Net cashflow (the change in cash and equivalents during the period) has little informational content in itself it is the classification and individual components that are informative.Īlthough the classification of cashflows into the three main categories is important, classification guidelines are arbitrary. The classification of cashflows from operating, investing and financing activities is essential to the analysis of cashflow data. IAS 7 lays down a formal structure for the statement of cashflow.
In the indirect method, profit or loss is adjusted to take account of the effects of transactions of a non-cash nature, any deferrals or accruals of past or future operating cash receipts or payments, and items of income or expense associated with investing or financing cashflows.Ī statement of cashflow is required as part of a complete set of financial statements prepared in conformity with International Financial Reporting Standards (IFRS). Entities are encouraged to report cashflows from operating activities using the direct method. Information about major classes of gross cash receipts and payments may be obtained from the accounting records of the entity or by adjusting sales, cost of sales, expenses and other items reported in the income statement, as appropriate. With the direct method, major classes of gross cash receipts and gross cash payments from operating activities are disclosed. IAS 7 requires cashflows from operating activities to be reported using either the direct or the indirect method. IAS 7 permits entities to show dividends paid in operating activities as this lets users determine the entity's ability to pay dividends out of operating cashflows. For example, cashflows from interest and dividends received and paid can be classified as operating or investing activities, as long as the classification is consistent. Some cashflow items may differ in classification as a result of specific industry and entity practices, so IAS 7 permits some flexibility here. Examples include cash proceeds from share issues, and cash payments to owners to acquire and/or redeem the entity's shares. Examples include cash payments to acquire investments and property, plant and equipment.Ĭashflows from financing activities help to predict the claims on future cashflows by providers of capital to the entity. Cashflows from investing activities are important because they represent the extent to which expenditures are made to generate future income and cashflows. They are a key indicator of the extent to which the entity's operations have generated sufficient cashflows to repay loans, maintain operating capability, pay dividends and make new investments without recourse to external sources of financing.
ClassificationĬashflows are classified as relating to operating, investing and financing activities in a manner that is most suited to the nature of the business.Ĭashflows from operating activities are primarily derived from the main revenue activities of the entity and generally result from the transactions and other events that determine profit or loss. Cashflow information provides an insight into an entity's ability to generate cash and its needs to utilise these cashflows.
The cashflow statement is an integral part of an entity's financial report for each period for which a financial report is presented. IAS 7, Statement of Cash Flows, is the standard that prescribes the presentation of a statement of cashflow disclosing information about the historical changes in cash and cash equivalents of an entity over the reporting period. We'd suggest that you use this as a guide when allocating yourself CPD units. One hour of learning equates to one unit of CPD. Studying this technical article and answering the related questions can count towards your verifiable CPD if you are following the unit route to CPD and the content is relevant to your learning and development needs. This article was first published in the February 2010 edition of Accounting and Business magazine.
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