, loans, etc.
  8. Interest paid (non-financial concerns only)
  9. Dividend paid (in all concerns)

Note

  1. Issue of Bonus Shares – (by which the increase in share capital) is not to be shown as a financing activity in the cash flow statement.
  2. But in case, when shares are issued at premium will be shown in cash flow statements.
  3. The cash flow from financing activities is ascertained by analysing the changes in equity share capital, preference share capital, debentures and other borrowings.

Illustration: 19

Calculate the cash flow from financing activities of a concern from the following information

Particulars Mar 31, 2008 (Rs) Mar 31, 2009 (Rs)

Equity Share Capital

5,00,000
6,75,000

9% Debentures

2,00,000
1,50,000

Securities Premium

  50,000
  70,000

Additional Information: Interest paid on debentures = Rs 18,000

Solution

Note

Treatment of change in share capital and changes in debentures and redemption.

  1. Change in share capital (Rs 6,75,000 – 5,00,000) reveals issue of shares.
  2. Premium increase, also included.
  3. Change in debentures (Rs 2,00,000 – 1,50,000) reflects redemption, included.
  4. Interest paid on debentures, also included.

Calculation of Net Cash Flow from Financing Activities

Particulars Rs Rs

Cash Receipts from Issue of Shares

1,75,000
 

Add: Proceeds from Premium

 20,000
1,95,000

Redemption of Debentures

(50,000)
 

Interest Paid on Debentures

(18,000)
(68,000)

Net Cash Flow from Financing Activities

 
1,27,000

Illustration: 20

A public limited company extends the following information. Calculate the net cash flow from Financing Activities.

Particulars Rs Rs

Equity Shares Capital

20,00,000
30,00,000

12% Debentures

1,00,000

9% Debentures

3,00,000

Additional Information

  1. Dividend paid Rs 75,000
  2. Interest paid on debentures Rs 12,000
  3. During the year 2008–2009, the company issued bonus shares in the ratio of 2:1 by capitalizing reserve

Solution

Note

Treatment of new issue of debentures – Interest and Dividend Bonus share

  • 9% debentures – shown for the year 2009 – proceeds from new issue of debentures – included
  • 12% debentures – redeemed in full – included
  • Interest paid and dividends paid – included
  • Capital increase due to issue of bonus share not to be included (capitalisation of reserve)

So, care should be taken before ascertaining the cash flow from financing activities, whether that items form part of financing activities and whether it should be included or not.

 

Calculation of Net Cash Flow from Financing Activities

Particulars Rs

Cash Proceeds from the Issue of 9% Debentures

3,00,000

Payments on Redemption of 12% Debentures

(1,00,000)

Interest Paid on Debentures

(12,000)

Payment of Dividend

(75,000)

Net Cash Flow from Financing Activities

1,13,000

5.9 Accounting Treatment of Special Items

5.9.1 Interest and Dividend

This depends on

  1. The nature of business entities (i.e. financial or non-financial)
  2. The nature of transactions (i.e. received or paid)
    1. Dividends paid is always treated as financing activity (financial or non-financial)
    2. Dividends received: for financial enterprises operating activity

      For non-financial concerns

               ↓

      Investing activity

               ↓

    3. Interest: both paid and received:

      –For financial enterprises;

               ↓

      –Operating activity

      –For non-financial enterprises:

               ↓

      Interest paid → financing activity

      Interest received → investing activity

      These can be represented by the tabular column as follows:

5.9.2 Proposed Dividend

  • Proposed dividend for current year:

    To be added back to current year's profit to ascertain cash flow from Operating Activities.

  • Proposed dividend for previous year:

    To be treated as Financing Activity.

5.9.3 Interim Dividend

  • To be added back to current year's profits to ascertain cash flow from operating activities.
  • Further, it has to be treated as cash used in a financing activity.

5.9.4 Discount on Issue of Shares or Debentures

  • Discounts are to be written off through Profit and Loss Account.
  • Discount written off: To be added back to current year's profits to ascertain cash from Operating Activities.
  • Treatment of special items.
  • Discount allowed during the year: To be treated as Financing Activity.

5.9.5 Non-cash Transactions

  • As no cash flow takes place, they are not included in preparation of Cash Flow Statement.
  • But AS–3 (revised) stipulates that such items have to be disclosed as footnote in the statement.
  • For example
    1. Issue of shares for consideration other than cash
    2. Conversion of debentures into shares

5.9.6 Taxes on Income

  • In general, it is treated as an Operating Activity.
  • But at times, if it is associated with any specific activity, then it may be treated as investing or financing activity depending on the nature of transactions.

5.9.7 Extraordinary Items

  • Extraordinary items have to be classified under appropriate activity. It may be either one of the three activities. For example
    1. Insurance claims
    2. Buy-back of shares
    3. Compensation – land acquisition

Illustration: 21

From the following information, calculate the cash flow from Investing Activities and Financing Activities.

Particulars Apr 1, 2008 (Rs) Mar 31, 2009 (Rs)

Furniture (at cost)

25,000
35,000

Accumulated Depreciation on Furniture

  5,000
  8,000

Capital

2,00,000
2,75,000

Loan

50,000
30,000

During the year 2008–2009, furniture costing Rs 7,000 was sold at a profit of Rs 2,500. Depreciation on furniture charged during the year amounted to Rs 6,000.

Solution

  • In this question, items relating to Investing Activities and Financing Activities are shown. So cash flows have to be computed for each separately.
  • Changes in capital and loan relate to Financing Activities and the remaining items relate to Investing Activities.

Step 1: First, cash flow from Financing Activities is to be computed as follows:

 

Cash Flow from Financing Activities

Particulars Rs

Cash Inflow by Issue of Fresh Capital {i.e. Increase in Capital = Rs 2,75,000 – 2,00,000}

75,000

Cash Outflow on Repayment of Loan {i.e. Loan Decreased: Rs 50,000 – 30,000}

(20,000)

Net Cash from Financing Activities

 

 

55,000

Next, Furniture Account and Accumulated Depreciation Accounts have to be computed.

 

Sale Price

=

Cost – Accumulated Depreciation + Profit on Sale

 

=

Rs 7,000 − 3,000*2 + 2,500 = Rs 6,500*

Step 2

 

Accumulated Depreciation Account

Step 3

 

Furniture Account

Step 4: Finally, cash flow from Investing Activities has to be ascertained.

 

Cash Flow from Investing Activities

Particulars Rs

Cash Inflow by Sale of Furniture *1

6,500

Cash Outflow on Purchase of Furniture *3

(17,000)

Net Cash Flow from Investing Activities

(10,500)

Note: Here, negative net cash flow indicates net cash used in Investing Activities.

Illustration: 22

 

An Extract from the Balance Sheets of ABC Ltd

You are required to prepare the cash flow statement for the year ended Mar 31, 2008.

Solution: Computation of Cash Flow Statement of ABC Ltd. for the year ended Mar 31, 2008.

