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Practice each question, then open the answer or worked solution.
What is a cash flow statement?
A financial statement that represents the inflow and outflow of cash and cash equivalents of a company is called a cash flow statement. It shows how well a company can manage its cash position and generates enough cash to pay the obligations in the form of debt and also run the operational expenses.
How are the various activities classified (as per AS-3 revised) while preparing the cash flow statement?
Three types of activities are defined, and they are as follows:
1. Operating Activities
2. Financing Activities
3. Investing Activities
State the uses of the cash flow statement.
The following are the uses of the cash flow statement:
i. Useful for evaluating the cash position of a firm
ii. Helpful in finding deficiencies and variations in firms’ performance which helps in effective decision making
iii. It helps in the assessment of the liquidity of a company
iv. It analyses cash receipts and payments from the various activities of a company and helps in short-term planning
v. It helps in segregating cash flows obtained from the various activities of the business
vi. It helps in providing decisions about the distribution of profit.
vii. It is useful for short-term financial analysis
What are the objectives of preparing a cash flow statement?
The following are the objectives of preparing a cash flow statement:
i. To determine the inflow and outflow of cash and the cash equivalents obtained from different kinds of activities.
ii. To seek out various reasons responsible for the change in cash balances during the accounting period
iii. It helps in depicting the position of the company in terms of liquidity and solvency
iv. It also helps in determining the requirement and the corresponding availability of cash for business in future.
State the meaning of the terms: Cash Equivalents, Cash flows.
Cash equivalents are investments that are highly liquid in nature and do not change value easily. Cash equivalents are essential for managing short-term cash requirements or any such investments. For example, treasury bills.
Cash Flows: It is the inflow and outflow of cash and cash equivalents. Cash inflows boost cash balance, and cash outflow has a negative impact on cash balance
Prepare a format of cash flow from operating activities under the indirect method.
The format is as follows:
State clearly what would constitute the operating activities for each of the following enterprises:
(i) Hotel
(ii) Film production house
(iii) Financial enterprise
(iv) Media enterprise
(v) Steel manufacturing unit
(vi) Software development business unit.
(i) Hotel
1. Receipts obtained from the sale of goods to customers
2. Customer stay, payments of wages and salaries, food items, and electricity are operating activities
(ii) Film Production House:
1. Receipts obtained from the selling of film rights to distributors
2. Payment provided to actors, actresses, directors and other employees
(iii) Financial Enterprises:
1. Receipts obtained from loan repayments and interest received from investments
2. Salary for employees, expenditure incurred for recovering loans, loan repayment etc.
(iv) Media Enterprises:
1. Receipts that are obtained from various advertisements
2. Payments made to photographers, employees and reporters
(v) Steel Manufacturing Unit:
1. Receipts obtained from the sale of steel rods, castings and sheets
2. Payments made for purchasing iron, coal and salaries to staff
(vi) Software Development Business Unit:
1. Receipts obtained for software sales and license renewal
2. Payments towards salaries of employees
“The nature/type of enterprise can change altogether the category into which a particular activity may be classified.” Do you agree? Illustrate your answer.
Yes, it can happen. For example, there are two firms one is engaged in real estate and the other in general business. For the firm engaged in the real estate sale of a building will be regarded as part of the operating activity, while for the firm dealing with general business, the purchase or sale of a building is regarded as an investing activity. Therefore, it can be said that nature and type of enterprise determine the type of activities.