IFRS - Lecture Cash Flow (For Self-Srudy)

• IAS 7 Statement of cash flows
• Preparing a statement of cash

flows
• Interpretation of statements of
cash flows
Malofeeva Tatiana Nikolaevna

Senior Lecturer of School of Finance
National Research University – Higher School of Economics
tmalofeeva@hse.ru
• Prepare a statement of cash flows for a single entity
(not a group) in accordance with relevant
accounting standards using the direct method and
the indirect method
• Compare the usefulness of cash flow information with
that of a statement of profit or loss or statement of
profit or loss and other comprehensive income
• Interpret a statement of cash flows (together with
other financial information) to assess the
performance and financial position of an entity
2
Statements of cash
flows
Definitions Interpretation of
statements of
cash flows
Approach to
Formats preparation of
statements of
cash flows
Purpose
• To show the effect of a entity's commercial transactions
on its cash balance.
• Cash is a relatively better understood concept than
profit and is also less subject to manipulation by the
use of different accounting policies.
• Cash flows are also used in investment appraisal
techniques which involve net present values and so
the statement of cash flows will also allow users to
evaluate a business.
4
Definitions
• Cash:
– Comprises cash on hand and demand deposits
• Cash equivalents:
– Are 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 value
• Cash flows:
– Are inflows and outflows of cash and cash
equivalents
5
Format
• IAS 7 Statement of cash flows splits cash flows into the following
headings:
– Cash flows from operating activities:
• The principal revenue-producing activities of the entity and
other activities which are not investing or financing activities.
– Cash flows from investing activities:
• Relate to the acquisition and disposal of non-current assets
and other investments not included in cash equivalents.
– Cash flows from financing activities:
• Are activities that result in changes in the size and
composition of the equity capital and borrowings of the
entity.
6
$'000 $'000
Cash flows from operating activities
Profit before taxation
Adjustments for:
Depreciation
Amortisation
Interest expense
Profit on disposal of equipment
Increase in trade receivables

Increase in inventories
Decrease in trade payables
Increase in provisions
Cash generated from operations
Interest paid
Income taxes paid
Net cash from operating activities
7
$'000 $'000
Cash flows from investing activities
Development expenditure
Purchase of property, plant and equipment
Proceeds from sale of equipment
Net cash used in investing activities
Cash flows from financing activities
Proceeds from issue of share capital
Proceeds from issue of debentures
Dividends paid
Net cash from financing activities
Net increase in cash and cash equivalents
Cash and cash equivalents at beginning of year
Cash and cash equivalents at end of year
8
• Just as we have seen with the financial statement
preparation questions (for both a single company and in a
group context) it is important to follow a methodical
approach to long calculation questions.
• Inevitably these long questions are completed using a

series of shorter workings.
• The next four lecture examples show some of the typical

workings required in the preparation of a full statement of
cash flows question.
9
Debs Co statement of financial position extract for the year
ended 31 December 20X3:
20X3 20X2
Current liabilities $'000 $'000
Accrued debenture interest – 15
Interest payable is shown in the statement of profit or loss and

other comprehensive income of 20X3 as being $30,000.
There are no bank loans or overdrafts.
Additionally you are told that a new lease agreement was taken
out in the year. Total repayments are $5,000, of which $1,500 is
interest only. At present all $5,000 has been debited to the lease
liability account.
10
Required
Prepare relevant extracts from Debs Co's statement of cash flows.
11
Extracts from the statement of cash flows
$'000
Adjustments for:
Interest expense (30 + 1.5) 31.5
Cash generated from operations X
Interest paid (45 + 1.5) (46.5)
Payment of lease liabilities (5 – 1.5) (3.5)
12
Interest payable
$'000 $'000
 Interest paid 45 b/d 15
c/d 0 P/L 30
45 45
Additionally, the interest element of the lease instalment