  Rs Rs

A. Cash Flow from Operating Activities

 
 

Closing Balance as per P & L A/c

10,00,000
 

Less: Opening Balance as per P & L A/c

7,00,000
 

Net Profit

3,00,000
 

Add: Proposed Dividend during the Year

5,00,000
 

Net Cash from Operating Activities

 
8,00,000

B. Cash Flow from Financing Activities

 
 

Final Dividend paid,

4,00,000
 

i.e. Proposed Dividend (previous year) Payable

(70,000)
3,30,000

Net Cash used in Financing Activities

 
3,30,000

Proposed Dividend Account

Dividend Payable Account

Illustration: 23

 

Extract from the Balance Sheets of XY Ltd is as follows

Additional Information

The final dividend on preference shares and an interim dividend of Rs 60,000 on equity shares were paid on Mar 31, 2009. How these items will be recorded in the Cash Flow Statement?

Solution

  1. Items shown in the Balance Sheet extract relate to Operating Activities and Financing Activities. Computation of both cash flow from Operating Activities and Financing Activities
  2. First cash flow from Operating Activities is calculated
  Rs Rs

Cash Flow from Operating Activities

 
 

Closing Balance as per P &L A/c

 
5,50,00

Less: Opening Balance as per P & L A/c

 
3,00,000

Net Profit

 
2,50,000

Add: Proposed Dividend during the year 2008–2009

2,50,000
 

Dividend Paid on Preference Shares

60,000
 

Interim Dividend Paid

60,000
3,70,000

Net Cash from Operating Activities

 
6,20,000

Cash Flow from Financing Activities

 
 

Final Dividend paid on Equity Shares (Rs 1,75,000 – 55,000)

 
(1,20,000)

Final Dividend paid on Preference Shares

 
(60,000)

Interim Dividend paid on Equity Shares

 
(60,000)

Net Cash used in Financing Activities

 
(2,40,000)

Illustration: 24

 

Extract of the Balance Sheet of Renu Ltd is as follows

Solution

  1. In this problem also items relating to both Operating Activities and Financing Activities appear.
  2. First, Discount on Issue of Shares Account and then Discount on Issue of Debenture Account have to be prepared.
  3. A separate account for 10% Debenture A/c has also to be prepared.
  4. After ascertaining the missing figures, we can compute the cash flows.

Step 1

 

Discount on Issue of Shares Account

Step 2

 

Discount on Issue of Debentures Account

Step 3

 

10% Debentures Account

Step 4

 

An Extract of Cash Flow Statement for the year ended Mar 31, 2009

  Rs

1. Cash Flow Operating Activities

 

Closing Balance as per P & L A/c

2,50,000

Less: Discount Balance as per P & L A/c

(2,00,000)

Add: Discount on Issue of Shares (from – *1)

1,00,000

Interest on Debentures (Rs 15,00,000 × 10/100)

1,50,000

Net Cash from Operating Activities

3,00,000

2. Cash Flow from Financing Activities

 

Proceeds from Issue of Debentures (from – *3)

4,25,000

Interest paid on Debentures (Rs 1,50,000 – 25,0000)

(1,25,000)

(as calculated) (unpaid)

 

Net Cash from Financing Activities

3,00,000

Illustration: 25

 

An Extract of Balance Sheet of Verma Ltd. is as follows

Additional Information

Discount on the issue of debentures written off during the year 2008–2009 was Rs 25,000.

You are required to depict the related items in the Cash Flow Statement.

Solution

  1. Steps will be the same as explained in the previous illustration.
  2. Only additional adjustment to be made is for written off amount on debentures.

Step 1

 

Discount on Issue of Shares Account

Step 2

 

Discount on Issue of Debentures Account

Step 3

 

10% of Debentures Account

Step 4

 

An extract of cash flow statement for the year ended on Mar 31, 2009

  Rs

1. Closing Balance as per P & L A/c

2,25,000

  Less: Opening Balance as per P & L A/c

(1,50,000)

  Add: Discount on Issue of Shares *1

70,000

  Discount on Issue of Debentures *2

75,000

  Interest on Debentures

1,50,000

  Net Cash from Operating Activities

3.70,000

2. Cash Flow from Operating Activities

 

  Proceeds from Issue of Debentures

4,25,000

  Interest paid on Debentures

(1,30,000)

  Net Cash from Financing Activities

2,95,000

Illustration: 26

From the following information, prepare a Cash Flow Statement for the year ending on Mar 31, 2008.

Depreciation provided during the year 2007–2008 = Rs 10,000

 

[B. Com (Madras) – Modified]

Solution

Stage I: (A) Cash flow from Operating Activities has to be calculated first.

Step 1: For this profi t as per Balance Sheet has to be taken as base fi gure (Rs 60,000 − 50,000)

Step 3: Here, depreciation and goodwill

Important Step: SUM of (i), (ii) and (iii) = Operating profi t before working capital charges

Step 4: With this

  1. Increase in Current Liabilities (here – Bills Payable only): Rs 25,000 – 15,000 (given) have to be added. And
    (given)
    (given)
  2.  
    1. Increase in Current Assets (here – Debtors: Rs 20,000 − 15,000) and Decrease in Current Liabilities (here – creditors: Rs 5,000 – 3,000) have to be deducted.
      (2007)
      (2008)

Step 5: Result – Net Cash from Operating Activities

Stage II: (B) Cash flow from Investing Activities has to be calculated:

Here in this question, cash outflows occurs on (i) purchase of machine and (ii) building

Step 1: *Accrual cash flow – amount spent on purchase of machineries – is ascertained by separately preparing Machinery Account and the balancing figure from that account has to be transferred here.

Step 2: Purchase of Building

     Rs 90,000 − 40,000

 

   ↓

   ↓

(2007)

(2008)

[These two items are recorded one by one]

Note: The values are written without brackets which means outflow of cash:

Stage III: (C) Cash flow from Financing Activities has to be computed

Step 1: Here, in the problem, cash fl ow or share capital (Rs 1,60,000 − 80,000) is recorded.

 

   ↓

   ↓

(2008)

(2007)

Stage IV: Net increase in cash and cash equivalents is to be computed as

 

Add

=

A (Stage 1)

Less

=

B (Stage 2)

Add

=

C (Stage 3)

[(i.e.) A − B + C] shows as

      ↓

Net increase in cash and cash equivalents

 

Stage V:

With this

 

Add: Cash and cash equivalents at the beginning

Stage VI:

Finally, we arrive at

 

Cash and cash equivalents at the end.

 

These are represented into the format as shown below

Cash Flow Statement

Calculation of cash flow statement as per AS–3.

