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12128cHO6, , Cash Flow Statement 6, , , , , , , , , , Learninc OBJECTIVES, , After studying this chapter,, , you will be able to :, , * state the purpose, and preparation of, statement of cash flow, statement;, , * distinguish between, operating activities,, investing activities and, financing activities;, , * prepare the statement, of cash flows using, direct method;, , * prepare the cash, flow statement using, indirect method., , , , , , , , T. ill now you have learnt about the financial, statements being primarily inclusive of Position, Statement (showing the financial position of an, enterprise as on a particular date) and Income, Statement (showing the result of the operational, activities of an enterprise over a particular period)., There is also a third important financial statement, known as Cash flow statement, which shows inflows, and outflows of the cash and cash equivalents. This, statement is usually prepared by companies which, comes as a tool in the hands of users of financial, information to know about the sources and uses of, cash and cash equivalents of an enterprise over a, period of time from various activities of an, enterprise. It has gained substantial importance in, the last decade because of its practical utility to the, users of financial information., , Financial Statement of companies are prepared, following the accounting standards prescribed in, the companies Act, 2013. Accounting Standards, are notified under section 133 of the Companies, Act, 2013 vide Accounting Standards Rules, 2006, and are mandatory in nature. Companies Act, 2013, also specifies that if the accounting standards are, not followed, financial statements will not be true, and fair, which is a quality of financial statement., Financial Statements are defined in Companies Act,, 2013 (Section 2 (40)] and includes Cash Flow, Statement prepared in accordance with Accounting, Standard- 3 (AS-3)- Cash Flow Statement., , A cash flow statement provides information, about the historical changes in cash and cash, , 2020-21, , Scanned with CamScanner

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240 Accountancy : Company Accounts and Analysis of Financial Statements, , equivalents of an enterprise by classifying cash flows into operating, investing, and financing activities. It requires that an enterprise should prepare a cash, flow statement and should present it for each accounting period for which, financial statements are presented. This chapter discusses this technique and, explains the method of preparing a cash fiow statement for an accounting, period., , 6.1 Objectives of Cash Flow Statement, , A Cash flow statement shows inflow and outflow of cash and cash equivalents, from various activities of a company during a specific period. The primary objective, of cash flow statement is to provide useful information about cash flows (inflows, and outflows) of an enterprise during a particular period under various heads,, i.e., operating activities, investing activities and financing activities., , This information is useful in providing users of financial statements with a, basis to assess the ability of the enterprise to generate cash and cash equivalents, and the needs of the enterprise to utilise those cash flows, The economic decisions, that are taken by users require an evaluation of the ability of an enterprise to, generate cash and cash equivalents and the timing and certainty of their, generation., , 6.2 Benefits of Cash Flow Statement, , Cash flow statement provides the following benefits :, , e ~Acash flow statement when used along with other financial statements, provides information that enables users to evaluate changes in net assets, of an enterprise, its financial structure (including its liquidity and, solvency) and its ability to affect the amounts and timings of cash flows, in order to adapt to changing circumstances and opportunities., , e = Cash flow information is useful in assessing the ability of the enterprise, to generate cash and cash equivalents and enables users to develop, models to assess and compare the present value of the future cash, flows of different enterprises., , e It also enhances the comparability of the reporting of operating, performance by different enterprises because it eliminates the effects of, using different accounting treatments for the same transactions and, events., , e It also helps in balancing its cash inflow and cash outflow, keeping in, response to changing condition. It is also helpful in checking the, accuracy of past assessments of future cash flows and in examining, the relationship between profitability and net cash flow and impact of, changing prices., , 2020-21, , Scanned with CamScanner

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Cash Flow Statement 241, , 6.3 Cash and Cash Equivalents, , As stated earlier, cash flow statement shows inflows and outflows of cash and, cash equivalents from various activities of an enterprise during a particular, period. As per AS-3, ‘Cash’ comprises cash in hand and demand deposits with, banks, and ‘Cash equivalents’ means short-term highly liquid investments that, are readily convertible into known amounts of cash and which are subject to, an insignificant risk of changes in vatue. An investment normally qualifies as, cash equivalents only when it has a short maturity, of say, three months or less, from the date of acquisition. Investments in shares are excluded from cash, equivalents unless they are in substantial cash equivalents. For example,, preference shares of a company acquired shortly before their specific redemption, date, provided there is only insignificant risk of failure of the company to repay, the amount at maturity. Similarly, short-term marketable securities which can, be readily converted into cash are treated as cash equivalents and is liquidable, immediately without considerable change in value., , 6.4 Cash Flows, , ‘Cash Flows’ implies movement of cash in and out due to some non-cash items., Receipt of cash from a non-cash item is termed as cash inflow while cash payment, in respect of such items as cash outflow. For example, purchase of machinery, by paying cash is cash outflow while sale proceeds received from sale of, machinery is cash inflow. Other examples of cash flows include collection of, cash from trade receivables, payment to trade payables, payment to employees,, receipt of dividend, interest payments, etc., , Cash management includes the investment of excess cash in cash equivalents., Hence, purchase of marketable securities or short-term investment which, constitutes cash equivalents is not considered while preparing cash flow, statement., , 6.5 Classification of Activities for the Preparation of Cash Flow, Statement, , You know that various activities of an enterprise result into cash flows (inflows, or receipts and outflows or payments) which is the subject matter of a cash flow, statement. As per AS-3, these activities are to be classified into three categories:, (1) operating, (2) investing, and (3) financing activities so as to show separately, the cash flows generated (or used) by (in) these activities. This helps the users of, cash flow statement to assess the impact of these activities on the financial, position of an enterprise and also on its cash and cash equivalents., , 2020-21, , Scanned with CamScanner

