Financial Repor ting IAS
International Accounting Standards
IAS 7 Cash Flow Statements
Background
This article (the third in the series) covers one of the
major primary statements published by reporting
entities – the cash flow statement.
The income statement and the balance sheet of an
enterprise show important aspects of its performance
and position. However, users of financial statements
are also interested in how the enterprise generates
and uses its cash resources. In particular, users are
concerned about the overall solvency and liquidity of
the enterprise.
IAS 7 is designed to aid users in that regard and
requires a cash flow statement to be drawn up
summarising the cash flows during a period. Unlike
FRS 1 it merely classifies cash flows into three
separate sections:
a) Operating activities
b) Investing; and
c) Financing
FRS 1 required the publication of nine separate
headings. However, IAS 7 makes no attempt to
specifically segregate tax flows, dividends received
from associated companies, returns on investments
and servicing of finance nor the management of liquid
resources. It also fails to separate out capital
expenditure flows from those involving acquisitions
and disposals.
Another major difference between FRS 1 and IAS 7
is the treatment of short term investments. In FRS 1
these are normally regarded as liquid resources and
are effectively included as a separate heading in the
financing section of the statement. Under IAS 7 these
are classified as cash equivalents and are added to the
increase in cash and cash equivalents at the bottom of
the statement (as per the original version of FRS 1).
There are no specific exemptions for smaller entities
or individual subsidiaries in IAS 7 as cash flow
statements are regarded as key primary statements.
Operating Activities
It is recognised that, although an enterprise may
have generated a profit during the year and increased
its assets, it may not necessarily create readily
accessible cash as the money could be tied up in
stocks, debtors etc. Also, in arriving at profit a number
of non-cash deductions and additions have been
included e.g. depreciation. These need to be taken
into account when calculating the actual cash
generated.
Similarly to FRS 1, IAS 7 permits two methods of
calculating operating cash flows – the direct and the
indirect methods. However, FRS 1 insists that the
indirect method be compulsorily adopted with the
direct method being treated as an optional extra.
There is complete freedom of choice in IAS 7. The
indirect method requires the profit to be reconciled to
the cash flow being generated by operations. This is
carried out using the same methodology in FRS 1 by
adjusting the operating profit for non cash movements
in the income statements and for movements in
working capital. The detail can be seen in the
specimen format below. The direct method, on the
other hand, identifies the actual cash receipts from
customers and the actual cash payments to suppliers
and employees. Both methods lead to the same
figure. It is very unlikely that many Irish companies
would adopt the direct method as it requires the
segregation of VAT from the cash receipts and cash
payments during the year. This would probably be
expensive in terms of system changes as the
accounting programmes are geared to identify VAT at
the point of purchase or point of sale, not at point of
cash receipts/payments. In addition the indirect
method does provide a useful link between the
operating profit as disclosed in the income statement
with the cash actually derived from operations.
Cash flows arising from taxes on income are
normally classified as operating unless they can be
specifically identified with financing or investing
activities.
The direct method is illustrated below and the
indirect method is illustrated in the overall specimen
format:
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 Financial Repor ting IAS

Example - Direct Method

The net cash flow from operating activities of 1,560 may be arrived at by
adopting the direct method as shown below:

Cash flows from operating activities

Cash receipts from customers 30,150

Cash paid to suppliers and employees (27,600)
Cash generated from operations 2,550
Interest paid ( 270)
Income taxes paid ( 900)
Cash flow before extraordinary item 1,380
Proceeds from earthquake disaster settlement 180
Net cash from operating activities 1,560

Investing Activities c) cash proceeds from the issue of debentures, loans

Under this heading are included purchases and sales of
long-term assets and the purchase and sales of
investments not qualifying as cash equivalents.
Interest and dividends received may be classified under
this heading but they may also be included under operating
activities or financing. The specimen provided in the IAS
includes them as investing flows. However, whatever
approach is adopted it must be consistently applied from
period to period.
Only one figure for cash should be provided for
subsidiaries acquired or disposed, with disclosure by note
of the assets and liabilities acquired/disposed.
Investing and financing transactions that do not require
the use of cash or cash equivalents should be excluded
from a cash flow statement. They should be disclosed
elsewhere in the financial statements so that users have all
the relevant information but they should not form part of
the cash flow statement itself.
The following should be disclosed, in aggregate, for all
acquisitions and separately for all disposals:
a) the total purchase/disposal consideration
b) the portion of the consideration discharged via cash or
cash equivalents.
c) The amount of cash and cash equivalents in the
acquisition/disposal.
d) The amount of assets and liabilities other than cash or
cash equivalents in the subsidiary acquired/disposed,
summarised by each major category.
This can be seen in Note A to the specimen cash flow
statement.
etc.
d) cash repayments of loans etc.
e) cash payments by a lessee to repay principal of
finance lease liabilities.
Cash and Cash Equivalents
The end product of the cash flow statement or balancing
figure will be the increase or decrease in cash and cash
equivalents. Cash equivalents are defined in IAS 7 as ‘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.’ Guidance notes to IAS
7 indicate that an investment normally meets the definition
of a cash equivalent when it has a maturity of three months
or less from the date of acquisition.
An unusual feature which is required by IAS 7, but not in
FRS 1, is the need to provide a separate note to the
financial statements detailing out the individual
components of cash and cash equivalents and requiring a
reconciliation to the amounts reported in the balance
sheet. If there are any cash or cash equivalent balances
held by the enterprise that are not available for use by the
group then these should be disclosed, together with a
commentary by management.
Other Issues
Foreign Currency Cash Flows
Cash flows arising from transactions in a foreign currency
should be recorded in an enterprise’s reporting currency by
applying to the foreign currency amount the exchange rate
between the reporting currency and the foreign currency at
the date of the cash flow. This is in line with FRS 1.

Financing Activities On translation, the cash flows should be translated at the

exchange rates between the reporting currency and the
This should represent claims on future cash flows or
foreign currency at the dates of the cash flows.
sources of future cash flows and they will include:
Equity Accounted Investments
a) cash proceeds from the issue of shares
For associates, the only cash to be recorded is the actual
b) cash payments to redeem/acquire the enterprise’s
dividends received and NOT the share of profit included in
shares

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