 

A. Cash Flow Statement from Operating Activities

  Rs Rs

Net Profit before Taxation

 
 

Profit as per Balance Sheets

10,000
 

(Rs.60,000 – 50,000) (Ref: Stage 1. Step 1)

 
 

Add: General Reserve

6,000
16,000

(Rs 10,000 – 4,000) (Ref: Stage 1. Step 2)

 
 

Add: Adjustments

 
 

Depreciation (from information) (from step iii)

10,000
 

Goodwill (Rs 30,000 – 20,000) (step iii)

10,000
20,000

Operating Profit before Working Capital Charges

 
36,000

Add: Increased in Current Liabilities

 
 

Bills Payable (Rs 25,000 – 15,000) (step 4a)

 
10,000

Less: Increase in Current Assets

 
46,000

Debtors (step 4b)

5,000
 

Decrease in Current Liabilities (Creditors) (step 4b)

2,000
(7,000)

Net Cash from Investing Activities

 
39,000

B. Cash Flow from Investing Activities

    Rs

Purchase of Machine (transferred from Machinery A/c) (Step 1)

(59,000)
 

Purchase of Building (Rs 90,000 – 40,000) (Step 2)

(50,000)
 

Net Cash used in Investing Activities

 
(1,09,000)

C. Cash Flow from Financing Activities

  Rs

Issue of Share Capital (Stage 3 – Step 1)

80,000

A − B + C Net Increase in Cash and Cash Equivalents (Stage IV)

10,000

Cash and Cash Equivalents at the Beginning (Stage V) (given 2007)

20,000

Cash and Cash Equivalents at the End (Stage VI)

30,000

*Machinery A/c

OBJECTIVE 6: IMPORTANT STEPS (STAGES) IN THE PREPARATION OF CASH FLOW STATEMENT

6.1 Stage I: A. Cash Flow from Operating Activities

Step 1: Net profit before tax is taken as base. Instead of showing separately the closing balances and opening balances of P & L A/c straight away, net profit (closing balance – opening balance) amount can be recorded and with this transfer the General Reserve is added

Step 2: Add:

  1. Transfer to General Reserve
  2. Other adjustments (items added back to profit, i.e. depreciation; goodwill loss on sale, etc.)

Step 3: Figure arrived at this stage is termed as operating profit before working capital charges

Step 4: With this, the following items have to be added

Add:

  1. Decrease in the value of Current Assets
  2. Increase in the value of Current Liabilities

Step 5: Less: following items have to be deducted

  1. Increase in the value of Current Assets
  2. Decrease in the value of Current Liabilities

Step 6: Figure arrived at this stage is termed as Net Cash Flow from Operating Activities. Now we have to go to next stage.

6.2 Stage II: B. Cash Flow from Investing Activities

Purchase of plant, machinery, land and buildings, etc. has to be recorded here.

 

Important Note:

If depreciation amount is given in additional information, separate accounts (Plants A/c – Building A/c) have to be prepared to ascertain the value of their purchase which are cash flows from Investing Activities.

(In this stage, such items as described above are to be recorded and the sum of all items to be shown within brackets, which means that due to investing activities cash outflow actually takes place).

Figure arrived is termed as Net Cash from Financing Activities.

6.3 Stage III: C. Cash Flow from Financing Activities

Step 1: Issue of share capital to be recorded, etc.

Step 2: Less: If any redemption, such amount has to be recorded and deducted from Step 1.

Step 3: Figure arrived at this stage is termed as “Net Cash from Financing Activities”.

6.4 Stage IV: Net Increase/Decrease in Cash and Cash Equivalents

A + B + C [Stage I + Stage II + Stage III]

6.5 Stage V: Cash and Cash Equivalents at the Beginning of the Year to be Added

6.6 Stage VI: Cash and Cash Equivalents at the End of the Year to be Recorded

Note:

This is a simplified form. One or two items only are shown. Students should practice with this first and then proceed to all the other items mentioned in the standardised format as prescribed by AS–3.

Illustration: 27

The following is the financial position as on Mar 31

During the year Rs 60,000 was paid as dividend, you are required to prepare Cash Flow Statement as per AS–3 (revised)

 

Solution:

First, net profit has to be calculated because all adjustments have to be carried on units net profit as base.

 

 

Rs

Profit as on Mar 31, 2009

1,60,000

Profit as on Mar 31, 2008

1,40,000

(Difference) Profit for the year

20,000

Add: Dividend paid during the year

60,000

and Net profit before Tax and Extraordinary Items

80,000*1

 

Cash Flow Statement for the Year Mar 31, 2009

Particulars Rs Rs

A. Cash Flow from Operating Activities

 
 

   *1Net Profit before Tax and Extraordinary Items

*1 80,000
 

   (as calculated above)

 
 

   Add: Depreciation

10,000
 

   Operating Profit before Working Capital Charges

90,000
 

   Add: Decrease in Stock

14,000
 

   Increase in Current Liabilities

20,000
 

   Increase in Debtors

(5,000)
 

   Net Cash from Operating Activities

 
1,19,000

B. Cash Flow from Investing Activities

 
 

   Purchase of Building

(20,000)
 

   Purchase of Land

(20,000)
 

   Purchase of Machinery

(30,000)
 

   Net Cash used in Investing Activities

 
(70,000)

C. Cash Flow from Financing Activities

 
 

   Proceeds of Loan from Ram Ltd.

40,000
 

   Repayment of Bank loan

(30,000)
 

   Payment of Dividend

(60,000)
(50,000)

   Net Decrease in Cash and Cash Equivalents

 
(1,000)

   Cash and Cash Equivalents at the Beginning

 
12,000

   Cash and Cash Equivalents at the End

 
11,000

Notes:

  1. Figures mentioned within brackets mean negative items (minus items – to be deducted)
  2. If there is negative cash from activities, then it is understood that there is net outflow of cash from such activities.
OBJECTIVE 7: SOME IMPORTANT HINTS

Hint 1: Instead of profit/loss, capital alone may be given in the problem. In such cases, profit is arrived at as follows:

Treatment of Capital and Drawings

 

 

Rs

 

Capital at the end of the period.:…

xx

 

Less: Capital at the beginning of the period

xx

 

Profit for the year

xx

Hint 2: In case, if capital at the beginning and at the end of the period is given, students have to prepare Capital Account, and the balancing figure is taken as “Drawings.”

Format Capital A/c

(OR)

 

 

Calculation of Drawings :

 

 

Opening Capital :

………

 

Add: Net Profit :

………

 

Less: Closing Profit :

………

 

Drawings

__________

This amount has to be included in cash flow from financing activities under “Drawings.”

Hint 3: Loss on sale of fixed assets is calculated as follows:

Loss on Sale of Fixed Assets: Cost – Selling Price

And if in case of any depreciation: Cost – Accumulated Depreciation – Selling Price

Hint 4: Provision for Taxation

Case 1: Item, “Provision for Taxation” appears on the liabilities side of previous year’s Balance Sheet.

  • This shows that the taxes were paid during the year.
  • So, while calculating net cash from operating activities, this has to be deducted.

Case 2: This item “Provision for Taxation” appears on the liabilities side of the currents year’s balance sheet.

  • This amount is to be added to profits.
  • “Net profit before tax” is to be shown.

Under cash flow from Operating Activities

  • This treatment (adjustment) is done, if tax paid during the year is not given in the problem.
  • If “Tax paid” is given in question, then the “Provision for Tax Account” is prepared and the amount of tax paid is found out (balancing figure) (provision for taxation).

Format Provision for Tax Account

Hint 5: Dividend paid during the year

  • Interim dividend for the year is calculated as
  • Net profit for the year is first calculated.
  • This amount is added with opening balance of P & L A/c.
  • Then it is deduced by closing balance of P & L A/c.

