OBJECTIVE
The objective of IAS 7 is to require an entity to provide information about the historical changes in cash and cash equivalents by means of a cash flow statement. Cash flows are classified into:
- Operating Activities
- Investing Activities
- Financing Activities
Cash equivalents are short term highly liquid investments that are readily convertible to known amounts of cash and which are subject to an insignificant risk of changes in value.
OPERATING ACTIVITIES
The cash flow from operating activities is a key indicator of the extent to which the operations of the entity has generated cash to:
- Repay loans
- Maintain the operating capability
- Pay dividends
- Make new investments
Without using external sources of finance.
Examples of Cash Flows from Operating Activities
- Cash receipts from sale of goods and the rendering of services.
- Cash payments to suppliers.
- Cash payments to employees.
- Cash payments/refunds of income tax.
INVESTING ACTIVITIES
It is important to disclose the cash flows from investing activities because these represent the extent to which expenditures have been made for resources intended to generate future income and cash flows.
Examples of Cash Flows from Investing Activities
- Cash payments to acquire property, plant and equipment and intangibles.
- Cash receipts from sales of property, plant and equipment and intangibles.
- Cash payments to acquire an investment in shares or loans in other entities.
- Cash receipts from sale of investments
- Cash advances and loans made to other parties (non-financial institutions)
- Cash receipts from the repayment of advances and loans made to other parties (again non-financial institutions)
FINANCING ACTIVITIES
The disclosure of cash flows arising from financing activities is useful in predicting claims on future cash flows by providers of capital.
Examples of Cash Flows from Financing Activities (a) Cash proceeds from issuing shares.
- Cash payments to owners to buy back shares.
- Cash proceeds from issuing debentures and loans.
- Cash repayments of amounts borrowed.
REPORTING CASH FLOWS FROM OPERATING ACTIVITIES
The reporting of cash flows from operating activities can be either by:
- The Direct Method, whereby major classes of gross cash receipts and gross cash payments and cash receipts from customers, and cash payments to suppliers are disclosed
OR
- The Indirect Method, whereby profit or loss is adjusted for the effects of transactions of a non-cash nature and the accrual or deferral of past or future operating cash receipts or payments e.g. profit adjusted for depreciation and any increase in trade payables and accruals.
The standard encourages the use of the direct method as it provides information which may be useful in estimating future cash flows.
Interest and Dividends
Cash flows from interest and dividends received and paid should each be disclosed separately. IAS 7 does not specify the classification of these under operating, investing or financing activities. However, each should be classified in a consistent manner.
Taxes on Income
Cash flows from taxes on income should be separately disclosed and classified under operating activities unless they can be specifically identified with financing and investing activities.
. DISPOSAL OF A TANGIBLE NET ASSET
The disposal of a tangible net asset has two implications for a cash flow statement:
Adjust the profit before taxation for any profit or loss on disposal, if a loss, add to profit before taxation and if a profit deduct from profit before taxation
and
The sale proceeds will be included under the heading “investing activities”.
