Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Cash circulates around the business in the working capital cycle. Working capital comprises: –Stock –Debtors –Creditors Other cash inflows/outflows include loans, injections of capital and purchases of fixed assets

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning The working capital cycle

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Too much stock Too little stock Debtors too high Debtors too low Creditors too high Creditors too low Cash too low Cash too high

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning In the long run a profitable business generates cash. BUT (and especially in the short-term) Profits are not the same as cash

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning e.g. annual charges for depreciation are set against profits but do not involve the movement of cash e.g. because of the accruals convention, costs matched against income may not have been paid out in the form of cash

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel Step 1 Starting point is operating profit of £6286. Add back depreciation:

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel Step 1 (continued) Adjust for investments in working capital Stock Debtors Prepayments Creditors Accruals

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel - step 1 (continued)

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel - step 2 Take into account all the other inflows and outflows that have been made but which do not relate to working capital items: Interest received and paid Capital expenditure Other items

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel - step 2 (continued)

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Indirect: cash flow statement starts with operating profit adjusted for non-cash items and investments in working capital Direct: starts with receipts form sales and deducts payments for costs and expenses

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel Total of cash receipts from sales in the year: £ Total payments for stock and expenses in the year = £

Use with Business Accounting and Finance Second Edition by Catherine Gowthorpe ISBN © 2005 Thomson Learning Example: Isobel (continued) After this point, the direct and indirect cash flow statements are the same