Dividend Paid: Opening Balance of P & L + Net Profit – Closing Balance of P &L A/c.

Hint 6: If appropriate adjustments have to be made for both provision for tax and interim dividend to arrive at net profit before tax, then the following adjustments are to be made as

 

 

 

Rs

 

Profit at the end of the period (Closing)

 

Less: Profit at the beginning (Opening)


 

Profit of the Year


 

Appropriations

 

 

Add: 1. Interim Dividend paid

 

    2. Provision for Tax


 

Profit Before Tax

xx

Illustration: 28

From the following information, prepare a Cash Flow Statement as on Mar 31, 2009.

Depreciation provided during the year on machine was Rs.10,000.

Solution

 

Cash Flow Statement

Illustration: 29

Comprehensive illustrations from 28 to 37

From the following Balance Sheet of Raja Ltd, prepare a Cash Flow Statement.

Depreciation charged on plant was Rs 10,000 and on building was Rs 60,000.

Solution: As depreciation is given in additional information, Plant A/c and Building A/c have to be prepared separately to ascertain the value of their purchase which are cash flow from Investing Activities.

 

Plant A/c

 

Building A/c

 

Cash Flow Statement for the year ended Dec 31, 2009

Net Profit before Taxation Rs Rs

Closing Balance of P & L A/c

24,000

 

Add: Transfer of General Reserve

15,000

 

 

39,000

 

Less: Opening Balance of P & L A/c

15,000

24,000

Note: Instead of showing separately closing and opening balance adjustments, straight away net profit can be found as (Closing Balance – Opening Balance) as Rs 9,000 and with this transfer to General Reserve is added.

  Rs Rs

A. Net Profit before Tax and Extraordinary Items

 

 

Adjustments for

10,000

 

Depreciation on Plant

60,000

 

Depreciation on Building

16,000

 

Goodwill written off

 

86,000

Operation Profit before Working Capital Charges

 

1,10,000

Adjustments for:

 

 

Add: Increase in Creditors

12,000

 

Less: Increase in Debtors

(35,000)

 

Increase in Stock

(5,000)

(28,500)

Net Cash from Operating Activities

 

81,500

B. Cash Flow from Investing Activities

 

 

Purchase of Plant

70,000

 

Purchase of Building

40,000

 

Net Cash in Investing Activities

 

(1,10,000)

C. Cash Flow from Financing Activities

 

 

Issue of Share Capital

50,000

 

Redemption of 12% Preference Share Capital

(25,000)

 

Net Cash from Financing Activities

 

25,000

 

(3,500)

Cash and Cash Equivalents at the Beginning of the Year

 

(12,5,00)

Cash and Cash Equivalents at the End of the Year

 

9,000

Illustration: 30

From the following Balance Sheet of Vivek Ltd., prepare Cash Flow Statement.

Depreciation charged on plant was Rs 30,000 and on building was Rs 50,000.

Solution

 

Cash Flow Statement for the Year Ended Dec 31, 2009

Illustration: 31

What is meant by Investing Activities? From the following particulars prepare cash flow from Investing Activities.

  Purchased Rs Sold Rs

1. Machinery

4,00,000
2,00,000

2. Investments

2,00,000
3,00,000

3. Goodwill

1,00,000
 

4. Patents

1,50,000

5. Interest received or debentures held as investments

10,000
 

6. Dividend received on shares held as investments

5,000
 

7. A plot of land was purchased out of surplus funds for investment purposes and was let out for commercial use and rent received

20,000
 

Answer: The acquisition and disposal of long-term assets (not included in cash equivalents) is called Investing Activities.

 

Cash Flow from Investing Activities

Particulars Rs

Purchase of Machinery

(4,00,000)

Proceeds from Sale of Machinery

2,00,000

Purchase of Investments

(2,00,000)

Proceeds from Sale of Investments

3,00,000

Purchase of Goodwill

(1,00,000)

Proceeds from Sale of Patents

1,50,000

Interest Received

10,000

Dividend Received

5,000

Rent Received

20,000

Net Cash used in Investing Activities

(15,000)

Note: Figures within brackets mean items, i.e. to be deducted. This comes to be Rs 4,00,000, Rs 2,00,000, Rs 1,00,000 = Rs 7,00,000.

This has to be deducted from (Rs 2,00,000 + Rs 3,00,000 + Rs 1,50,000 + Rs 10,000 + Rs 5,000 + Rs 20,000 = Rs 6,85,000. Again (Rs – 7,00,000 + Rs 6,85,000) = Net Result (– Rs 15,000). So cash is used. Cash flows out on Investing Activities.

Illustration: 32

Calculate cash flows from Operating Activities from the following information.

Calculate cash flows from Operating Activities from the following information.

Particulars 2008 Rs 2009 Rs

Stock

60,000

50,000

Debtors

25,000

23,000

Creditors

32,000

28,000

Expenses Outstanding

3,500

4,500

Bills Payable

35,000

22,000

Accrued Income

8,000

9,000

P & L A/c

80,000

90,000

 

Calculation of Net Cash Flows from Operating Activities

Particulars Rs Rs

Profit for the Year (Closing – Opening)

 

10,000

Decrease in Stock

10,000

 

Decrease in Debtors

2,000

 

Decrease in Creditors

(4,000)

 

Increase in Expenses Outstanding

1,000

 

Increase in Accrued Income

(1,000)

 

Decrease in Bills Payable

(13,000)

(5,000)

Net Cash Flow from Operating Activities

 

5,000

Illustration: 33

From the following information prepare a Cash Flow Statement.

  Rs

Opening Cash Balance

10,000

Closing Cash balance

12,000

Decrease in Debtors

5,000

Increase in Creditors

7,000

Sale of Fixed Assets

20,000

Redemption of Debtors

50,000

Net Profit for the Year

20,000

 

Cash Flow Statement for the Year Ended

Particulars Rs Rs

A. Cash Flow from Operating Activities

    Net Profit for the Year

20,000

 

    Add: Decrease in Debtors

5,000

 

    Increase in Creditors

7,000

 

    Net Cash from Operating Activities

 

_______
32,000

B. Cash Flow from Investing Activities

    Sale of Fixed Assets

20,000

 

Net Cash from Investing Activities

 

_______
20,000

C. Cash Flow from Financing Activities

    Redemption of Debtors

(50,000)

 

    Net Cash from Financing Activities

 

(50,000)

D. Net Increase in Cash and Cash Equivalents

 

2,000

    (A + B + C) (32,000 + 20,000 – 50,000)

 

 

    E. Cash and Cash Equivalents at the Beginning

 

10,000

F. Cash and Cash Equivalents at the End of the Period

 

12,000

Illustration: 34

Prepare a Cash Flow Statement on the basis of the information given in the Balance Sheet of P.S. Ltd.