($1,500) is included in interest paid.
The capital repayments on the lease only ($3,500) are

shown under financing activities.
13
In the statements of financial position of Tacks Co as at 31
December 20X1 and 31 December 20X2 were the following
liabilities for income tax.
31 December
20X2 20X1
$'000 $'000
Current income tax due 94 87
Deferred tax liability 62 81
156 168
The total charge for income taxes in the year ended 31 December
20X2 was $104,000.
None of the deferred tax liability movement was taken to reserves
in 20X2.
14
Required
What is the amount of income taxes paid during the year?
15
Income taxes paid:
Income taxes payable
$'000 $'000
 Tax paid 116 b/d – current 87
c/d – current 94 – deferred 81
– deferred 62 Profit or loss 104
272 272
16
On 31 December 20X3/20X2 the value of plant and equipment in
the books of Erosion Co was as follows.
20X3 20X2
$'000 $'000
Plant and equipment at cost 280 200
Accumulated depreciation (111) (80)
Carrying amount 169 120
On 1 January 20X3 an item of plant was sold for $8,000 which

had originally cost $20,000 when new, but had a carrying amount
of $11,000 at the time of sale.
The asset values shown above do not show that this sale has
taken place.
17
Required
Show the relevant entries for plant and equipment which would
appear in a statement of cash flows for Erosion Co in 20X3.
18
The entries in the statement of cash flows for 20X4 would be:
$'000
Profit before taxation X
Adjustments for:
Depreciation 40
Loss on sale of plant 3
Purchase of plant and equipment (100)
Proceeds from sale of plant 8
92
Profit/loss on disposal:
$'000
Carrying amount of asset sold 11
Sale proceeds (8)
Loss on sale (3)
19
Plant and equipment – cost
$'000 $'000
b/d 200 Disposal 20
∴ Additions 100 c/d 280
300 300
Plant and machinery – accumulated depreciation

$'000 $'000
Disposal 9 b/d 80
c/d 111 ∴ charge 40
120 120
20
Cher Co has the following share capital for the years 20X1 and
20X2.
20X2 20X1
$'000 $'000
$1 ordinary share capital 2,000 1,200
Share premium 400 100
General reserve 9,600 10,000
12,000 11,300
During the year the company had a 1 for 3 bonus issue

capitalising its general reserve followed by an issue at full market
price.
Required
Calculate cash proceeds from issue of shares.
21
STATEMENT OF CASH FLOWS (extract)

$'000
Proceeds from issue of share capital
[2,400 – 1,300 – (1,200  1/3) bonus issue] 700
22
Operating activities – alternative methods
• IAS 7 allows two possible layouts for the statement of

cash flows in respect of operating activities:
(1) The indirect method, where profit before tax is

reconciled to operating cash flow
(2) The direct method, where the cash flows themselves

are shown
23
Direct method
• When using the direct method the key difference from the indirect
method is the way in which the cash generated from operations is
presented.
• The amount of cash generated from operations is the same
regardless as to which method you use!
$'000
Cash receipts from customers
Cash paid to suppliers and employees
Interest paid
Income taxes paid
24
Indirect vs. direct method
• The direct method is the preferred method to use under
IAS 7 Statement of Cash Flows.
• However the indirect method is more common in the

