Financial Reporting SESSION 8 Cash flow statement 1 Objectives • Discuss the information content of the cash flow statement • Understand the classification of cash flows between operating, investing and financing activities • Explore the links between the balance sheet, the income statement and the cash flow statement • Learn to calculate cash flow from operations using the direct and indirect method • Introduce the concept of ‘cash and cash equivalents’ 2 Statement of Cash Flows • Reports operating cash flow as well as other cash flow information • Provides important information to investors and creditors • In particular, information about differences in the timing of revenue and expense recognition under GAAP/IFRS and the associated cash inflows and outflows 3 Why do we need cash flow statement? • Net income reported on the Income Statement provides an important measure of performance • But, in the absence of cash flow, income does not pay the bills • Interest and dividend payments, required principal reductions on debt, capital expenditure for plant and equipment and expansion cannot be made without cash • Cash provided by operating activities, also known as operating cash flow, is a primary source of cash to meet these needs 4 Why do we need cash flow statement? • In the absence of operating cash flow, cash from other sources can be used to cover cash requirements • For example, cash can be obtained from nonrecurring asset sales, liquidation of marketable securities, new debt or equity financing • These non-operating sources of cash flow can be relied upon only in the short run • In the long run, operating cash flow is the only reliable source of cash available to meet recurring needs 5 Why do we need cash flow statement? • Hence, users of financial information need cash flow statement : – To assess extent to which reported profits have been realised in the form of cash (quality of earnings) – To forecast the ability of the entity to generate future cash flows (inputs for valuation models used in accounting & finance) – To see if the entity can meet its obligations (liabilities), pay dividends, and finance new projects with internal sources of money – To assess the entity’s need for external financing – To understand the cash aspects of the operating, investing and financing activities of the business 6 Cash flow statement • The cash flow statement is a relatively new statement as compared to B/S and I/S: – First required by US standard setters (SFAS 95) in 1987 – Required by international standards (IAS 7) since 1992 – The U.K. requires the statement since 1991 (FRS1) – Germany introduced the cash flow statement in 1999 – In some countries (e.g. Spain) it is still not required for all companies – Some small and non-listed companies are also not required to prepare the cash flow statement 7 Cash flow statement • The cash flow separates changes in cash into three categories: • Cash flow from operating activities • Cash flow from investing activities • Cash flow from financing activities • The statement sums the actual change in cash during the year • The actual change refers to the difference between the ending and beginning cash balances on the balance sheet 8 Structure of the cash flow statement Net cash from operating activities (CFO) A Net cash from investing activities (CFI) B Net cash from financing activities (CFF) C Net increase/decrease in cash flows D=A+B+C Cash and cash equivalents at the beginning of the year E Cash and cash equivalents at the end of the year F=D+E 9 Cash flow from Cash flow from investing operating activities activities M&S - Cash flow statement for 2020 end Cash flow Cash and cash equivalents from at financing beginning / activities Cash flow from operating activities Operating activities: cash derived from the main or core revenueproducing activities of the enterprise Cash inflows (receipts) – – – – Sale of goods and rendering of services to customers Royalties, fees, commissions Other revenue Interests and dividend received (optional) Cash outflows (payments) – – – – Purchase of goods and services Salaries, employee benefits and social expenses Taxes Interests on borrowings (optional) 11 Cash flow from investing activities Investing activities: cash resulting from buying and selling long-term assets Cash inflows (receipts) – Proceeds from sale of non-current assets (intangible, tangible, investments) – Repayment of loans made to others – Interests and dividend received (optional) Cash outflows (payments) – Purchase of non-current assets (intangible, tangible, investments) – Loans made to others 12 Cash flow from financing activities Financing activities: obtaining and repaying funds from/to shareholders and long-term debtholders Cash inflows (receipts) – Proceeds from issuing shares – Proceeds from issuing debt Cash outflows (payments) – – – – – Repayment of debt Capital repayment in finance leases Share repurchases Interests on borrowings (optional) Dividends paid 13 Preparing Cash flow statement 14 Ollie’s Fish and Chips shop • Ollie contributes £10,000 in cash Assets = Liabilities + Owner’s Equity Cash Share capital +10,000 +10,000 Ollie’s Fish and Chips shop • The company borrows £3,000 from the bank Assets = Liabilities Cash Loans payable +3,000 +3,000 + Owner’s Equity Ollie’s Fish and Chips shop • The company purchases equipment for £5,000 in cash Assets = Cash Equipment -5,000 +5,000 Liab. + O. Equity Ollie’s Fish and Chips shop • The company performs service for £12,000. The customer pays £8,000 in cash and promises to pay the balance at a later date Assets = Liab. + O. Equity Cash Acc. Receivable Retained earnings +8,000 +4,000 +12,000 Ollie’s Fish and Chips shop • The company pays £9,000 for expenses (wages, interest, and maintenance) Assets = Liabilities + Owner’s Equity Cash Retained earnings -9,000 -9,000 Ollie’s Fish and Chips shop • The pays a dividend of £1,000 Assets = Liabilities + Owner’s Equity Cash Retained earnings -1,000 -1,000 Recording transactions in a worksheet Assets = Cash +10,000 +3,000 -5,000 +8,000 -9,000 -1,000 6,000 Liabilities + Acc. Equipment receivable Loans payable Owner’s Equity Share capital +10,000 Retained earnings +3,000 +5,000 +4,000 4,000 Use the column to prepare cash flow statement – statement of changes in the cash balance. 5,000 3,000 10,000 Use closing balance row to prepare balance sheet +12,000 -9,000 -1,000 +2,000 Balance Sheet at the end of period Assets Amount Cash Receivables Equipment 6,000 4,000 5,000 Total Assets 15,000 Liabilities and Equity Amount Loans payable Share capital Retained earnings 3,000 10,000 2,000 Total L+E 15,000 Recording transactions in a worksheet Assets = Cash +10,000 +3,000 -5,000 +8,000 -9,000 -1,000 6,000 Liabilities + Acc. Equipment receivable Loans payable Owner’s Equity Share capital +10,000 Retained earnings +3,000 +5,000 +4,000 4,000 Use the column to prepare cash flow statement – statement of changes in the cash balance. 5,000 3,000 Use closing balance row to prepare balance sheet 10,000 +12,000 -9,000 -1,000 +2,000 Use the column to prepare the I/S – statement of flows (changes) in equity Income Statement at the end of period Amount Revenues Expenses Net income 12,000 9,000 3,000 Recording transactions in a worksheet Assets = Cash +10,000 +3,000 -5,000 +8,000 -9,000 -1,000 6,000 Liabilities + Acc. Equipment receivable Loans payable Owner’s Equity Share capital +10,000 Retained earnings +3,000 +5,000 +4,000 4,000 Use the column to prepare cash flow statement – statement of changes in the cash balance. 5,000 3,000 Use closing balance row to prepare balance sheet 10,000 +12,000 -9,000 -1,000 +2,000 Use to prepare the I/S – statement of flows (changes) in equity Cash flow statement Operating activities: Sale of service Payment for expenses 8,000 -9,000 Cash flow from operating activities -1,000 Investing activities: Purchase of equipment -5,000 Cash flow from investing activities -5,000 Financing activities: Owner contributions Borrowings Payment of dividends Cash flow from financing activities Increase in cash balance Cash at the beginning of the period Cash at the end of the period 10,000 3,000 -1,000 12,000 6,000 0 6,000 26 Cash flow from operating activities • Two methods to calculate cash flows from operating activities: - Direct method - Indirect method • The figure for ‘cash flow from operating activities’ is the same under direct or indirect method 27 Direct versus indirect cash flow format • Affects only the operating section of the cash flow statement • In our example above: • Direct Cash flow statement Sale of service (-) Payment for expenses 8,000 -9,000 Cash flow from operating activities -1,000 • Indirect Cash flow statement Net income (-) Increase in accounts receivable