Statement of Cash Flows The statement of cash flows shows the changes in cash for the same period of time as that covered by the income statement o The cash flow statement shows all sources i e receipts of cash and all uses i e payments of cash o It provides information about Cash receipts inflows Cash payments outflows The other financial statements are based on accrual accounting and statement of cash flows just focuses on the increases and decreases of cash Inflows and outflows are categorized in operating financing and investing activities The cash flow statement reports cash receipts and cash payments from operating financing and investing activities o Helps users assess o 1 Ability to generate future cash flows o 2 Ability to pay dividends and meet obligations o 3 Why net income is different from operating cash flows o 4 Cash investing and financing transactions The operating activities section of the statement of cash flows includes the cash inflows and outflows related to the normal course of business operations o Cash effect of all items appearing on the income statement If a company income statement reports a revenue of 1 million that does not mean that they collected 1 million in cash o Cash inflows From sale of goods or services From return on loans interest received and on equity securities dividends received o Cash outflows To supplier for inventory To government for services To government for taxes To lenders for interest To others for expenses The investing activities section of the statement of cash flows includes the cash inflows and outflows related to the purchase and sale of long term assets and investments o Long term assets include P P E and intangibles o Investments represent both stock and bonds of other companies that we own as well as loans that we have made o Cash inflows From sale of property plant and equipment From sale of investments or other entities From collection of principal on loans to other entities the interest received would be considered an operating activity since it would effect net income o Cash outflows To purchase property plant equipment To purchase investments in other entities Making loans to other entities The financing activities section of the statement of cash flows represents cash that is either paid to or received from owners and creditors o Cash inflows o Cash outflows From sale of company s own stock to its stockholders From borrowing money To stockholders as dividends To creditors as repayment of principal of funds borrowed the interest payment would be considered an operating activity since it would effect net income The major purpose of the operating activities section of the cash flow statement is to convert net income from an accrual basis to a cash basis o The net cash provided used by operating activities represents what the net income of the company would have been had the company used a cash accounting basis rather than accrual accounting o This conversion can be done through 2 methods the direct and indirect method o Both methods arrive at the same total amount for net cash provided used by operating activities o The choice of methods only affects the operating activities section The FASB prefers the direct method but allows for use of either method When the direct method is used the net cash flow from operating activities as computed using the indirect method must also be reported in a separate schedule The direct method involves listing each specific cash flow The indirect method is used extensively in practice Most companies favor the indirect method for the following reasons o It is easier to prepare o It focuses on the differences in net income and net cash flow from operating activities o It tends to reveal less company information to competitors The indirect method starts with net income and makes a series of adjustments to convert that accrual net income into cash net income The direct method lists each individual cash inflow and cash outflow for all items appearing on the income statement o This method requires t accounts to analyze The process to calculating net cash provided by operating activities o For each item on the income statement determine a corresponding balance sheet account ex Sales revenue will match up with accounts receivable on the balance sheet o For these balance accounts draw a t account and analyze to determine the cash effect of the income statement item Not all accounts on the income statement have a cash effect In other words we have some revenues and expenses which do not result in an inflow or outflow of cash Three examples of non cash revenues and expenses o 1 Depreciation expense o 2 Losses o 3 Gains o These items should be ignored when using the direct method To determine the cash paid for inventory purchases you need to analyze both inventory and accounts payable t accounts The indirect method starts with accrual basis net income then makes a series of adjustments to convert it to a cash basis net income Depreciation expenses reduces the accrual basis net income as it is an expense o It has no effect on cash o Had cash accounting been used no depreciation would be recorded Thus to convert net income from an accrual number to a cash number you must add back depreciation o Same logic is used for losses gains is deducted from net income Exceptions from indirect method cash investments and notes payable Net cash should always be the same underneath the direct and indirect method Don t forget to calculate dividends Significant noncash activities o Significant financing and investing activities that do not affect cash are reported in either a separate schedule at the bottom of the statement of cash flows or in the notes to the financial statements o Examples o Issuance of common stock to purchase assets o Conversion of bonds into common stock o Issuance of debt to purchase assets o Exchanges on long lived assets Relevant facts o Companies preparing financial statements under IFRS must prepare a statement of cash flows as an integral part of the financial statements o Both IFRS GAAP require that the statement of cash flows should have 3 major sections operating investing and financing along with changes in cash and cash equivalents o Similar to GAAP the cash flow statement can be prepared using either the direct or indirect method under IFRS Most companies use the indirect method for reporting net cash flow from operating activities o IFRS requires that non cash investing and