Public sector Accounting lecture notes by Mr. S Public sector Accounting lecture notes by Mr. S. Ndhlovu Topic 7 IPSAS 2 Statement of Cash flow Learning Objectives After studying this chapter, learners should be able to: Prepare the statement of Cash flow Appraise the usefulness of/advantages and interpret the information in a statement of cash flow

Statement of Cash flow It has been argued that profit does not always give a useful or meaningful picture of a company’s operations. The readers of a Company’s financial statements might even be misled by a reported profit figure. for instance; Shareholders might believe that if a company makes a profit then this is the amount, which it could afford to pay as dividend. Employees might believe that if a company makes a profit it can afford to pay higher wages.

Statement of Cash flow cont’d Survival of a business entity depends not so much on profit but on its ability to pay debts when they fall due. You will note that a company’s performance and prospects depends not so much on profits but on liquidity. Therefore, statements of cash flows are useful in addition to the financial statements, as they identify the sources of cash inflows, the items on which cash was expended during the reporting period, and the cash balance as at reporting period hence giving a better indicator of a company’s performance

Statement of Cash flow cont’d Objective of IPSAS 2- Statement of Cash flow The objective of the IPSAS 2 is to provide information to users of financial statements about the entity’s ability to generate cash and cash equivalents as well as indicating the cash needs of the entity It also provides historical information about cash equivalents, classifying cash flows between operating, investing and information.

Statement of Cash flow cont’d Key terms in Statement of Cash flow Cash: comprises cash on hand and demand deposits. Cash equivalents: short term, highly liquid investments that are readily convertible to known amounts of cash and which are subject to insignificant risk of changes in value Cash flows: inflows and outflows of cash equivalents Operating activities: the principal or main revenue- producing activities of the entity and other activities that are not investing or financing activities. Examples are: cash receipts from the sale of goods and rendering of services, cash receipts from royalties, fees, commissions and other revenue, cash payments to suppliers for goods and services, cash payments to and on behalf of employees etc

Statement of Cash flow Key terms in Statement of Cash flow cont’d Investing activities: acquisition and disposal of non –current assets and other investments not included in cash equivalents. Examples are: cash payments to acquire property, plant equivalent, intangible and other long –term assets; cash receipts from the sale property, plant and equipment, intangibles and other non- current assets; cash payments to acquire shares or debentures of other entities; cash receipts from the sale of shares or debentures of other

Statement of Cash flow Investment activities cont’d entities; cash advances and loans made to other parties and cash receipts from the repayment of advances and loans made to other parties Financing activities: activities that result in changes in the size and composition of the equity capital and borrowing of the entity. It shows the share of cash which entity’s capital providers have claimed during the period. Examples are: cash proceeds from issuing shares; cash payments to owners to acquire or redeem the entity’s shares; cash proceeds from issuing debentures, loans, notes, bonds, mortgages and other short or long term borrowings; principal repayments of amounts borrowed under finance lease and cash dividends

Statement of Cash flow Methods used in preparing statement of cash flow. There are two methods used in preparing statement of cash flow, namely; Direct and Indirect methods Direct method: this is where major classes of gross cash receipts and payments are disclosed Indirect method: this is where net profit or loss is adjusted for the effect of transactions of non- cash nature, depreciation, or accruals of past or future operating cash receipts, payments and items of income or expenses associated with investing or financing cash flows. The indirect method is actually regarded as the easiest one

Statement of Cash flow Layout of statement of cash flow using direct method Statement of Cash flows for the year ended 31st December 2014 K’000 K’000 Cash flows from operating Activities Cash receipts from customers x Cash paid to suppliers & employees (x) Cash generated from operations x Interest paid (x) Income tax paid (x) Net cash from operating activities x

Layout of statement of cash flows using direct method cont’d Cash flows from investing activities Purchase of property, plant & equipment (x) Proceeds from sale of equipment x Interest received x Dividends received x Net cash used in investing activities (x)

Layout of statement of cash flows using direct method cont’d Cash flows from financing activities Proceeds from issue of share capital x Proceeds from long term borrowings x Dividends paid* (x) Net cash used in financing activities (x) Net increase in cash & cash equivalents x Cash & cash equivalents at beginning of period x Cash & cash equivalent at end of period x Note: * means this item can also be shown as an operating cash flow

(ii) Layout of statement of cash flows using indirect method Statement of cash flow for the year ended 31st December 2014 K’000 k’000 Cash flows from operating activities Profit before taxation x Adjustments for: Depreciation x Investment income (x) Loss on sale of tangible non-current assets x Interest expense x Increase in inventory (x) Increase in receivables (x) Increase in payables x Cash generated from operations x Interest paid (x) Dividends paid (x) Tax paid (x) Net cash from operating activities x

Layout of statement of cash flows using indirect method cont’d Cash flows from investing activities Purchase of property, plant &equipment (x) Proceeds from sale of equipment x Interest received x Dividends received x Net cash used in investing activities (x) Cash flows from financing activities Proceeds/issue of share capital x Proceeds from long term borrowing x Net cash used in financing activities X Decrease in cash & cash equivalent (x) Cash & cash equivalents at beginning of period x Cash & cash equivalent at end of period x

Statement of cash flow Advantages of statement of cash flow survival of business depends on the ability to generate cash. Cash flow accounting directs attention towards this critical issue Cash flow is more comprehensive than profit which is dependent on accounting conventions and concepts Creditors (long and short term) are more interested in an entity’s ability to repay them than in its profitability. Whereas ‘ profits’ might indicate that cash is likely to be available, cash flow accounting is more direct with its message Cash flow reporting provides a better means of comparing the results of different companies/entities than traditional profit reporting .

Advantages of statement of cash flow cont’d Cash flow reporting satisfies the needs of all users better e.g managers are able to make better decision based on cash flow information Cash flow forecasts are easier to prepare, as well as more useful than profits forecasts They can in some respects be audited more easily than accounts based on accruals concept The accruals concept is confusing, and cash flows are more easily understood Forecasts can subsequently be monitored by the publication of variance statements which compare actual cash flows against the forecast