Cash from operating activities 3,000 -4,000 -1,000 28 Cash flow from operating activities 29 Cash flow from operating activities • In general, differences between net income and CFO (cash flow from operations) are captured in operating current assets and operating current liabilities accounts • So, to arrive at CFO, certain adjustments need to be made to the Income Statement items 30 Direct (semi direct) method How are operating cash receipts and payments obtained? • From the detailed records of the cash book of the entity • By adjusting sales, cost of sales and other items in the I/S for changes in B/S Income statement cash item Accrual basis +/- Changes in a related = Cash flow balance sheet item Cash basis 31 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 Steps: • Identify I/S cash items Cash sales (exlude credit sales) • Find related B/S items • Determine the sign (+, -) of the change in the related B/S items to eliminate the accrual component in the I/S item 32 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 TOTAL SH.EQUITY & LiABIL. 14,930 12,440 (1) Including bank overdrafts 950 200 Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable 33 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 1st step Identify I/S cash items Because we are identifying only operating CF 34 Dukes Company Let’s find cash sales Start from the income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 1st step Identify I/S cash items Sales revenue are: cash sales + credit sales. 35 Dukes Company 2nd step - find related B/S item: Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 Credit sales = D in Accounts receivable 36 Dukes Company 3rd step - determine the sign (+,-) of the change in the related B/S items: Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 TOTAL SH.EQUITY & LiABIL. 14,930 12,440 (1) Including bank overdrafts 950 200 Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable Cash sales = Sales revenue – D in Accounts receivable Cash sales = 14,100 – (2,300 – 1,650) = 13,450 37 Direct method Cash receipts from customers = X2 Sales revenue X2 +/- Change in acc.receivable X2 + opening acc.receivable – closing acc.receivable 13,450 + 14,100 +1,650 - 2,300 Cash received from costumers = sales revenue – D acc receivable = 14,100 – 650 = 13,450 Note: D = closing balance of an account – opening balance of an account 38 Dukes Company Let’s find cash purchases Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 1st step Identify relevant I/S cash item: Cost of sales (COS) are part of purchases from suppliers. 39 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 1st step Identify I/S cash items: Cost of sales (COS) are part of purchases from suppliers. Let’s reconstruct purchases Remember: Inventory(t) = Inventory(t-1) + Purchases - COS Purchases = COS + D inventory 40 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year 1st step X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 Identify I/S cash items: Cost of sales (COS) are part of purchases from suppliers. Let’s reconstruct purchases: Inventory(t) = Inventory(t-1) + Purchases - COS Purchases = COS + D inventory We need cash purchases. Purchases = cash purchases + credit purchases 41 Dukes Company 2nd & 3rd steps Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 Purchases = COS + D inventory cash purchases Purchases = 4,000 + (2,000 - 2,300) = 3,700 credit purchases 42 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 TOTAL SH.EQUITY & LiABIL. 14,930 12,440 (1) Including bank overdrafts 950 200 Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable Purchases = cash purchases + credit purchases 3,700 = cash purchases + D Accounts payable credit purchases cash purchases = 3,700 – (870 – 60) = 2,890 43 Direct method Cash paid to suppliers of inventory = Purchases – D acc payable Cost of sales = purchases – D inventory or Purchases = cost of sales + D inventory Cash paid to suppliers of inventory = cost of sales + D inventory – D acc payable Purchases Cash paid to suppliers of inventory = 4,000 + (2,000 - 2,300) - (870 – 60) = 2,890 44 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year First step: X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 Identify I/S cash items 45 Direct method Cash paid to employees = Employees’ expense – D employee payable – D accrued salaries Cash paid to employees = 4,310 Cash