Question

How do I create a statement of cash flows from a balance sheet and income statement?

Answer 1

Cash flow statement can be prepared by using two methods

Direct method

Indirect method

Each statement involves three division

Cash flow from operating

Cash flow from investing activities

Cash flow from financing activities

One has to comply with ias1&ias7 while preparing cash flow statement. It involves various steps which are

Step 1

One should obtain following document

Balance sheet (statement of financial position) at end of current reporting period and as at beginning of current reporting period

Statement of comprehensive income (profit or loss statement+statement of other comprehensive income if applicable) for current reporting period

Statement of changes in equity

Statement of cash flows for previous reporting period

Information about material transactions in your company during current reporting period

Some of items to look out is for follows

Major contracts that company entered during and before end of reporting period

Minutes or memoranda from meetings of managing bodies, like board of directors meeting, supervisory meeting, shareholders meeting

Step 2 Calculate Changes in the Balance Sheet

Now take closing and opening B/S and make a simple table with 3 coloumns-first coloumn -title of caption in B/S (for example, tangible non-current assets) second coloumn-balance of this caption from the closing B/S and third coloumn-balance of this caption from the opening B/S

As you sure know, each B/S has two parts assets and equity and liabilities ideally totals of both parts should be the same so when you do this simple table please enter with + sign and equity and liabilities with - sign now do the check -if you entered numbers and signs correctly total of all assets and equity and liabilities should be O

In the 4th coloumn,Calculate changes in the balance sheet over the current period opening B/S minus closing balance sheet (not vice versa ) When you calculate all changes correctly. total of all changes will be 0

Step3 Put each change in B/S to the statement of cash flows

By now, you should have a blank statement of cash flows from previous period and take only titles of individual captions. Likely you will also have same items also in current period cash flows. Anyway, you can always insert a line for some new items if necessary

The rationale behind this step is that each change in balance sheet has also some impact on cash flow statement and if not (when movement in balance sheet is fully a non cash items) it will be adjusted layer

So now you should look all changes in your balance sheet and enter each number to the blank form of cash flow statement. For example, you have calculated that change in your property ,plant and equipment is -10000, so you enter this figure in investing part of your blank cash flows under title purchase of PPE

You shall continue assigning each change in balance sheet so when you are done, you should have statement with two coloumns 1st coloumn-titles of individual cash flow captions and 2nd coloumn-changes in balance sheet assigned. Now perform a check -total of 2nd coloumn shall be 0 if it's not you have done something wrong so go back and review

Step 4 Make Adjustment for Non cash items from statement of Total Comprehensive income

Take profit or loss statement and statement of other comprehensive income. Then identify any numbers where non cash transaction might have been recorded. Typical non cash adjustment are usually as follows

Depreciation expense

Interest income and expense

Income tax expense

Expense for recognition or income from derecognition of various provisions

Change in revaluation reserve and many more

So once identifying non cash transaction just make adjustment in the blank statement of cash flows. Do each adjustment in seperate coloumn .Making adjustments means simply adding one number to one caption and deducting it from the other one. It's like doing double book keeping. The trick is to identify 1) Which cash flows are impacted by non-cash item and 2) where is plus side and where is minus side

For example, let us take depreciation expense. On one side, it causes non cash decrease in profit figure, so it should be added back Just enter the figure in operating part under heading adjustment for non cash items: depreciation with a plus sign and where do we put the same figure with a minus sign? Well, depreciation artificially increased total payement for purchase of ppe so we just deduct it from investing part under heading purchase of PPE total of adjustment shallbe 0

Go on until you are done with all identified non cash adjustment from statement of total comprehensive income and remember to verify your totals after school adjustment

Step5:make adjustment from non cash items from other information

Step5 is pretty much same as step 4,but now you shall look to other information sources. Several of them are listed in step 1

So for example, you find out that your company entered into new material lease contracts. And there is non cash adjustment hidden for sure, because on one side, increase in PPE was recorded that was not purchased for cash. On the other hand, increase in loans or lease liabilities was recorded, but the company have not received any cash so you shall just adjust for it, exactly same way as described in stop. Remember your total should always be 0

Step 6:Prepare Movements in Material Balance Sheet items to verify completeness

It's very easy. Just take the biggest or material items in your balance sheet and reconcile their movements between opening and closing balance. Check whether each movement is taken into account for in your cash flow statement so far

For example, PPE. You might find movement of PPE was as follows:closing balance (from closing B/S) =opening balance of PPE (from opening B/S) plus lease acquisition of PPE plus cash purchase of PPE plus received as gift minus depreciation of PPE minus loss on sale of PPE minus cash sale of PPE. Which items from this movement are non cash? Following ones are non cash lease acquisition of PPE, PPE received as a gift, depreciation and loss on sale of PPE So for each of those non -cash items, you should have made an adjustment

Step 7:Add Up and Perform Final Check

Let us draw last coloumn last coloumn will be statement of cash flows itself. In the individual lines or items from statement of cash flows you shall make horizontal or line totals. You effectively calculate change in balance sheet for individual caption adjusted by non cash items, that gives you appropriate cash movement for that caption

Fine then verify it makes sense. For ex you will get certain number in line purchase of PPE -go and verify this number with your accounting records, or ask your investment department wether cash payments for PPE during period were as you calculated if not even close to that you must have omitted something, or messed up signs or you made some other mistake

Finally look to vertical total of last cloumn if it's 0 then it is correct