A look at the cash flow statement when transitioning to FRS 102.
FRS 1 applies to financial statements intended to give a true and fair view, but there are exemptions such as small companies (based on the small companies exemption in companies’ legislation) and some subsidiaries which are not required to prepare cash flow statements.
FRS 1 requires an entity to prepare a cash flow statement including all the increases and decreases in the amounts of cash classified under nine standard headings:
a) operating activities;
b) dividends from joint ventures and associates;
c) returns on investments and servicing of finance;
e) capital expenditure and financial investments;
f) acquisitions and disposals;
g) equity dividends paid;
h) management of liquid resources;
Cash comprises cash in hand and deposits repayable on demand, ie with a period of notice of not more than one working day, less overdrafts repayable on demand.
FRS 1 requires a separate reconciliation between operating profit and net cash flow from operating activities and a separate reconciliation of net cash flow to movement in net debt.
The same exemptions apply under FRS 102 as under FRS 1.
FRS 102 requires an entity to present a statement of cash flows providing information about the changes in cash and cash equivalents for a reporting period classified under three headings:
a) operating activities;
b) investing activities;
c) financing activities.
Cash is defined as cash on hand and demand deposits.
Cash equivalents are defined as short-term, highly liquid investments that are readily convertible to known amounts of cash and that are subject to an insignificant risk of changes in value. An investment with a maturity of three months or less may qualify as a cash equivalent. Bank overdrafts repayable on demand and that are an integral part of cash management are a component of cash and cash equivalents.
FRS 102 requires a reconciliation of the amounts of cash and cash equivalents presented in the statement of cash flows to the equivalent items in the statement of financial position.
There are no specific transitional provisions in FRS 102 in respect of the statement of cash flows; however, comparatives consistent with the presentation under FRS 102 will need to be presented on first time adoption.
Compared to current UK GAAP (FRS 1), FRS 102 extends the scope of the statement of cash flows by requiring the inclusion not only of inflows and outflows of cash, defined as cash in hand and demand deposits, and of bank overdrafts repayable on demand, but also of cash equivalents. Cash equivalents include investments with a maturity of three months or less that under FRS 1 are normally classified within management of liquid resources.
The three headings for classification of cash flows also represent a significant reduction on the nine required by FRS 1 and will require careful re-thinking for the reclassification of items on first adoption of FRS 102.
Under FRS 102 operating activities are indicated as the main revenue-producing activities of the entity and therefore cash flows from such activities normally result from transactions that determine the profit or loss of the entity. Examples are:
a) cash receipts and payments for sale or purchase of goods and services;
b) cash payments and refunds of tax, unless they relate specifically to investment of financing activities;
c) cash receipts and payments from investments, loans and other contracts held for dealing or trading purposes, ie those similar to inventory acquired specifically for resale.
However, the cash flows for some transactions that result in a gain or loss, such as the sale of plant by a manufacturing entity, are classified as from investing activities. Investing activities are the acquisition and disposal of long-term assets and other investments not included in cash equivalents. Examples of investing activities cash flows are:
a) cash payments and receipts to acquire or to sell property, plant and equipment, intangible assets and other long-term assets;
b) cash payments and receipts to acquire or sell equity or debt instruments of other entities and interests in joint ventures;
c) cash advances and loans made to other parties and connected repayments.
Financing activities are activities resulting in changes in the size and composition of contributed equity and borrowings of an entity. Examples of cash flows from such activities are:
a) cash proceeds from issuing shares and other equity instruments;
b) cash payments to owners to acquire or redeem the entity’s shares;
c) cash proceeds from issuing debentures, loans, notes, bonds, mortgages and other long-term or short-term borrowings;
d) repayments of amounts borrowed;
e) lessee’s payments to reduce a liability on a finance lease.
In respect of interest and dividends, FRS 102 requires that cash flows from interest and dividends paid and received should be presented separately. An entity may classify interest paid and interest and dividends received as operating cash flows. Alternatively interest paid may be classified as financing cash flows and interest and dividends received as investing cash flows.
Dividends paid may be classified as financing cash flows because they are a cost of obtaining financial resources. Alternatively they may be classified as a component of cash flows from operating activities because they are paid out of operating cash flows.
No taxation implications.