Solution

 

Cash Flow Statement for the year ended 2009

Particulars Rs Rs

A. Cash Flow from Operating Activities

 

 

Closing Balance of General Reserve

70,000

 

Less: Operating Balance of General Reserve

(50,000)

 

Net Profit (before Tax and Extraordinary Items)

 

20,000

(Note: Net profit is not disclosed in the balance sheet. Only General Reserve appears here)

 

 

Add: Items to be added i

 

 

Amortisation of Goodwill

8,000

 

Investment on Long-term Loan (Debtors = 1,00,000 × 12/100 × 1)

12,000

12,000

Operating Profi t before Working Capital Changes

 

40,000

Add: Decrease in Current Assets and Increase in Current Liabilities:

 

 

Increase in Creditors

20,000

 

Increase in Bills Payable

80,000

1,00,000

Less: Increase in Current Assets and Decrease in Current Liabilities:

 

 

Decrease in Outstanding Expenses

(5,000)

 

Increase in Debtors

(20,000)

 

Increase in Stock

(20,000)

(45,000)

Net Cash from Operating Activities

 

95,000

B. Cash Flow from Investing Activities

 

 

Purchase of Land and Building

(80,000)

 

Purchase of Machinery

(30,000)

(1,10,000)

Net Cash used in Investing Activities

 

(1,10,000)

C. Cash Flow from Financing Activities

 

 

Proceeds from Equity Shares

50,000

 

Payment of Long Term (Debenture Redeemed)

(20,000)

 

Payment of Interest on Debtors

(12,000)

18,000

Net Cash from Financing Activities

 

18,000

D. Net Increase in Cash and Cash Equivalents (A + B + C)

 

3,000

(95,000 − 1,10,000 + 18,000)

 

 

E. Cash and Cash Equivalents at the Beginning Cash in Hand

 

15,000

F. Cash and Cash Equivalents at the End of the Period

 

18,000

Illustration: 35

Prepare a cash flow statement of Bulbul Ltd. on the basis of the information given in the Balance Sheets.

Solution

 

Cash Flow Statement for the year ended Dec 31, 2009

Particulars Rs Rs

A. Net Profit before Tax and Extraordinary Items

Closing Balance of General Reserve

1,80,000

 

Less: Opening Balance of General Reserve

(1,00,000)

 

Net Profit before Tax

 

80,000

Add: Items to be added

 

 

Amortisation of Goodwill

20,000

 

Invest on Debenture

24,000

44,000

Operating Profit before Working Capital Changes

 

1,24,000

Add: Decrease in Current Assets and Increase in Current Liabilities:

 

 

Decrease in Stock

1,20,000

 

Increase in Creditors

20,000

 

Increase in Outstanding Expenses

10,000

1,50,000

Less: Increase in Current Assets and Decrease in Current Liabilities

 

2,74,000

Increase in Debtors

(10,000)

 

Decrease in Bills Payable

(5,000)

(15,000)

Cash generated from Operation:

 

2,59,000

Less Income Tax paid

 


——

Cash from Operating Activities

 

2,59,000

B. Cash Flow from Investing Activities

Purchase of Land

(3,00,000)

 

Purchase of Machinery

(10,000)

(3,10,000)

Net Cash used in Investing Activities

 

(3,10,000)

C. Cash flows from Financing Activities

Proceeds from Issue of Equity Shares

1,00,000

 

Payment for Debentures (Redemption)

(50,000)

 

Payment of Interest on Debentures

(24,000)

26,000

Net Cash from Financing Activities

 

26,000

D. Net Increase/Decrease in Cash and Cash Equivalents

 

25,000

(A − B + C) (Rs 2,59,000 − 3,10,000 + 26,000)

 

 

E. Cash and Cash Equivalents at the Beginning (Cash)

 

10,000

F. Cash and Cash Equivalents at the End

 

35,000

Illustration: 36

The following balances appeared in Plant A/c and Accumulated Depreciation A/c in the books of Bhart Ltd.

  As on Mar 31, 2008 Rs As on Mar 31, 2009 Rs

Plant

7,50,000
9,70,000

Accumulated Depreciation

1,80,000
2,40,000

Additional Information: Plant costing Rs 1,45,000 accumulated depreciation thereon Rs 70,000 was sold for Rs 35,000. You are required to

  1. Compute the amount of plant purchased, depreciation charged for the year and loss on sale of plant.
  2. Show how each of the items related to the plant will be shown in the Cash Flow Statement.

Answer: Note:

  1. Students have to prepare Plant Account and Accumulated Depreciation Account
  2. From the balancing figures obtained in each account, inflow or outflow of cash has to be found out. Accordingly it has to be treated in Cash Flow Statement.

I. Plant Account

 

II. Accumulated Depreciation Account

  • Sale of plant: Given in additional information: Rs 35,000: Inflow of cash “Investing Activities”
  • Purchase of plant: balancing figure in the Plant Account: Rs 3,65,000: Outflow of cash: Investing Activities
  • Loss on sale of plant: (from Plant Account) Rs 1,45,000 – 70,000 – 35,000 = Rs 40,000 will be added back to net profit of the year while preparing Cash Flow Statement.
  • Depreciation charged: Rs 1,30,000 (balancing figure in Accumulated Depreciation Account) will also have to be added to net profit.

Summary

  • Cash Flow Statement is a statement that depicts sources of cash inflows and transactions of cash outflows during a period. It is a statement indicating flow of cash and cash equivalents during a period.
  • Now, preparation of Cash Flow Statement is mandatory for all the companies. It is also mandatory for all business entities that has turnover of more than Rs 50 crores in a financial year.
  • Main sources of cash inflows are as follows: (i) Proceeds from sale of long-term assets, (ii) Long-term borrowings, (iii) Cash receipts from raising additional share capital, (iv) Business operations, (v) Cash receipts from non-business operations (e.g. investment, dividend, etc).
  • Main “uses of cash” (or) cash outflows are as follows: (i) Payment of dividend interest, (ii) Purchase of assets, (iii) Redemption of debentures, (iv) Repayment of borrowings.
  • The Cash Flow Statement shows cash flows (inflow and outflow) in terms of three components as per AS–3: (i) Operating, (ii) Investing and (iii) Financing Activities.
  • The Cash Flow Statement shows the net increase/ decrease of cash and cash equivalents under each activity individually and collectively.
  • Cash flows from operating activities result from the major revenues producing activities of a business concern. The major operating items are cash inflow (cash sales, cash received from debtors, cash proceeds from extraordinary items, royalty, commission, and so on) and cash outflow (cash purchases, cash paid to suppliers and employees and cash operating expenses, income tax, and so on).
  • Major investing activities of cash inflow: sale of fixed assets, investments, interest and dividends, received and cash outflows: purchase of fixed assets and investments.
  • Major financing activities of cash inflows: issue of shares in cash, issue of debentures, proceeds from long-term borrowings and cash outflows: redemption of preference shares/debentures, repayment of loans buy-back of equity shares, payment of interest and dividend, etc.
  • Importance of (activities) Cash Flow Statement – operating activities – net cash flow is an indicator to assess cash generation and to forecast future cash flows.
  • Investing activities: To study the net result of the amount spent on investment, usefulness of such expenditure and thereby the future income from such investments.
  • Financing activities: To asses claims on future cash flows.
  • Important steps to prepare cash flow statement:
    1. Cash flow from operating activities is computed either by direct method or indirect method.
    2. Net cash flow from investing activities is calculated.
    3. Net cash flow from financing activities is determined.
    4. Net flow, i.e. net increase or decrease in cash or cash equivalents is determined from steps (i), (ii) and (iii)
    5. Cash and cash equivalents balance at the beginning of the period is added to the net cash flows determined in Step (iv).
    6. The amount arrived in Step (iv) must be equal to cash and cash equivalents balance at the end of the year.