exam.
25
1. Read the question and set up a proforma
2. Transfer statement of financial position figures to face
of statement of cash flows or working
3. Transfer statement of profit or loss and other
comprehensive income figures to face of statement of
cash flows or working
4. Deal with additional information
5. Finish off workings and transfer figures to answer
6. Do additional workings for direct method (if required)
7. Finish off statement of cash flows
26
Below are the statements of financial position for Thorstved at 31 December 20X7
and 31 December 20X8 and the statement of profit or loss and other
comprehensive income for the year ended 31 December 20X8.
STATEMENTS OF FINANCIAL POSITION 20X8 20X7
$'000 $'000
ASSETS
Non-current assets
Property, plant and equipment 528 447
Development costs 110 93
638 540
Current assets
Inventories 413 380
Trade receivables 238 215
Investments 28 –
Cash 111 4
790 599
Total assets 1,428 1,139
27
EQUITY AND LIABILITIES
Equity
$1 ordinary shares 240 200
Share premium 140 120
Revaluation surplus 100 –
Retained earnings 538 530
1,018 850
Non-current liabilities
Provision for warranties 30 25
6% loan notes 150 –
180 25
Current liabilities
Income tax payable 37 32
Trade payables 193 232
230 264
Total equity and liabilities 1,428 1,139
28
STATEMENT OF PROFIT OR LOSS & OTHER COMPREHENSIVE INCOME
$'000
Revenue 900
Cost of sales (550)
Gross profit 350
Expenses (245)
Finance costs (9)
Profit on sale of equipment 7
Profit before tax 103
Income tax expense (30)
PROFIT FOR THE YEAR 73
Other comprehensive income:
Gain on property revaluation 100
TOTAL COMPREHENSIVE INCOME FOR THE YEAR 173
29
Notes
1 Deferred development expenditure amortised during 20X8
was $25,000.
2 Additions to property, plant and equipment totalling
$167,000 were made. Proceeds from the sale of
equipment were $58,000, giving rise to a profit of $7,000.
No other items of property, plant and equipment were
disposed of during the year.
3 Finance costs represent interest paid on the new 6% loan
notes 20Y2–20Y4 issued on 1 January 20X8.
4 Current asset investments represent treasury bills
acquired. The company deems these to represent cash
equivalents.
30
5 Dividends paid during the year amounted to $65,000.
6 The company revalued its property at the year end.
Company policy is to treat revaluations as realised profits
when the asset is retired or disposed of.
7 Expenses include wages paid of $44,000 and bad debts of
$12,000.
8 There is no deferred tax in Thorstved's books as no
deferred tax is necessary.
31
Required
(a) Prepare a statement of cash flows for Thorstved Co for the
year ended 31 December 20X8, using the indirect method
in accordance with IAS 7.
(b) Prepare the 'Cash flows from operating activities' section
using the direct method.
32
(a) Thorstved Co
Statement of cash flows for year ended 31 December 20X8 (indirect method)
Cash flows from operating activities $'000 $'000
Profit before taxation 103
Adjustments for:
Depreciation (W1) 135
Amortisation 25
Interest expense 9
Profit on disposal of equipment (7)
265
Increase in trade receivables (238 – (23)
215)
Increase in inventories (413 – 380) (33)
Decrease in trade payables (193 – 232) (39)
Increase in provisions (30 – 25) 5
Cash generated from operations 175
Interest paid (9)
Income taxes paid (W3) (25)
Net cash from operating activities 141
$'000 $'000
Development expenditure (W2) (42)
Purchase of property, plant and equipment (167)
Proceeds from sale of equipment 58
Net cash used in investing activities (151)

Proceeds from issue of share capital (380 – 60
320) 150
Proceeds from issue of debentures (65)
Dividends paid
Net cash from financing activities 145
Net increase in cash and cash equivalents 135
Cash and cash equivalents at the beginning
of year 4
Cash and cash equivalents at end of year 139
(111 + 28) 34
Working 1
Property, plant and equipment (Carrying amount)
b/d 447
c/d 528
35
Working 2
b/d 93
c/d 110
36
$'000 $'000
Adjustments for:
Depreciation
Amortisation
Interest expense
Increase in trade receivables (238 – 215) (23)

Increase in provisions
Interest paid
Income taxes paid
$'000 $'000
Proceeds from issue of share capital (240 + 140 – 200 – 120) 60
Dividends paid
Cash and cash equivalents at beginning of year (0 + 4) 4
Cash and cash equivalents at end of year (28 + 111) 139
38
$'000 $'000
Adjustments for:
Depreciation
Amortisation
Interest expense

Interest paid
Income taxes paid
$'000 $'000
Proceeds from issue of debentures (150 – 0) 150
Dividends paid
Working 3
Income tax payable

b/d 32
c/d 37
41
$000 $'000
Adjustments for:
Depreciation
Amortisation
Interest expense
Profit on disposal
' of equipment

Interest paid
Income taxes paid
Working 3
Income tax payable
b/d 32
P/L 30
c/d 37
Working 1
Property, plant and equipment
b/d 447
Rev'n (OCI) 100 c/d 528

$'000 $'000
Adjustments for:
Depreciation
Amortisation 25
Interest expense

Interest paid
Income taxes paid
Working 2
b/d 93
Amortisation 25
c/d 110
Working 1

b/d 447 Disposal (58 – 7) 51
Additions 167
Rev'n (OCI) 100 c/d 528

$'000 $'000
Dividends paid
$'000 $'000
Adjustments for:
Depreciation
Amortisation 25
Interest expense (150 × 6%) 9

Interest paid (9)
Income taxes paid
$'000 $'000
Dividends paid (65)
Working 1
b/d 447 Disposal (58 – 7) 51
Additions 167  Depreciation 135
Rev'n (OCI) 100 c/d 528

