CASH FLOW STATEMENT

Cash is one of the most important components of the company finances. Every
company understands the provisions of Accounting Standard 3 (AS-3) to ensure
that they prepare correct cash flow statement for the analysis of higher
management.

Meaning

Cash flow statement is a statement of changes in the short term financial position
of the business due to inflow and outflow of cash. Statement of cash flow is
required for short range financial planning. In other words, cash flow statements
are the summarized form of inflow of cash funds from different sources and the
uses to which the cash funds have been applied. Cash flow statements are useful
for the management in accessing the capability of business to meet its short term
commitments towards creditors for goods and expenses.

Cash flow statement prepared month wise presents information regarding cash
available every month. From this statement we can identify in which cash is
generally surplus or short. Cash flow statement, in this way will enable the
management to revise its short term financial plans.

The revised AS-3 excludes movement between items that constitute cash and
cash equivalents as they are apart from the cash management of the enterprise
and do not relate to operating, investing and financing activities. Example of these
transaction are as follows:

(i) Cash withdrawn from bank for business.

(ii) Cash deposited into bank
(iii) Purchase and sale of marketable securities.
Definition of Cash
Cash means cash is hand and demand deposits with the bank.

Cash Funds - As per Accounting Revised Standard-3 (AS-3) issued by the council of
ICAI Cash funds include:

(i) Cash is hand

(ii) Demand deposits with banks and
(iii) Cash equivalents.

From the above, it may be noted that cash funds is a broad term which include
cash equivalents apart from the actual cash in hand.

Cash equivalent means 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. Investments with shirt term maturity
period of, say three months or less from the date of acquisition qualify as a
cash equivalent.

Cash equivalents consist of:

a) Bank overdraft
b) Cash credit
c) Short term deposits
d) Marketable securities

Thus, cash flow statement deals with flow of cash funds which include cash
equivalent as well as actual cash.

### Cash Flow Statement is additional information to users of financial

statement. The statement exhibits the incoming and outgoing of cash. The
statement assesses the capability of the enterprise to generate cash and utilize
it. Cash flow statement is undoubtedly a tool for assessing the liquidity and
solvency of the enterprise.
Uses/Need/Benefits/Advantages of cash flow statement
Cash flow statement has got the following uses:

1. Tool of Planning: Cash Flow statement is used as the basis for the
projection of future investing and financing plans of the enterprise by the
management. Payment of long term loans, expansion and modernization of
the plant and payment of interest and dividend can be planned on the basis of
the information supplied by Cash flow statement.

2. Efficient cash management: The management knows the cash status, its
shortage, adequacy and sufficiency and makes use of the cash effectively. In
case of shortage of cash, requisite cash is arranged. If there is surplus cash, it is
properly invested.

3. Knowledge of magnitude and direction of cash flow: The cash Flow

Statement provides us information regarding cash generated and used in
operating, investment and financial activities. On the basis of information
supplied financial structure of the enterprise can be evaluated.

4. Tools of historical analysis: The financial decisions taken in the past can be
evaluated on the basis of information supplied b Cash flow Statement. Certain
interesting information, such as shortage of cash even though there was
sufficient profit or surplus cash. When there was substantial loss, what
happened to the huge cash received from the sale of land etc. are available
from Cash Flow Statement.

5. Presenting separate financial activities: Cash flow Statement based on AS-3

presents separately cash generation and used in operating, investing and
financial activities.
 Limitations of Cash Flow Statement
In spite of its various advantages Cash flow statement has got the following
limitations:

1. Ignoring non-cash transactions: Cash flow statement takes

into consideration cash transactions only. Non-cash items,
where flow of cash is not involved are ignored. Important
items like conversion of debentures into shares of new
debentures, issue of shares against purchase of fixed assets
etc. are ignored.
2. Based on secondary data: Cash Flow statement is based on
the data supplied by financial statement i.e. Income
Statement and Position Statement. It has to rely and base
itself on secondary data. It has none of its primary data. As
such mistakes and deficiency of the financial statements is
passed on to the Cash Flow Statement also.
3. Historical Concept: The Cash Flow Statement is based on
what has happened, recorded and reported by financial
statements. Projection of future on the basis is not very
safe and reliable.

Difference between Cash flow Statement and Cash Budget

Cash flow Statement and cash budget are prepared to identify the inflow and
outflow of cash over a period of time. The only difference between the two is that
cash flow statement is prepared for the past period and cash budget is prepared
for the future period. Cash budget indicates the requirement of cash to meet
future expenses. On the other hand cash flow statement shows the past trend of
inflow and outflow of cash.
Method Used
Cash flow analysis
Cash flow analysis is a very important technique of the financial analysis where
financial statements are critically examined for the purpose of knowing the
availability of cash with the firm during the particular period.

This technique helps in insuring the liquidity position of any firm. With the help of
this technique every business firm is in a position to maintain the liquidity
position or to improve adjusting the liquidity position at the desired level.

Under this technique we go to prepare two important methods.

(1). Traditional Method

(2). Modern Method

As per the latest changes in the accounting principles, preparation of cash flow
statement has become mandatory whose turnover is more than 50 Crore and
such business firm is bound to prepare cash flow statement as per accounting
standard III. However other business firms have the option to prepare the cash
flow statement either under the traditional method or as for accounting standard
III which is known as modern method. Most of the business firms have started
preparing cash flow statement as per accounting standard III hence we shall
discuss the preparation of cash flow according to modern method which is done
by preparing four statements.