Key Terms

Cash: Cash constitutes cash on banks.

Cash Equivalents: Short term, highly liquid investments that are readily convertible into known amount of cash.

Cash Flow: Inflow and outflow of cash equivalents.

Cash flow statement: A statement that shows the flow of cash and cash equivalent during a period.

Accounting Standard: Issued by ICAI.

Operating Activities: Principle revenue producing activities of business enterprises that are not investing and financing activities.

Investing Activities: Activities that result in change in size and composition of the owners' capital.

Financing Activities: Activities that result in change in size and composition of the owners' capital.

Debenture: A debt security with a general claim against all assets.

Debtor: A person who owes money to another or a business enterprise that owes money to another.

Depreciation: The systematic allocation of cost of fixed assets.

Direct method: The method that calculates net cash provided by operating activities.

Indirect method: The method that adjusts accrual net income to reveal only cash receipts and outflows.

General Reserve: An estimate of unforeseen liability undistributed profit.

Reference

 

Toster G., Financial Statement Analysis, Prentice Hall, Englewood Cliffs, 1986.

Horngreen Sundem Elioot, Introduction to Financial Accounting, Pearson Education, New Delhi, 2005.

Helfert, E.H., Techniques of Financial Analysis, Inrwin, Homewood, 1997.

———, Compendium of Statements and Standards of Accounting, The Institute of Chartered Accountants of India, New Delhi.

A Objective-type Questions

 

I Choose the best answer

  1. The Cash Flow Statement is based on
    1. cash basis of accounting
    2. accounting equation
    3. accrual basis of accounting
    4. none of the above
  2. Dividend paid is always classified as
    1. operating activity
    2. investing Activity
    3. financing activity
    4. none of the above
  3. Proposed dividend is classified as
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  4. Interest received by (other than) financial concerns is classified as
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  5. Profit on sale of machinery comes under
    1. investing activity
    2. financing activity
    3. operating activity
    4. none of the above
  6. Sale of patents is classified under
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  7. Rent received by a company (whose main business is real estate) is classified as
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  8. Rent received by a company (whose main business is manufacturing) falls under
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  9. Sale of investments by a finance company is classified as
    1. investing activity
    2. financing activity
    3. operating activity
    4. cash equivalent
  10. Sale of investments by a non-finance company comes under
    1. investing activity
    2. financing activity
    3. operating activity
    4. none of the above

Answers

  1. (a)
  2. (b)
  3. (c)
  4. (a)
  5. (c)
  6. (a)
  7. (a)
  8. (b)
  9. (c)
  10. (a)

II State whether the following statements are True or False

  1. Inflow of cash refers to all transactions that lead to increase in cash and cash equivalents.
  2. Outflow of cash refers to all transactions that lead to decrease in cash and cash equivalents.
  3. Non-cash transactions are covered in cash flow statements.
  4. Cash sales – cash outflow.
  5. Cash receipts from debtors are financing activity.
  6. Cash payment relating to a future contract is an investing activity.
  7. Cash receipts from debtors are treated as cash inflow for operating activities.
  8. Cash receipts on interest and dividend are treated as cash inflow for financing activities.
  9. Cash proceeds from issuing share are treated as cash inflow from financing activities.
  10. Cash receipts from sale of fixed assets are shown as cash inflow from financing activities.
  11. Cash payment to creditors is treated as cash outflow for investing activities.
  12. The cash flow statement is based upon accrual basis of accounting.
  13. Redemption of preference shares is an investing activity.
  14. Cash payment to income tax is operating activity.
  15. Repayment of any finance liability is financing activity.
  16. Cash proceeds from long-term borrowings are an investing activity.
  17. Cash receipts from royalties are operating activity.
  18. Cash flow statement is concerned with change in working capital position between the two different dates of balance sheet.
  19. Cash payment to creditors is a financing activity.
  20. Accounting standard (AS)–3 sets standards to the preparation of cash flow statement.
  21. Bank balance is cash equivalent in the preparation of cash flow statement.
  22. Decrease in current assets will result in increase in cash.
  23. Increase in current liabilities will result in decrease in cash.
  24. If there is net loss (negative cash from operation) then there is net outflow of cash from operating activities.
  25. Acquisition and disposal of long-term asset is termed as “Investing Activities” of a concern.
  26. A change in owners' capital and borrowing capital is revealed in cash flow from financing activities of a concern.
  27. If there is negative cash from activities, then there will be net inflow of cash.
  28. Revaluation of building affects cash flows.
  29. Sources of cash and uses of cash are to be equal.
  30. Sources of cash should always be more than uses of cash.

Answers

 

1. True

2. True

3. False

4. False

5. False

6. True

7. True

8. False

9. True

10. False

11. False

12. False

13. False

14. True

15. True

16. False

17. True

18. False

19. False

20. True

21. True

22. True

23. False

24. True

25. True

26. True

27. False

28. False

29. False

30. False

 

III Fill in the blanks with appropriate words

  1. Cash flow refers to the movement both, inflow and outflow of ________ during a period.
  2. Cash flow statement is a ____________ that shows flow of cash and cash equivalents during a period.
  3. Cash flow statement is based on past records. So it is ________ in nature.
  4. Cash equivalents are usually of short term but highly ________ investments.
  5. Cash equivalents reveal change in ________.
  6. Cash flow statements (based on AS–3) should be prepared and presented under __________ method.
  7. Taxes paid on income should be shown separately as the cash flows from ________ activities.
  8. Decrease in creditors ________ cash.
  9. The activities that result in changes is the size and composition of the owner’s capital and borrowing of the enterpriser are ____________activities.
  10. Decrease in inventory ________ cash.
  11. Buy back of shares is shown under ________.
  12. Increase in pre-paid expenses ____________cash.
  13. Dividends paid are classified under ________.
  14. Cash payments to suppliers of goods and services are shown under ________.
  15. Long-term assets acquired classified under_______ activities.