714 714
$'000 $'000
Adjustments for:
Amortisation 25
Interest expense 9

Interest paid (9)
Income taxes paid
Working 2
b/d 93
 Paid 42 Amortisation 25
c/d 110
135 135
$'000 $'000
Dividends paid
Working 3
Income tax payable
b/d 32
 Cash paid 25 P/L 30
c/d 37
62 62
$'000 $'000
Adjustments for:
Amortisation 25
Interest expense 9
265
Interest paid (9)
Income taxes paid (W3) (25)
$'000 $'000
Development expenditure (W2) (42)
Net cash used in investing activities (151)
Dividends paid (65)
Net cash from financing activities 145
Net increase in cash and cash equivalents 135
$'000
Cash receipts from customers
Interest paid
Income taxes paid
Working 1
Trade receivables
b/d 215 Bad debts 12
Sales 900  Cash rec'd 865
c/d 238
1,115 1,115
$'000 $'000
Cash receipts from customers (W1) 865
Interest paid
Income taxes paid
Working 2
Trade payables
b/d 232
Purchases (W3)
c/d 193
Working 3
Purchases:
Cost of sales 550
Expenses 245
Inventories – Opening (380)
– Closing 413
Non cash – Depreciation (135)
– Amortisation (25)
– Bad debts (12)
– Increase in provision (5)
651
Working 2
Trade payables
b/d 232
 Cash paid 690 Purchases (W3) 651
c/d 193
883 883
$'000 $'000
Cash receipts from customers (W1) 865
Cash paid to suppliers and employees (W2) (690)
Interest paid (9)
Income taxes paid (25)
• As well as being able to calculate the amounts in the
statement of cash flows, it is also important that you
can interpret what the information actually means.
• As we saw in a previous chapter the interpretation of
financial information is usually done using a
combination of ratio analysis and the narrative
information in a question.
• Points to consider when interpreting the statement of
cash flows include:
– What has happened to the overall level of cash and
cash equivalents (increase vs decrease)?
– How have the main components of cash flows
changed:
• Operating activities – main cash flows
• Investing activities – main cash flows and the
timing of non-current asset acquisitions
• Financing activities – main cash flows, has there
been a movement from debt to equity funding or
vice versa?
Examine the reconciliation of profit before tax to cash generated
from operations:
• Consider the impact of the entity's accounting policies on profit
vs. cash flow, for example:
– Where development costs have been deferred (capitalised)
under IAS 38; or
– Where revenue has been recognised but no cash has been
generated (such as for an early stage construction contract
under IAS 11)
• Consider the movements in working capital, for example:
– Is there a build up of inventories which may not be saleable
– Are receivables escalating which might indicate the entity is
overtrading
Consider whether the calculation of cash flow ratios might
improve your interpretation:
• Cash return on capital employed
= Ч100%
Total assets less current liabilities
• Cash generated from operations to total debt
=
Total debt
• Net cash from operating activities to capital expenditure
= Ч100%
Net capital expenditure
Required
Comment on the cash flow management of Thorstved
(from the previous lecture example) as revealed by the
statement of cash flows and the information provided by
the above financial statements.
Operating cash flows
Thorstved's operating cash inflows at $175,000 (before interest and

taxes paid) are considerably higher than the equivalent profit before
interest and tax figure of $105,000. This shows a satisfactory cash
generating ability and is more than sufficient to cover finance costs, tax
and dividends. Net cash inflows from operating activities after
considering dividend payments was $76,000 ($141,000 less $65,000
dividends paid).
The main reasons for the cash flows being higher than the operating
profit are due to the non-cash increases in depreciation and amortisation.
Working capital changes have resulted in a net outflow versus profit as
more cash is tied up in receivables and inventories, while it appears that
creditors may be being paid earlier than the previous year (assuming
Thorstved had a similar or higher trading volume in 20X7 as in 20X8).
Operating cash flows (continued)
This overall net cash outflow in working capital terms has been partially
financed by the healthy operating cash inflows or by proceeds from new
finance received during the year.
Assuming tax is paid after the year end, the fact that Thorstved's tax
charge is $30,000 in 20X8 versus cash payments of $25,000 in the year,
indicates an additional $5,000 cash burden during 20X9 to cover tax
payments (a fact also borne out by the $5,000 increase in tax creditor).
Investing activities
There has been a significant investment in property, plant and

equipment. The carrying value at 31 December 20X8 is substantially
higher than a year earlier (admittedly $100,000 is due to revaluation
rather than a purchase). It is difficult to be sure whether this represents
an increase in operating capacity or is the replacement of the plant
disposed of. However, judging by the level of the increase and the
(apparent) overall improvement in profit position (based on increase in
tax), it seems likely that there has been an increase in capacity.
It is not unusual for there to be a time lag before increased investment

reaches its full beneficial effect and in this context it could be speculated
that further improvements could be expected in 20X9.
Investing activities (continued)
There has also been a significant investment in a development project

