3) Evaluate the main components of a cash flow statements (25)

A cash flow statement is a financial report that describes the sources of a companys
cash and how that cash was spent over a specified period. (http://www.inc.com). A
cash flow statement shows how a company have performed in managing inflows and
outflows of cash. Thus a cash flow statement is an analytical tool , measuring an
enterprises ability to cover its expenses and if a company is bringing in more cash
than it spends (liquid) , that company is considered to be of good value.
Investors and creditors assess the following using information from the cash flow
statement:

ability to generate positive cash flows in the future

ability to meet obligations and pay dividends.
If the organisation needs external financing.

The three main components of a cash flow statement are operations, investing and
financing.
Cash from operating activities
This is cash from day to day business operations and cash flows from operating
activities is derived the principal revenue producing activities of the entity. (IAS 7) this
will include

cash

at

hand,

cash

equivalents- these

are short term highly

investments which are readily convertible into known amounts of cash .

Examples of cash flow from operating activities.
1)
2)
3)
4)
5)

Cash receipts from operating activities

Cash receipts from sale of goods and rendering services
Cash receipts from royalties , fess , commissions and other revenue.
Cash payments to and on behalf of employees.
Cash payments / refunds of income tax.

liquid

6) Cash receipts and payments of an insurance entity for premiums and claims,
annuities and other policy benefits
7) Cash payments or refunds of income taxes unless they can be specifically
identified with financing and investing activities.
8) Cash receipt and payment from contracts held for dealing or trading purposes
It can be noted that information from the companys income statement is usually
included in the operating section of the cash flow. Information is useful in forecasting
future operating cash flows.
Cash flow from investing activities
This include items which are usually classified in the balance sheet as long term
assets . Acquisition and disposal of long term assets and other investments not
considered as cash equivalents . Covers expenditures made for resources intended to
generate future income.
According to International Accounting Standard 7 , separate disclosure of cash flow
from investing activities is important because the cash flows represent the extent to
which expenditures have been made for resources intended to generate future income
and cash flows.
Examples of items arising from investing activities are:
1) Cash payments to acquire property , plant and equipment
2) Cash receipts from sales of property, plant and equipment, intangibles and other
long term assets
3) Cash payments to acquire equity or debt instruments of other entities and
interests in joint ventures
4) Cash receipts from sales of equity or debt of instruments of other entities
5) Cash advances and loans made to other parties
6) Cash receipts from the repayment of advances and loans made to other parties

From the above examples, it can be noted that cash flow from investing activities
accounts for cash used to make new investments as well as proceeds gained from
previous investments. When preparing a cash flow statement , deferring expenses by
capitalising as an asset for example customer acquisition costs and product
development

costs

may

cover

up

for

problems

with

underlying

business

performance by boosting current income at the expense of future income.

Cash flow from financing activities
Disclosure of cash flow from financing activities is important in predicting future
claims on cash flow by providers of capital to the entity. Financing activities
covers capital to start up a business as well as any changes to the capital. This
includes anything that may be classified as a long term liability or an equity.
Examples of cash flow from financing activities include:
1) Cash proceeds from issuing shares or other equity instruments
2) Cash payments to owners to acquire or redeem the entitys shares
3) Cash proceeds from issuing debentures, bonds, mortgages and other short or
long term benefits
4) Cash repayments of amounts borrowed ,
5) Cash payments by a lessee for the reduction of the outstanding liability
When preparing a cash flow statement , there is need to note that a single
transaction may include cash flows which are classified differently for example
interest and loan resulting from payment of an instalment for a fixed asset on
deferred payment basis . The interest is classified under financing activities and the
loan under investing activities .As such one might wrongly classify an activity in
the cash flow activity or omit activities from financing and investing activities.
Thus consistence in classification of activities is necessary over a period of time

so that cash flow information from previous years will be easily comparable to
current cash flow information.