Answers

  1. cash and cash equivalents
  2. statement
  3. historic
  4. liquid
  5. cash and cash equivalents
  6. indirect
  7. operating
  8. decreases
  9. financing
  10. increases
  11. financing
  12. decreases
  13. financing
  14. operating
  15. investing

B Short Answer-type Questions

  1. Explain cash flow.
  2. Define Cash Flow Statement.
  3. What do you mean by cash equivalent? Give two examples.
  4. Name the classification of cash flows from business transactions while preparing cash flow statements as per AS–3.
  5. What do you mean by operating activities?
  6. What is meant by investing activities?
  7. What are financing activities?
  8. Mention the two methods of cash flow from operating activities.
  9. Give four examples for operating activities.
  10. Give four examples for investing activities.
  11. Give four examples for financing activities.
  12. Identify the transactions as belonging to (a) operating, (b) investing, (c) financing and (d) cash equivalent activities.
    1. short-term deposit in banks
    2. cash credit
    3. issue of share capital
    4. repayment of long-term loan
    5. cash received from debtors
    6. sale of patents
    7. commission received
    8. income tax paid
  13. When does the flow of cash arise?
  14. What are non-cash expenses? Give any four examples.
  15. Explain current assets. Give four examples.
  16. How an increase/decrease in current assets will affect cash flows?
  17. Explain current liabilities. Give four examples.
  18. How an increase/decrease will affect cash flows?
  19. How the cash flow from investing activities is ascertained?
  20. How the cash flow from financing activities is ascertained?

C Essay-type Questions

  1. Cash Flow Statement: Explain elucidate the main objectives of Cash Flow Statement.
  2. “The analysis of Cash Flow Statement in any organisation can be very useful to the management” – Discuss.
  3. What are the limitations of Cash Flow Statement?
  4. Explain the following terms by citing two examples each: (i) cash equivalents, (ii) cash flow (including movement between the items of cash or cash equivalents), (iii) operating activities, (iv) investing activities and (v) financing activities.
  5. Explain the classification of businesses activities as per AS–3, showing the inflow and outflow of cash.
  6. Explain the accounting treatment for the following while calculating cash flow from Operating Activities under Direct Method. (i) cash inflow from debtors (sales), (ii) cash inflow from operating income, (iii) cash outflow to creditors (purchases), (iv) cash outflow on expenses (both outstanding and paid in advance), (v) non-cash expenses and appropriations.
  7. Explain the accounting treatment in the preparation of cash flow from Operating Activities under Indirect Method for the following items: (i) net profit before tax, (ii) non-cash and non-operating items, (iii) changes in current assets and current liabilities (iv) fixed assets.
  8. Explain the accounting treatment for the following while preparing cash flow from investing activities. (i) fixed assets (shown at written down value), (ii) fixed assets (shown at cost and accumulated depreciation is separately maintained)
  9. Explain the accounting treatment for the following items while preparing Cash Flow Statement from Financing Activities. (i) dividend (proposed dividend and interim dividend), (ii) taxes on income, (iii) discount on issue of shares/debentures (amount of discount retained off and amount of discount allowed during the year).
  10. Draw the format for Cash Flow Statement (Operating Activities) by Direct Method as per AS–3 (revised).
  11. Draw the format for Cash Flow Statement (Operating Activities) by Indirect Method as per AS–3 (revised).
  12. Differentiate between “funds flow” statement and “Cash Flow” Statement.

D Exercises

 

1. Calculate cash flow from Operating Activities from the following information.

Particulars 2007 Rs 2008 Rs

Stock

60,000
50,000

Debtors

25,000
23,000

Creditors

32,000
28,000

Expenses Outstanding

3,500
4,500

Bills Payable

35,000
22,000

Accrued Income

8,000
9,000

P and L A/c

80,000
90,000

Answer: Net cash flow from Operating Activities Rs 5,000

2. X Ltd made a profit of Rs 1,00,000 after charging depreciation of Rs 20,000 on assets and a transfer for General Reserve of Rs 30,000. The Goodwill retain off was Rs 7,000 and the gain on sale of machineries was Rs 3,000. The other information available: (charges in the value of current assets and current liabilities). At the end of the year, debtors show an increase of Rs 6,000; creditors an increase of Rs 10,000; prepaid expenses an increase of Rs 200; bills receivable a decrease of Rs 3,000; bills payable a decrease of Rs 4,000 and outstanding expenses a decrease of Rs 2,000. Ascertain cash flow from operating activities.

Answer: Net Cash Flow from Operating Activities: Rs 1,54,800

3. X Ltd made a profit of Rs 1,20,000 after charging of depreciation of Rs 20,000 on assets and a transfer to General Reserve of Rs 30,000. The goodwill written off Rs 7,000 and the gain on sale of the machineries was Rs 3,000. Changes in the value of current assets and current liabilities at the end of the year: Debtors showed an increase of Rs 6,000; creditors an increase of Rs 10,000; prepaid expenses an increase of Rs 200; bills receivable a decrease of Rs 3,000; bills payable a decrease of Rs 4,000 and outstanding expenses a decrease of Rs 2,000.

Ascertain cash flow from operating activities.

Answer: Net Cash from Operating Activities: Rs 1,74,800.

4. On Mar 31, 2008, Y Ltd. made a profit of Rs 1,25,000 after considering the following.

  Rs

Depreciation on Billings

25,000

Depreciation on Plant and Machinery

45,000

Amortisation or Goodwill

20,000

Gain on Sale of Machinery

10,000

Current Assets and Current Liabilities

 
  Apr 1, 2007 Rs Mar 31, 2008 Rs

Accounts Receivable

35,000
45,000

Stock in Hand

75,000
69,000

Cash in Hand

18,000
30,000

Accounts Payable

30,000
32,000

Expenses Payable

10,000
5,000

Bank Overdraft

60,000
35,000

Ascertain cash flow from Operating Activities.

Answer: Net Cash Flow from Operating Activities: Rs 1,98,000

 

5. Calculate net cash flows from Operating Activities from the following details.

  Rs

Profits earned during the year 2008

50,000

Transfer to General Reserve

10,000

Depreciation provided

20,000

Profit on Sale of Furniture

5,000

Loss on Sale of Machineries

10,000

Preliminary Expenses retain off

10,000
Particulars 2007 Rs 2009 Rs

Debtors

10,000
15,000

Bills Receivable

7,000
5,000

Stock

15,000
18,000

Prepaid Expenses

2,000
3,000

Bills Payable

15,000
25,000

Creditors

20,000
18,000

Outstanding Expenses

3,000
4,000

Answer: Net cash from Operating Activities: Rs 87,000

 

6. Y Ltd. made a net profit of Rs 15,000 for the year ending on Mar 31, 2009 after taking the following into consideration.

  Rs

Depreciation on Plant and Machinery

15,000

Depreciation on Buildings

45,000

Amortisation of Goodwill

20,000

Loss on Sale of Machinery

5,000

Current Assets and Current Liabilities at the beginning and at the end of the year.

Particulars Apr 1, 2008 Rs Mar 31, 2009 Rs

Accounts Receivables

35,000
40,000

Stock in Hand

55,000
42,000

Cash in Hand

12,000
2,000

Expense Due

6,000
8,000

Accounts Payable

60,000
53,000

Calculate cash flow from Operating Activities.

Answer: Cash flow from Operating Activities: Rs 97,000

7. The following balances appeared in Machinery Account and Accumulated Deprecation Account in the books of XYZ Ltd.

  Mar 31, 2008 Rs Mar 31, 2009 Rs

Machinery A/c

17,78,985
26,55,450

Accumulated Depreciation A/c

3,40,795
4,75,690

Additional Information

Machinery costing Rs 2,60,000 on which accumulated depreciation Rs 1,00,000 was sold for Rs 75,000. You are required to

  1. Compute the amount of machinery purchased, depreciation charged for the year and loss on sale of machinery.
  2. How shall each of the items related to machinery be shown in Cash Flow Statement?