paid for interest/tax = Interest/tax expense – D interest/tax payable – D accrued interest/tax Cash paid for interest = 580 Cash paid for tax = 1,280 Cash received from interest = Interest revenue – D interest receivable Cash received from interest revenue = 300 46 Direct method Dukes company Cash flows from operating activities X2 Cash received from customers Cash paid to suppliers Cash flow from operations Cash received from other operating revenues Cash paid to employees Cash paid for other operating expenses Cash received from interest revenues Cash paid for interest expenses Cash paid for tax Cash flow from operating activities 13,450 -2,890 10,560 150 -4,310 -620 300 -580 -1,280 4,220 47 Indirect method Operating profit (Profit before interest and tax) +/- Adjustments for non-cash items in profit/loss + depreciation/amortisation expense + impairment & provision expenses (non-working capital) - gain on sale of non-current assets + loss on sale of non-current assets +/Adjustments for changes in b/s working capital items - increases in working capital + decreases in working capital = Cash flows from operating activities 48 Indirect method: changes in working capital Working Capital = Current assets (excluding cash) – Current Liabilities • Increases in working capital use cash: negative adjustment Year 2 Year 1 Acc receivable 1,500 1,000 Acc payable 3,000 4,500 ↑ acc receivable indicates that less cash was collected from customers ↓ acc payable indicates that more cash was used to pay suppliers • Decreases in working capital provide cash: positive adjustment Acc receivable Acc payable Year 2 Year 1 500 2,000 3,900 2,600 ↓ acc receivable indicates that the company collected receivables which provides additional cash ↑ acc payable indicates that suppliers are funding the business operations which requires less cash 49 Indirect method Dukes company Cash flows from operating activities Profit before interest and tax Depreciation expense Gain on sale of non-current assets Interests paid Interests received Tax paid Cash flow from operating activities before changes in working capital and provisions Decrease in inventory Increase in impairment & provisions Increase in accounts receivable Increase in accounts payable Cash flow from operating activities X2 4,020 1,400 -200 -580 +300 -1,280 3,660 300 100 -650 810 4,220 50 Indirect method: typical adjustments If starting from ‘operating profit’ or ‘profit before interest and tax’ Profit before interest and tax xxx Add depreciation and amortisation expense xxx Add (deduct) non-working capital provision (reversal of provision) xxx Add (deduct) capital loss (gain) xxx Cash from sale of noncurrent assets is reported under investing activities 51 Indirect method: typical adjustments If starting from profit for the year Profit of the year xxx Add depreciation and amortisation expense xxx Add (deduct) non-working capital provision (reversal of provision) xxx Add (deduct) capital loss (gain) xxx Add (deduct) interest expense (revenue) xxx Add tax expense xxx Tax paid is reported under operational activities Interest received is reported under operational or investing activities Interest paid is reported under operational or financing activities 52 Indirect method: typical adjustments … Deduct (add) increase (decrease) in acc receivable xxx Deduct (add) increase (decrease) in inventory xxx Deduct (add) increase (decrease) in prepayments xxx Deduct (add) increase (decrease) in accrued revenues xxx Add (deduct) increase (decrease) in acc payable xxx Add (deduct) increase (decrease) in unearned revenues xxx Add (deduct) increase (decrease) in accrued expenses xxx Add (deduct) increase (decrease) in working capital provisions xxx Add (deduct) increase (decrease) in advances from customers xxx Cash from operations before interest and tax xxx Interest paid or received – optional xxx Tax paid or received xxx Cash from operations xxx 53 Cash flow from investing and financing activities 54 Cash flow from investing activities Changes in non-current assets accounts • Income statement shows gain/loss on disposal of non-current assets • Balance sheet shows increase/decrease in non-current assets resulting from acquisitions, disposal, revaluation, depreciation, impairment • To obtain the cash flow movements in non-current assets we have to analyse in detail the changes in non-current asset