Cash Flow Statement
What the exam tests
Cash Flow Statement tests AS-3 classification into operating, investing and financing activities using the indirect method. Start with net profit before tax, add back non-cash and non-operating charges such as depreciation, then adjust working capital changes. Increases in current assets and decreases in current liabilities reduce operating cash flow; decreases in current assets and increases in current liabilities increase it. Investing activities include purchase and sale of fixed assets and investments. Financing activities include issue of shares or debentures, borrowings, repayments, interest paid and dividends paid.
Worked example
Net profit before tax is Rs. 2,00,000. Depreciation is Rs. 40,000. Debtors increase by Rs. 30,000; creditors decrease by Rs. 20,000; tax paid is Rs. 50,000. Operating cash flow before tax = 2,00,000 + 40,000 - 30,000 - 20,000 = Rs. 1,90,000. Less tax paid Rs. 50,000 gives net cash from operating activities Rs. 1,40,000. The depreciation is added because it reduced profit without using cash; the debtors increase and creditors decrease use cash.
Traps
Do not treat depreciation as a cash outflow. Do not classify purchase of fixed assets as operating. Under AS-3, interest paid is normally financing for a non-financial enterprise, while interest and dividends received are investing. Do not ignore tax paid. Cash and bank balances are not part of working capital changes.