1. Statement showing cash from operating activities.

2. Statement showing cash from financial activities.
3. Statement showing cash from investment activities.
4. Cash Flow Statement.
 1. Calculation of cash from operating activities
This Statement is prepared for knowing the cash operating profit available with
the firm which is prepared in the same manner as we prepare statement showing
fund from operation under fund flow analysis. But there is one point of difference
that changes in current assets and current liabilities are not recorded in
calculating fund from operation but these changes are recorded in cash from
operation.

According to Accounting Standard-3 (AS-3) issued by the institute of Chartered

Accountants of India, there are two methods for determining cash flow from
operating activities are as follows:

1. Direct Method
2. Indirect method

1. Direct Method: In this method gross receipts and gross payments of cash are
disclosed. Only cash transactions are taken into consideration which are related
to the concerned business. When we follow direct method for calculating cash
from operating activities it is the difference between the cash operating income
and Cash operating expenses.

When we follow the direct method we generally calculate

Cash from Operating Activities = Cash Operating Income- Cash Operating

Expenses
**Cash Operating income includes Cash sales, Cash received from
debtors or customers in case of credit sales, other operating cash such
as Commission, Brokerage, Refund of tax etc.

**Cash Operating expenses includes Cash Purchase, Cash paid to

suppliers and employees and other operating expenses in cash such as
wages, expenses, rent, repairs, maintenance etc.

So we do not consider non operating income and expenses and those operating
income and expenses which are not been made through cash.

CASH SALES = TOTAL SALES NET CREDIT SALES

TOTAL SALES = CASH SALES + CREDIT SALES

CASH PURCHASES = TOTAL PURCHASES NET CREDIT PURCHASES

TOTAL PURCHASES = CASH PURCHASES + CREDIT PURCHASES
2. Indirect Method: In this method Profit and loss account is adjusted for the
effect of transactions of non cash in nature. The adjustment in carried down by
adding non operating expenses to the Net profit during the year and deducting
non operating income from the net profit. Adjustment for changes in working
capital is also under this method. A typical format under this method would be as
follows:

Statement Showing Cash From Operating Activities

Balance of P/L account as per balance sheet - xxxxx

ADD: 1. Non Operating expenses and losses -- xxxx

2. Non Cash Operating expenses and losses xxxx

3. Increase in Current liability -- xxxx

4. Decrease in Current Asset -- xxxx

--------------------

- xxxx

LESS: 1. Non operating income and gains --xxxx

2. Non Cash operating income and gains --xxxx

3. Decrease in current liability -- xxxx

4. Increase in current Asset --xxxx

---------------------

- xxxx

-----------------------------------------

Cash from Operating Activities - xxxx

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 Note: 1. It is important to keep into consideration that provision for taxation
made during the year is added and tax paid during the year is deducted while
calculating cash from operating activities.

2. It is also important to mention here that if the statement shows

positive balance is the generation of cash profit but if it shows negative balance
this shows cash loss in operating activities.

3. So far the proposed dividend is concerned the proposed dividend of

current year is added in calculating cash from operating activities and proposed
dividend of the previous year is treated as the payment of dividend which is
recorded in calculating cash from financial activities.

2. Calculation of cash from financial activities

This statement is prepared for knowing the cash from financial activities during
the period. It is prepared by recording the changes made in the amount of long
term liabilities and the share capital of any corporate concern during the
particular period. Increase in the amount of share capital and long term liability
denotes the inflow of cash and decrease in the share capital as well as in the
amount of long term liabilities denotes the outflow of cash during the period.
Payment of dividend is also considered for calculating cash from financial
activities. The precise format is given as:

ADD: SHARE CAPITAL XXXX

LESS: DEBENTURE XXXX

LESS: PAYMENT OF DIVIDEND XXXX

(PREVIOUS YEAR) ____________________________

CASH GAIN (+) OR Loss (-) xxxx

3. Statement showing cash from Investment Activities
This statement records the changes in the amount of fixed assets by keeping in
view their increase or decrease during the period. Increase fixed asset denotes
outflow of cash and decrease in fixed assets denotes inflow of cash in the normal
situation.

Thus on the basis of the comparison between inflow and outflow of the cash we
calculate the amount of cash as generated or lost during the period from
investment activities.

INCREASE IN ASSETS = OUTFLOW OF CASH

DECREASE IN ASSETS = INFLOW OF CASH

STATEMENT

ADD: SALE OF PLANT AND MACHENARY - XXXX

SALE OF LAND - XXXX

LESS: PURCHASES OF LAND - XXXX

PURCHASE OF MACHENARY - XXXX

DEPRECIATION OF PLANT - XXXX

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CASH FROM INVESTMENT ACTIVITIES - XXXX

4. CASH FLOW ANALYSIS
This statement is prepared in the last for showing the actual availability of cash
and justifying the existing closing balance of the cash and bank available with the
concern during the period. It is consolidated statement where the balance of all
the previous statement is recorded. It is prepared in the format as follows:

CASH FLOW STATEMENT

1. CASH FROM OPERATING ACTIVITIES (+ OR - ) - XXXX

2. CASH FROM FINANCIAL ACTIVITIES (+ OR - ) - XXXX

3. CASH FROM INVESTMENT ACTIVITIES (+ OR -) - XXXX

---------------------------------------

(+ OR -) - XXXX

ADD: OPENING CASH AND BANK BALANCE - XXXX

CLOSING CASH AND BANK BALANCE - XXXX

(From balance sheet)