accounts: NBV at end = NBV at beginning + Increases – Decreases ↔ NBV at end = NBV at beginning + Acquisitions + Revaluation - NBV of disposals – Impairment loss – Depreciation expense 55 Cash flow from investing activities • Cash inflows / Receipts from non-current assets • Use NBV of disposals of the following equation: Gain/loss on disposal = Sale proceeds – NBV of disposal • Receipts from sale of non-current assets = Sale proceeds – D acc receivable for non-current assets Credit sale • Cash outflows / Payments for non-current assets • Use acquisitions • Payments for acquisitions of non-current assets = Acquisitions – D acc payable for non-current assets Credit purchase 56 Cash flow from investing activities Dukes company I/S reveals 200 as gains on sale of non-current assets in cash Assume the net book value (NBV) of the assets sold is 250 (NBV of the assets sold can be obtained from the analysis of the Non-current assets account ) 57 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 58 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 59 Cash flow from investing activities Dukes company I/S reveals 200 as gains on sale of non-current assets in cash Assume the net book value (NBV) of the assets sold is 250 (NBV of the assets sold can be obtained from the analysis of the Non-current assets account ) • Receipts from non-current assets Gain = Sale proceeds – NBV of disposal ↔ 200 = Sale proceeds – 250 Sale proceeds = 450 Sale proceeds – D acc receivable for non-current assets Sale proceeds = 450 (cash) 60 Cash flow from investing activities Dukes company I/S reveals 200 as gains on sale of non-current assets in cash Assume the net book value (NBV) of the assets sold is 250 • Payments for non-current assets NBV (X2) = NBV (X1) + Acquisitions + Revaluation – NBV disposal – Impairment - Depreciation B/S B/S B/S I/S I/S 61 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts NBV X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 Is there revaluation in equity? 62 Dukes Company Income statement Sales revenue Cost of sales Gross margin Other operating expenses Personnel expenses Gross operating profit Other operating revenues Depreciation expense Impairment & provision expense Gain on sale of non-current assets Operating profit Financial revenues Financial expenses Operating profit before taxes Income tax Profit for the year X2 14,100 -4,000 10,100 -620 -4,310 5,170 150 -1,400 -100 200 4,020 300 -580 3,740 -1,280 2,460 Is the impairment related to the non-current assets? Need to check the B/S! 63 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 II Impairment is related to inventory! 64 Cash flow from investing activities Dukes company • Payments for non-current assets NBV (X2) = NBV (X1) + Acquisitions + Revaluation – NBV disposal – Impairment - Depreciation 10,650 = 8,300 + Acquisitions – 250 – 1,400 ↔ Acquisitions = 4,000 Acquisition paid in cash = Acquisitions – D acc payable for non-current assets Credit purchase 65 Dukes Company Balance sheet ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 66 Cash flow from investing activities Dukes company • Payments for non-current assets NBV (X2) = NBV (X1) + Acquisitions + Revaluation – NBV disposal – Impairment - Depreciation 10,650 = 8,300 + Acquisitions – 250 – 1,400 ↔ Acquisitions = 4,000 Acquisition paid in cash = Acquisitions – D acc payable for non-current assets Acquisitions paid in cash = 4,000 – 250 = 3,750 Credit purchase 67 Cash flow from investing activities Dukes company I/S reveals 200 as gains on sale of non-current assets in cash Assume the net book value (NBV) of the assets sold is 250 • Receipts from non-current assets Gain = Sale proceeds – NBV ↔ 200 = Sale proceeds – 250 Sale proceeds = 450 (cash) • Payments for non-current assets NBV (X2) = NBV (X1) + Acquisitions + Revaluation – NBV disposal – Impairment - Depreciation 10,650 = 8,300 + Acquisitions – 250 – 1,400 ↔ Acquisitions = 4,000 Acquisition paid in cash = Acquisitions – D acc payable non-current Acquisitions paid in cash = 4,000 – 250 = 3,750 68 Cash flow from investing activities Dukes company Cash flows from investing activities X2 Cash paid in purchase of non-current assets - 3,750 Proceeds from sale of non-current assets Cash flow from investing activities 450 -3,300 69 Cash flow from financing activities Changes in shareholders’ equity • Increases / decreases