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242 Accountancy : Company Accounts and Analysis of Financial Statements, , 6.5.1 Cash from Operating Activities, , Operating activities are the activities that constitute the primary or main activities, of an enterprise. For example, for a company manufacturing garments, operating, activities are procurement of raw material, incurrence of manufacturing expenses,, sale of garments, etc. These are the principal revenue generating activities (or, the main activities) of the enterprise and these activities are not investing or, financing activities. The amount of cash from operations’ indicates the internal, solvency evel of the company, and is regarded as the key indicator of the extent, to which the operations of the enterprise have generated sufficient cash flows to, maintain the operating capability of the enterprise, paying dividends, making of, new investments and repaying of loans without recourse to external source of, financing., , Cash flows from operating activities are primarily derived from the main, activities of the enterprise. They generally result from the transactions and other, events that enter into the determination of net profit or loss. Examples of cash, flows from operating activities are:, , Cash Inflows from operating activities, , e cash receipts from sale of goods and the rendering of services., e cash receipts from royalties, fees, commissions and other revenues., , Cash Outflows from operating activities, , e Cash payments to suppliers for goods and services., , e Cash payments to and on behalf of the employees., , e Cash payments to an insurance enterprise for premiums and claims,, annuities, and other policy benefits., , e Cash payments of income taxes unless they can be specifically identified, with financing and investing activities., , The net position is shown in case of operating cask flows., , An enterprise may hold securities and loans for dealing or for trading, purposes. In either case they represent Inventory specifically held for resale., Therefore, cash flows arising from the purchase and sale of dealing or trading, securities are classified as operating activities. Similarly, cash advances and, loans made by financial enterprises are usually classified as operating activities, since they relate to main activity of that enterprise., , 6.5.2 Cash from Investing Activities, , As per AS-3, investing activities are the acquisition and disposal of long-term, assets and other investments not included in cash equivalents. Investing, activities relate to purchase and sale of long-term assets or fixed assets such, , 2020-21, , Scanned with CamScanner

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Cash Flow Statement 243, , as machinery, furniture, land and building, etc. Transactions related to longterm investment are also investing activities., , Separate disclosure of cash flows from investing activities is important, because they represent the extent to which expenditures have been made for, resources intended to generate future income and cash flows. Examples of cash, flows arising from investing activities are:, , Cash Outflows from investing activities, , e Cash payments to acquire fixed assets including intangibles and, capitalised research and development., , e Cash payments to acquire shares, warrants or debt instruments of other, enterprises other than the instruments those held for trading purposes., , e Cash advances and loans made to third party (other than advances, and loans made by a financial enterprise wherein it is operating, activities)., , Cash Inflows from Investing Activities, , e Cash receipt from disposat of fixed assets including intangibles., , e Cash receipt from the repayment of advances or loans made to third, parties (except in case of financial enterprise)., , e Cash receipt from disposal of shares, warrants or debt instruments of, other enterprises except those held for trading purposes., , e Interest received in cash from loans and advances., , e Dividend received from investments in other enterprises., , 6.5.3 Cash from Financing Activities, , As the name suggests, financing activities relate to long-term funds or capital of, an enterprise, e.g., cash proceeds from issue of equity shares, debentures, raising, long-term bank loans, repayment of bank loan, etc. As per AS-3, financing, activities are activities that result in changes in the size and composition of the, owners’ capital (including preference share capital in case of a company) and, borrowings of the enterprise. Separate disclosure of cash flows arising from, financing activities is important because it is useful in predicting claims on future, cash flows by providers of funds { both capital and borrowings ) to the enterprise., Examples of financing activities are:, , Cash Inflows from financing activities, , e Cash proceeds from issuing shares (equity or/and preference)., e Cash proceeds from issuing debentures, loans, bonds and other, short/ long-term borrowings., , 2020-21, , Scanned with CamScanner