Saturday 3 December 2011

Preparation of Cash Flow.

Definitions as per AS3
Q1.What is cash?
CASH: cash comprises cash in hand and demand deposits with bank.
CASH = Cash in hand + Demand Deposits with bank
Q2.What are cash equivalents?
CASH EQUIVALENTS: cash equivalents are short-term, highly liquid investments that are readily convertible into known amounts of cash and which are subject to an insignificant risk of change in value.
Cash Equivalents = short term Investments + readily convertible + Insignificant Risk.
Q3.What is cash Flow?
CASH FLOW: cash flow are inflow and outflow of Cash and Cash Equivalents.
Q4.What is operating Activity?
OPERATING ACTIVITY: operating activities are the principal revenue producing activities of the enterprise and other activities that are not Investing and financing activities.
Operating Activities = Principal Revenue producing Activities + not Investing or  Financing Activity's

Q5.What is Investing Activities?
INVESTING ACTIVITIES: investing activities are the acquisitions and disposal of long term assets not included in cash equivalents.
INVESTING ACTIVITIES = purchase and sale of long term assets + not Cash Equivalents
Q6.What is financing Activities?
Financing activities are activities that results in change in the size and composition of the owners capital (including preference share capital in case of a company) and borrowings of the enterprise.
Financing activities =  change in owners capital and borrowings
NOTE: in case of company, owners capital includes preference share capital.
Q7.Cash flow statement does not show movement between items cash and Cash equivalents?
YES. An investment is a cash equivalents only if it is readily convertible to known amount of cash, is subject to an insignificant risk of change in value, and a short maturity of three months or less.
So cash and cash equivalents are clubbed together since the essential character of both are almost the same.
Q8.Investments in shares is excluded from cash equivalents?
YES, preference share of a company acquired shortly before their specified redemption date (provided there is only insignificant risk  of failure of the company to repay the amount at maturity) can be included in cash and cash equivalent but investment in equity shares can’t be included in cash equivalents because of high risk of change in value.
As 3 requires that three separate categories of cash flow should normally be shown.
1.   Operating Activity
2.   Investing Activity
3.   Financing Activity
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Q9.Increase in shares due to bonus issue will not be shown on the cash flow?
TRUE, Since bonus issue does not involve any Receipt of cash, it is a capitalization of reserve.
Q10.Issue of shares at Premium will be shown as share + premium?
TRUE, Full amount of consideration including Premium shall be shown under financing activity.
Q11.Any loss or gain on account of Foreign Currency Transaction should not be shown in profit and loss Account?
YES, such loss or gain transactions should be reconciled with cash balances and not shown in Profit and Loss Account. Foreign currency cash flow should be converted at the exchange rate of the date of cash flow.
Q12.Interest and dividends  are classified as operating activity for Financial Enterprises?
YES, it is operating activity for financial Enterprise but investing activity for other Enterprise.
Q13.Any interest received on advance to employee or supplier should be treated as cash inflow from operating activity?
Q14.Cash arising from acquisition and from disposal of subsidiaries or other business units shall be classified as Investing Activity's?
Q15.Cash flows from future contracts, forward contracts, option contracts, and swap contracts shall be treated as cash flow from investing activity's.
Q16.Purchase of assets by issue of shares and  conversion of debenture in to shares excluded from cash flow statements.
YES, because it is non cash transactions.
Q17.From 1st April 2001  cash flow statement (AS-3) is mandatory in respect of all commercial, industrial and business reporting enterprises, where turnover for the accounting period exceeds RS. 50 crores?
YES, and from 1.4.2004 preparation of cash flow is mandatory for all Level I enterprises.
Please Refer AS3.
Q18.Interest paid by other then financial enterprise is shown under Financing Activity?
YES, for both financial and non financial Enterprises interest paid shall be shown under Financial Activity.
Extraordinary Items
Example: Bad debts recovered, insurance claim and Income Tax shall be Discloses Separately.
The cash flows associated with extraordinary items should be classified as arising from operating, investing or financing activities as appropriate and separately disclosed.

Advantage of cash flow
     Discloses movement of Cash.
     Discloses successes or failure of cash planning.
     Efficiency in cash management.
     Predict enterprises liquidity, flexibility, and ability to generate future cash flows.
     Determines entity's ability to meets its obligation as they become due.
     Enhance comparability of reporting.
     Assess the reliability of the amount of net profit.
     Breakup operating and other profit cash flow
     Assess increase or decrease to assets and liability.
Limitation of cash flow
     Does not show changes in working capital at a glance.
     Does not reflect accrued income and expenses.
     Create confusion in the mind of the readers.(Note: Income statements takes into account both cash as well as  non cash items.)
     May not represent the real liquidity position.
Difference between a cash flow and a fund flow statement.
Cash Flow statement.
Fund Flow Statement.
1.   It is based on cash basis.
2.   It is concerned with cash.
3.   It shows the effect of cash on Operating, Investing and Financing activities of a business for an accounting period.
4.   It is used mainly for short-term planning.
5.   It shows cash generated from operation.

1.   It is based on accrual basis.
2.   It is concerned with working capital.
3.   It shows source and application of funds during a period.
4.   It is used for long intermediate and long-term planning.
5.   It shows funds generated from operations.



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