Students attempting financial reporting papers will need an awareness of the concept of the statement of cash flows. Under IFRS, IAS 7 Statement of Cash Flows deals with principles underlying the preparation of such a financial statement.
It is worth mentioning at this point that the statement of cash flows forms part of the primary financial statements of a reporting entity, and therefore it is given equal prominence to that of the statement of profit or loss (income statement) and statement of financial position.
The logic behind the statement of cash flows is to enable the user of the financial statements to understand how a reporting entity has both generated cash in an accounting period and how the entity has spent that cash.
The principles in IAS 7 require various cash flows to be classified according to activity and IAS 7 stipulates three types of activity:
Financing activities are those activities which change the equity and borrowing composition of a company. For example, a reporting entity may issue additional shares during the accounting period and such cash flows arising from the share issue will be classified as a financing activity.
When students progress to more advance studies, they must understand the basic mechanisms of how the statement of cash flows is prepared. Once this knowledge is sewn up, students can then move on to the more complex statement of cash flows, which is the consolidated statement of cash flows.
Consolidated statement of cash flows
In addition to the individual financial statements that members of a group will prepare, the parent company will also prepare consolidated financial statements. Again, it is important to understand at the outset the principal objective of consolidated financial statements which is to show the results of the group in line with its economic substance – that of a single reporting entity.
The group statement of cash flows is prepared from the consolidated financial statements and as such reflects the cash flows of the group. Students often have concerns when it comes to preparing the consolidated statement of cash flows; however, the principles underpinning the group statement of cash flows is essentially the same as preparing a statement of cash flows at individual company level.
The issue students need to appreciate is that when a group statement of cash flows is being prepared, there are additional cash flows to consider, such as:
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