with cash impact (capital issues, share repurchases, dividend payment) Changes in long-term liabilities • Proceeds from issuing debentures, loans, bonds and other financial instruments • Repayments of debentures, loans, bonds and other financial instruments • Repayment of capital in a finance lease 70 Cash flow from financing activities Dukes company Assume dividend payment of 2,580 Assume share issue fully paid in cash Look at the Movements in shareholders’ equity ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 71 Cash flow from financing activities Dukes company Assume dividend payment of 2,580 Assume share issue fully paid in cash Movements in shareholders’ equity Share capital opening balance 3,000 + increases - decreases closing balance = 3,200 + 2,780 - 2,580 = 3,800 (profit retention) (dividend) 2,460 - 2,780 + 200 (issue) Reserves/ 3,600 Retained profit Net income 2,780 = 2,460 (profit of the year) (profit retention) 72 Cash flow from financing activities Dukes company Assume repayment of loan of 400, issuance of debt amounting to 1,000. Financial liabilities include overdrafts of 950 (X2) and 200 (X1). Look at the movements in financial liabilities ASSETS Non-current assets: Plant, property and equipment Less accumulated depreciation Current Assets: Inventory Less provision for impairment Accounts receivable Cash & Bank TOTAL ASSETS X2 X1 14,950 -4,300 10,650 12,000 -3,700 8,300 2,000 -100 1,900 2,300 80 14,930 2,300 0 2,300 1,650 190 12,440 SH.EQUITY&LIABILITIES Shareholders' equity: Share capital Reserves&Ret.profits Net income/loss Liabilities: Financial liabilities (1) Accounts payable Non-curr. assets acc payable TOTAL SH.EQUITY & LiABIL. (1) Including bank overdrafts X2 X1 3,200 3,800 2,460 9,540 3,000 3,600 2,780 9,380 4,350 870 250 5,470 3,000 60 0 3,060 14,930 12,440 950 200 73 Cash flow from financing activities Dukes company Assume repayment of loan of 400, issuance of debt amounting to 1,000. Financial liabilities include overdrafts of 950 (X2) and 200 (X1). Movements in financial liabilities Financing activities Financing activities / Cash equivalents Financial liability Overdraft opening balance 2,800 200 + increases - decreases + 1,000 - 400 (issue) (repayment) + 750 closing balance = 3,400 = 950 (overdraft) Total 3,000 4,350 74 Cash flow from financing activities Dukes company Cash flows from financing activities X2 Dividends paid Proceeds from issuance of share capital Proceeds from issuance of financial liabilities Repayment of financial liabilities -2,580 200 1,750 -400 Cash flow from financing activities -1,030 75 Cash and cash equivalents Cash comprises cash on hand and demand deposits. Cash equivalents are short-term, highly liquid investments that are readily convertible to known amounts of cash (typically in less than three months) and which are subject to an insignificant risk of changes in value Dukes company Cash flows from operating activities Cash flow from investing activities Cash flow from financing activities Net increase/decrease in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year X2 4,220 -3,300 -1,030 -110 190 80 76 Bank overdrafts • Bank overdrafts are generally considered to be part of financing activities • Bank overdrafts can be included as component of ‘cash and cash equivalents’ in certain circumstances – Overdrafts are sometimes used as an integral part of the entity cash management practices. In that case the bank balance often fluctuates from being positive to overdrawn 77 Bank overdrafts In that case, the cash flow statement of Dukes company would be as follows: Cash flows from operating activities Cash flow from investing activities Cash flow from financing activities Net increase/decrease in cash and cash equivalents Cash and cash equivalents at the beginning of the year Cash and cash equivalents at the end of the year X2 4,220 -3,300 -1,780 excluding overdraft -860 -10 190 cash – 200 overdraft -870 80 cash – 950 overdraft 78 Summary In this session we: • Discussed the information provided by the cash flow statement • Learned to classify cash flows into operating, investing and financing activities • Learned to link information from the balance sheet, the income statement and the cash flow statement • Applied the direct and indirect method to obtain cash flows from operations • Understood the concept of ‘cash and cash equivalents’. 79