Cash flow statements

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash flow statement
 A cash flow statement presents information
about the cash flows associated with the
company’s main operations and those
associated with its investing and financing
activities of the period
 A cash flow statement functions in
conjunction with both the income statement
(performance dimension) and the balance
sheet (financial position)

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Usefulness of cash flow information
 Ability to generate adequate cash flows
is a significant performance dimension
 Cash flow information clarifies the
dynamics of short-term liquidity and
long-term solvency
 Cash flow information is an essential
input for economic decision models

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash flow versus profit
 Cash flow and profit are different economic
phenomena
 But linked through the mechanisms of accrual
accounting!
 Cash flows are factual details of incoming and
outgoing flows of cash, while the balance sheet
and income statement emanate from
professional judgement and are not a direct
projection of objective economic data

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
Liquidity/solvency and cash flows
 Liquidity
- Relates to “nearness to cash” of the structure of assets
- Determined by capacity to convert current assets into cash
 Solvency
- Relates to future availability of cash in order to settle financial
liabilities on due date
- Determined by timing and uncertainty of expected future cash
payments and cash receipts
 Liquidity and solvency ratios are determined on
static financial position data, while cash flows
reflect changes in financial position

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Relationship with BS and IS
Income statement

BS at start Cash flow BS at end

A cash flow statement reflects both “profit related” and

“non-profit related” activities (investing and financing) with
an impact on available cash over the period covered in the
income statement

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Related questions
1. From which sources did the company raise cash last
year? How was this cash used?
2. Were the normal operating activities capable of
satisfying its need for cash during the year?
3. If not, is the shortage of cash compensated by new
borrowings, issuing new share capital or by selling
fixed assets?
4. Is a surplus of cash used for repayment of debt, for
investments or for distribution of dividends?
5. Why has the balance of cash available decreased,
knowing that the company’s operations have been
profitable?

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash conversion cycles
 Cash flows through the company
continuously in a series of short-term and
long-term conversion cycles
 The ST - cash conversion cycle (operating
cycle) relates to the main business
operations
= OPERATING ACTIVITIES

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash conversion cycles (cont.)
 The LT- cash conversion cycles relate to the
acquisition, renewal and disposal of
intangible and tangible infrastructure and the
long-term sourcing of funds
 Productive capacity acquired for cash and
subsequently consumed during several ST-
operating cycles
 Acquisition and disposal of infrastructure =
INVESTING ACTIVITIES
 External sourcing of funds = FINANCING
ACTIVITIES
Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5
© 2005 Peter Walton and Walter Aerts
 Long-term and short-term cash flow
cycles
Main operations
Inventory

Procurement Work in Progress Sales

Current payables Inventory Current receivables

Cash and cash

Payments Receipts
equivalents

Investing/ Productive
External financing
infrastructure
Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5
© 2005 Peter Walton and Walter Aerts
Format and structure of the cash
flow statement

Cash flows from operating activities

+ Cash flows from investing activities

+ Cash flows from financing activities

Net change in cash during period
+ Beginning cash balance
Ending cash balance

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash flows from operating
activities
 Operating activities are primarily the revenue-generating
activities of a company
 “Operating cash flow” is conceptually most near to “net
profit”
 Main differences:
1. Non-cash expenses and non-cash revenues (f.i.
depreciation expense)
2. Non-operating items (f.i. gain on disposal of tangible
fixed assets)
3. Timing differences between net profit and underlying
cash flow (f.i. changes in the level of inventories,
receivables, creditors, etc.)

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Operating cash flows –
Direct versus indirect method
2 methods for identifying and presenting the
operating cash flow:

 Direct method: engenders the presentation of the

most important categories of gross operating cash
inflows and cash outflows
 Indirect method: net operating cash flow is
determined by adjusting the (net) profit figure for
the 3 types of differences

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Direct method - Example

Cash receipts from customers

LESS: Cash paid to suppliers and employees

Cash generated from main operations

LESS: Income taxes paid

Net cash flow from operating activities

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Indirect method - Example
Net profit before tax
Adjustments for:
ADD NON CASH EXPENSES & NON OPERATING
EXPENSES: Depreciation
LESS: NON CASH AND NON OPERATING INCOMES
Investment income

Current Assets (minus increases, plus decreases)

Current Liabilities (plus increases, minus decreases)

Cash generated from main operations

Income taxes paid
Net cash flow from operating activities
Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5
© 2005 Peter Walton and Walter Aerts
 Cash flows from investing
activities
 Investing activities relate to the acquisition
and disposal of long-term tangible and
intangible assets and other investments
 Cash flows from investing activities are an
indication of the expansion or downsizing of
operating capacity
 Examples:
 Payments for newly acquired equipment
 Receipts from the disposal of a building
 Payments for new investments

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts
 Cash flows from financing
activities
 Financing activities relate to changes in the size and
composition of contributed capital and financial debt
of the company
 Examples:
 Receipts from issuing new shares or bonds
 Receipts from new bank loan
 Payments for buy-back of shares
 Repayments of loans
 Payments of interest and dividend

Use with Global Financial Accounting and Reporting ISBN 1-84480-265-5

© 2005 Peter Walton and Walter Aerts