Answer

1. Amount spent on purchase of machinery

Rs 11,41,465

 

2. Depreciation charged for the year

Rs 2,34,895

 

3. Loss on sale of machinery

Rs 90,000

 

8. Calculate cash flow from Operating Activities from the following information.

  Rs

Profit for the Year

50,000

Transfer to General Reserve

10,000

Depreciation provided

20,000

Profit on Sale of Furniture

5,000

Loss on Sale of Furniture

10,000

Preliminary Expenses Written off

10,000
Particulars Mar 31, 2008 Rs Mar 31, 2008 Rs

Debtors

10,000
15,000

Bills Receivable

7,000
5,000

Stock

15,000
18,000

Prepaid Expenses

2,000
3,000

Creditors

20,000
18,000

Bills Payable

15,000
25,000

Outstanding Expenses

3,000
4,000

Answer: Net Cash Flow from Operating Activities: Rs 97,000

9. From the following summarised balance sheets of a company, compute cash flow from operating activities.

Answer:

(i) Net profit before tax and extraordinary items Rs 30,000

 

(ii) Net cash flow from operating activities Rs 3,600

 

10. From the flowing summarised Balance Sheets of a company calculate cash flow from Operating Activities.

Answer: Cash flow from Operating Activities: Rs 13,600

11. From the flowing statement compute cash generated from Operating Activities.

 

Statement of profit for the Year Ending Mar 31, 2009

Answer: Cash generated from Operating Activities Rs 55,000

12. From the following summarised Balance Sheets, calculate cash flow from Operating Activities.

Answer: Cash flow from Operating Activities Rs 10,000

13. A company had the following balances: investment at the beginning of the period Rs 46,000 and investment at the end of the period Rs 30,000. During the year the company sold 60% of its investments held in the beginning of the period at a profit of Rs 10,000. Calculate the cash flow from Investing Activities.

Answer: Cash flow from investing activities Rs 26,000

Hint: Investment A/c (balancing figure) Rs 11,600

14. From the following information calculate cash flow from Investing Activities.

Investment at the beginning of the period

Rs 25,000

Investment at the end of the period

Rs 24,000

During the year the company sold 40% of its investments held in the beginning of the period at a profit of Rs 9,000.

Answer: Cash Flow from Investing Activities: Rs 20,000

Hint: Purchase value {Rs 9,000}

15. From the following particulars calculate cash flow from Investing Activities.

  Purchase Rs Sold Rs

Investment

2,30,000
1,40,000

Goodwill

1,75,000

Machinery

5,30,000
2,10,000

Patents

75,000

Interest received on debentures held as an investment Rs 18,000. Dividend received on shares held as investments Rs 25,000. A part of building was purchased out of surplus funds for investment purposes, which earned Rs 75,000 by way of rent.

Answer: Net cash used in Investing Activities: Rs 3,92,000

16. From the following information calculate cash flow from Investing Activities.

  Mar 31, 2008 Rs Mar 31, 2009 Rs

Machinery

5,00,000
5,50,000

Accumulated Depreciation

1,00,000
1,20,000

Patent Rights

3,00,000
1,80,000

Additional Information

  1. During the year, a machine costing Rs 50,000 with accumulated depreciation Rs 30,000 was sold for Rs 25,000.
  2. Patents were written of to the extent of Rs 30,000, and some patents were sold at a profit of Rs 25,000.

  Answer: Net cash flow from Investing Activities Rs 40,000

Hint: Balancing Figures: Machinery A/c Rs 1,00,000, Accumulated Depreciation A/c Rs 50,000 and Patents Account Rs 1,15,000

17. 1f. Ajay & Co. has plant and machinery, whose written down value on Apr 1, 2008 was Rs 7,50,000 and on Mar 31, 2009 was Rs 9,00,000. Depreciation for the year was Rs 30,000. At the beginning of the year a part of plant was sold for Rs 20,000 which had a written down value of Rs 16,000.

Answer: Net cash flow from Investing Activities Rs 1,76,000

Hint: Plant and Machinery A/c (Balancing Figure) Rs 1,96,000

18. Calculate cash flow from Financial Activities from the following information.

  Mar 31, 2008 Rs Mar 31, 2009 Rs

Equity Share capital

6,00,000
8,00,000

9% Debentures

2,00,000
1,00,000

Securities Premium

50,000
75,000

Information: Interest paid on debentures Rs 18,000

Answer: Net cash from Financing Activities: Rs 1,07,000

19. A public limited company provides the following figures. Calculate the net cash flow from Financing Activities.

  Mar 31, 2008 Rs Mar 31, 2009 Rs

Equity Share Capital

8,00,000
12,00,000

10% Debentures

1,50,000

6% Debentures

3,00,000

Additional Information

  1. Interest paid on Debentures Rs 15,000
  2. Dividend paid Rs 40,000
  3. During the year 2008–2009, the company issued bonus shares in the ratio of 2:1 by capitalizing the reserve.

Answer: Net cash flow from Financing Activities: Rs 95,000

20. Calculate cash flow from (i) Investing Activities and (ii) Financing Activities from the following information.

  Mar 31, 2008 Rs Mar 31, 2009 Rs

Furniture (at cost)

30,000
40,000

Accumulated Depreciations Furniture

7,000
10,000

Capital

1,50,000
2,25,000

Loan from Bank

40,000
25,000

During the year 2008–2009, furniture costing Rs 5,000 was sold at a profit of Rs 3,000. Depreciation charged during the year was Rs 6,000.

 

Answer:

1. Net cash from Financing Activities: Rs 60,000

 

2. Net cash fl ow from Investing Activities: Rs 10,000

 

Hint:

Sale Price Rs 5,000

 

Furniture purchased: Rs 15,000

 

Accumulated Depreciation: Rs 3,000

21. From the following Summary Cash Account of XYZ Ltd., you are required to prepare Cash Flow Statement for the year ended Mar 31, 2009 in accordance with AS–3.

Summary Cash Account for the year ended Mar 31, 2009

Answer:

1. Net cash from Operating Activities: Rs 2,50,000

 

2. Net cash used in Investing Activities: Rs 1,00,000

 

3. Net cash used in Financing Activities: Rs 50,000

22. The Balance Sheet of J. K. Ltd. as on Mar 31, 2008 and Mar 31, 2009 are as follows:

Additional Information

An old machine was sold for Rs 20,000 which had a written down Rs 10,000; dividend paid during the year Rs 16,000 and depreciation charged to Profit and Loss Account for the year amounted to Rs 10,000. Prepare the Cash Flow Statement.

 

 

Rs

Answer:

1. Cash flow from Operating Activities

36,000

 

2. Cash used in Investing Activities

32,000

 

3. Cash flow from Financing Activities

4,000

 

Cash – Cash constitutes cash on banks.