Classification of Business Activities in Cash Flow: Operating, Investing and Financing Activities
The movement of cash & cash equivalents or inflow and outflow of cash is known as Cash Flow. Cash inflows are the transactions that result in an increase in cash & cash equivalents; whereas, cash outflows are the transactions that result in a reduction in cash & cash equivalents. Hence, a statement showing flows of cash & cash equivalent during a specified time period is known as a Cash Flow Statement. One can prepare a cash flow statement if the two comparative balance sheets of a company are given. The transactions of a cash flow statement are categorised into three activities; namely, Cash flow from Operating Activities, Cash flow from Investing Activities, and Cash flow from Financing Activities. The Institute of Chartered Accountants in India has issued Accounting Standard AS – 3 revised for the preparation of cash flow statements. Besides, with the introduction of the Companies Act 2013, the preparation of a Cash Flow Statement is now mandatory for every type of company except OPC (One Person Company) [Section 2(40)].
Classification of Business Activities in Cash Flow (AS – 3)
1. Operating Activities:
The principal revenue-producing activities of a company are categorised under Operating Activities. Simply put, it includes those activities which help an organisation in ascertaining the net profit or net loss of an enterprise. The basic information required for the calculation of cash flow from operating activities is taken from the comparative balance sheets, and profit & loss account of the current accounting period. There are some non-cash transactions in the profit & and loss account that do not result in either inflow or outflow of cash, these items are eliminated from the net profit as per the profit & loss account. According to AS-3, there are two methods that can be used to determine cash flow from operating activities; viz., direct method and indirect method .
The cash inflows and outflows under operating activities are as follows:
Cash Inflows: Cash Sales, Cash received from Trade Receivables (Debtors and B/R), Sale of Securities, Loans and Advances repaid by third parties, Cash received from Royalty, Insurance Claim received for loss of Stock, Fees and Commission, and Interest and Dividend received.
Cash Outflows: Cash Purchases, Cash paid to Trade Payables (Creditors and B/P), Purchases of Securities, Loans and Advances to third parties, Payment of Operating Expenses like salary, rent, wages, etc., Interest paid in cash and Tax Paid (unless the amount paid is identified as investing or financing activity).
2. Investing Activities:
The sale and purchase of investments and fixed assets, which are not held by a company for resale purposes are covered under Investing Activities. The cash inflows and outflows under investing activities are as follows:
Cash Inflows: Sale of Fixed Assets, Interest, Dividend and Rent received, Sale of Investments (Current and Non-current other than marketable securities), Insurance Claim received for the destruction of fixed assets, and Repayments of Loans and Advances received.
Cash Outflows: Purchase of Investments (Non-current and Current other than marketable securities), Purchase of Fixed Assets (Tangible or Intangible), Payment of capital gain tax, and Loans and Advances to third parties.
3. Financing Activities:
The activities that bring a change in the capital and borrowings of a company are covered under Financing Activities. The cash inflows and outflows under financing activities are as follows:
Cash Inflows: Issue of Shares (Cash), Issue of Debentures (Cash), Issue of Bonds (Cash), Proceeds from Long-term or Short-term Borrowings, Increase in the balance of Bank Overdraft or Cash Credit A/c.
Cash Outflows: Repayment of Loans, Redemption of Preference Shares, Buy-back of Equity Shares, Redemption of Debentures for Cash, Decrease in the balance of Bank Overdraft or Cash Credit A/c, Payment of Interest and Dividend, and Payment of Dividend Tax.
Which statement classifies activities as operating investing or financing
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Most popular questions from this chapter
In a worksheet for the statement of cash flows, a worksheet entry that includes a credit to accumulated depreciation will also include a: a. credit in the operating activities section and a debit in another section. b. debit in the operating activities section. c. debit in the investing activities section. d. debit in the financing activities section.
Which is an example of a cash flow from an operating activity? a. Payment of cash to lenders for interest. b. Receipt of cash from the sale of common stock. c. Payment of cash dividends to the company’s stockholders. d. None of the above.
Cash dividends paid to stockholders are classified on the statement of cash flows as: a. an operating activity. b. an investing activity. c. a combination of (a) and (b). d. a financing activity.
Which is an example of a cash flow from an investing activity? a. Receipt of cash from the issuance of bonds payable. b. Payment of cash to repurchase outstanding common stock. c. Receipt of cash from the sale of equipment. d. Payment of cash to suppliers for inventory.
Which of the following is incorrect about the statement of cash flows? a. The direct method may be used to report net cash provided by operating activities. b. The statement shows the net cash provided (used) for three categories of activity. c. The operating section is the last section of the statement. d. The indirect method may be used to report net cash provided by operating activities.
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