Comprehension questions

7.6         Which of the following are not disclosed in a statement of cash flows? a. Net cash flows from financing activities

b. The cash on hand at the end of the reporting period

c.  The amount of depreciation for a reporting period

d. The proceeds from borrowings

The correct response is c. The amount of depreciation for a reporting period is not disclosed in the statement of cash flows.

7.8         Valley  Company had a positive net cash flow for the  year, but its statement of profit or loss reported a loss for the period. Explain.

There are three sources of net cash flow: cash from operating activities, financing activities and investing activities. The loss indicated in the statement of profit or loss could be related to the cash from operating activities. However, the entity could have significant positive cash flows from the financing and investing activities. That is, the entity could have borrowed money or could have sold a significant investment, such as an asset.

The statement doesn’t indicate whether the loss indicated in the financial performance was from normal operations or was after an extraordinary event, such as a sale of a major asset. There may have been a major loss on the sale of an asset which resulted in a loss in the statement of profit or loss but affected a significant cash inflow in the statement of cash flows.

7.9 Outline some cash-flow warning signals.

Some cash-flow warning signals are:

.   cash received less than cash paid

.   operating ‘outflow’

.   cash  receipts  from customers being less than cash payments to suppliers and employees

.   cash from operating activities being lower then operating profit after tax

.   proceeds of share capital being used to finance operating activities

.   consistent inflows from investing activities

.   proceeds  from  borrowings  continually  much  greater  than  the  repayment  of borrowings.

7.11       Choose the correct response.

The primary purpose of a statement of cash flows is to provide relevant information about:

a.       an entity’s ability to meet future obligations.

b.      the   differences   between   operating   profit   and   associated cash receipts and payments.

c.       the ability of an entity to generate future cash flows.

d.      the cash receipts and cash payments of an entity during a reporting period.

The correct response is d. The cash receipts and cash payments of an entity during a reporting period.

7.12       Outline the difference between the direct method and the indirect method

of reporting cash flows. Why is it necessary to present the cash flows using both methods?

The direct method requires the statement of cash flows to show the separate cash inflows and outflows from operating activities. The indirect method is a reconciliation between cash flows from operating activities and operating profit showing adjustments in non-cash transactions and in current assets and liabilities.

In Australia, the relevant accounting standard prescribes the direct method to be used in the statement of cash flows, and the indirect method to be presented in a note to the statement to ensure that users of financial statements have full information regarding cash flow activities.

7.15 The sole trader of Rhode Store has approached you for a loan. You note

that the closing cash balances for the last two years were $15 920 and $18 650 respectively. Rhode Store also took out a loan of $27 750 for the current year and sold plant worth $59 600 over the past two years. The cash from operating activities last year was negative $35 940 and in the preceding year was $9550. Indicate whether you would advance the loan. Give reasons.

The figures indicate that Rhode Store is having a cash problem. Although the ending cash balances are positive it seems that this may be due to the selling of plant worth $59 600 and a new loan worth $27 750. Selling the plant means that Rhode Store is decreasing its capacity to earn money in the future. The cash from operations has decreased from $9550 to ($35 940). This means that cash from operating activities may not be able to be relied upon to repay the loan. So unless Rhode Store owns significant assets that could be sold if needed to repay the loan, it would not be wise to advance the loan to Rhode Store.

Exercises

7.17 The following T-account shows the transactions in an entity’s cash account

during the month.

Required

Prepare a statement of cash flows based on the cash account.

Statement of cash flows

Cash flows from operating activities

Receipts from customers                                                           156 000

Payments to suppliers and employees                                    (130 000)

Dividends received                                                                       3 000

Interest paid                                                                                (3 000)

Income taxes paid (5 000)

Net cash provided from operating activities                                          21 000

Cash from investing activities

Payments for property, plant and equipment                                      --

Proceeds from sale of property, plant and equipment 16 000

Net cash from investing activities                                                            16 000

Cash                              from financing                              activities

Proceeds from issue shares —

Proceeds from borrowings                                                                     30 000

Repayment of borrowings —

Distributions paid (10 000)

Net cash flow from financing activities                                                   20 000

Net increase/decrease in cash for the year                                              57 000

Cash at beginning of the financial year 15 000

Cash at the end of the financial year 72 000

7.19 Listed below are transactions that occurred in the current financial year

for  Digital  Solutions  Pty  Ltd. For  each  transaction classify it into an operating, investing or financing activity or a non-cash transaction. If a cash transaction, indicate whether it is a cash inflow or cash outflow.

a. Payment of a dividend to shareholders of $1 000 000.

b. Collected $356 000 from a major debtor.

c. Recorded depreciation of $32 000 for some equipment.

d. Payment of $150 000 to a supplier.

e. Acquired a parcel of land in exchange for some shares.

f. Received a dividend from an investment in another company. g. Payment by cash of yearly insurance.

h. Purchased a new truck for $50 000 cash.

i. Sold a major piece of equipment.

j. Payment of salaries and wages.

Solution

7.20 Consider the following transactions:

i. Credit purchases, $12 000.

ii. Cash paid to suppliers, $16 000.

iii. Credit sales, $21 000.

iv. Cost of sales, $15 000.

v. Cash payments received on accounts receivable, $14 000.

vi. Salaries accrued, $2500.

vii. Machine purchased, $8000 cash.

viii. Depreciation expense, $2250.

ix. Dividends declared, $3000.

x. Rent received, $2000.

xi. Declared dividends paid, $3000.

xii. Lease paid, $1200.

Required

a.   Indicate the effect on the statement of financial position categories only in the following format.

b. State, for the transactions affecting cash, whether they relate to an operating, investing or financing activity.

a. Indicate the effect on statement of financial position categories in the following format.