($42,000), and evidently the company already has previous
development that is being amortised. This could be taken as a positive
indicator in that companies that are in financial or operational difficulties
are unlikely to invest such a high proportionate amount versus operating
inflows in development.
Financing activities
It would appear that Thorstved's financial structure has changed during

the year. A significant amount of debt capital has been issued ($150,000),
whereas Thorstved was previously financed solely by equity capital.
Whilst bringing additional finance to the company, it also brings its own
risks, namely gearing risk, in that whilst dividend payments can be
postponed in times of difficulty, interest payments cannot, and interest
ranks above dividends in priority of payment. However, at the year end,
overall gearing is still relatively low.
Financing activities (continued)
The finance cost of the loan note is 6% (nominal). If return on capital

employed (ROCE) falls below this, it may call into question the wisdom
of the choice of finance. Currently, ROCE is showing only 9% based on
profit before interest and tax vs debt and equity finance. This would
have been slightly higher if the revaluation (which increased equity)
had not been made.
In addition, a (comparatively) small amount of additional equity finance

has been generated from existing shareholders ($60,000). This brings
total cash available for financing to $268,000 ($60,000 + $150,000 +
$58,000). Most of this ($209,000) has been invested in the development
project and new property, plant and equipment.
Cash position
The overall effect of the year's cash flows is that they have improved the
company's cash position dramatically. A modest cash balance of $4,000
has increased to $111,000 even after the payment of a $65,000 dividend.
This increase represents the unspent finance (see above) and operating
cash inflows.
It may be that the company's expansion plans for which the additional
finance was obtained have not yet been fully brought into play.
Summary
The above analysis indicates that Thorstved has invested substantially

in renewing and/or increasing its property, plant and equipment. This has
been financed largely by new finance plus positive operating cash flows.
The company appears to be expanding, and based on the information

available, the indications are that the future financial position and
performance will remain solid or continue to improve.

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• IAS 7 Statement of cash flows

• Preparing a statement of cash

Malofeeva Tatiana Nikolaevna

Increase in trade receivables

• Inevitably these long questions are completed using a

• The next four lecture examples show some of the typical

Interest payable is shown in the statement of profit or loss and

Interest paid (45 + 1.5) (46.5)

Cash flows from financing activities

Payment of lease liabilities (5 – 1.5) (3.5)

Additionally, the interest element of the lease instalment

The capital repayments on the lease only ($3,500) are

On 1 January 20X3 an item of plant was sold for $8,000 which

Plant and machinery – accumulated depreciation

During the year the company had a 1 for 3 bonus issue

Cash flows from financing activities

• IAS 7 allows two possible layouts for the statement of

(1) The indirect method, where profit before tax is

(2) The direct method, where the cash flows themselves

• However the indirect method is more common in the

Total assets 1,428 1,139

Cash flows from financing activities

Increase in trade receivables (238 – 215) (23)

Increase in trade receivables (238 – 215) (23)

Income tax payable

Increase in trade receivables (238 – 215) (23)

Rev'n (OCI) 100 c/d 528

Increase in trade receivables (238 – 215) (23)

Property, plant and equipment

Rev'n (OCI) 100 c/d 528

Increase in trade receivables (238 – 215) (23)

Rev'n (OCI) 100 c/d 528

Increase in trade receivables (238 – 215) (23)

Sales 900  Cash rec'd 865

 Cash paid 690 Purchases (W3) 651

Thorstved's operating cash inflows at $175,000 (before interest and

There has been a significant investment in property, plant and

It is not unusual for there to be a time lag before increased investment

There has also been a significant investment in a development project

It would appear that Thorstved's financial structure has changed during

The finance cost of the loan note is 6% (nominal). If return on capital

In addition, a (comparatively) small amount of additional equity finance

The above analysis indicates that Thorstved has invested substantially

The company appears to be expanding, and based on the information

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