Business Finance 101 – How the Cash Flow Statement is Prepared

How the Cash Flow Statement is Prepared

 Last month we discussed what the Cash Flow Statement tells us, and here we show and example of how the Cash Flow Statement is prepared.
Three sources are used to gather information for the cash flow statement rather than from the Trail Balance –

1. Comparative balance sheets provide the amount of the changes in assets, liabilities, and equities from the beginning to the end of the period – that is, year or period before and current period
2. Current income statement to determine the amount of cash provided by or used by operations during the period – profit and loss prior and current
3. Selected transaction data from the general ledger provide additional detailed information needed to determine how cash was provided or used during the period – eg asset purchase

Three steps lead to preparing the statement of cash flows from these sources

Step 1. Calculate the change in cash:
This is the difference between the beginning and the ending cash balance from the beginning and end period on the balance sheet.

Step 2. Calculate the net cash flow from operating activities:
This procedure is complex. It involves analysing not only the current year’s income or profit & loss statement but also comparative balance sheets and selected transitions data.

Step 3. Calculate net cash flows from investing and financing activities:
All other changes in the balance sheet accounts must be analysed to determine their effects on cash.

A worked Example – Compiling the Cash Flow Statement

To illustrate a statement of cash flows we will use the first year of operations for Business Pty Ltd.

The company started on July 1, 2014, when it issued 60,000 shares of $1 value common stock for $60,000 cash.

The company rented its office space and furniture and equipment, and it performed services throughout the first half year.

The balance sheets at the beginning and at the end of the 6 months are as follows.

The Profit & Loss or Income statement and additional information for Business Pty Ltd are –

Business Pty Ltd
Profit & Loss Statement
For the period ended December 31, 2014

Step 1. Calculate the change in cash:
The company has no cash on hand at the beginning of the period, but $49,000 at the end of 2014. This is an increase of $49,000

Step 2. Calculate the net cash flow from operating activities:
First the net profit/income must be converted. Under generally accepted accounting principles (GAAP), most companies must use the ACCRUAL basis of accounting, requiring revenues be reported when earned/invoiced and that expenses be recorded when incurred/authorised. Net income can also include credit sales that have not been collected in cash and expenses incurred that have not have been paid in cash. Thus, under the accrual basis of accounting, net income will not indicate the net cash flow from operating activities.

To calculate net cash flow from operating activities, it is necessary to report revenue and expenses on cash basis and can be calculated via either a direct method or an indirect method

1. Direct Method: (also called the income statement method) –

Business Pty Ltd shows sales/revenues of $125,000. However, because the company’s accounts receivable increased during 2003 by $36,000, only $89,000 ($125,000 − $36,000) in ACTUAL cash was collected on these revenues.

The company also shows operating expenses of $85,000, but accounts payable increased during the period by $5,000. Assuming that payables related to operating expenses, the ACTUAL cash operating expenses were $80,000 ($85,000 − $5,000).

Because no taxes payable exist at the end of the year on the Balance Sheet, the $6,000 income tax expense must have been paid in cash during the year. Then the computation of net cash flow from operating activities is as follows:

“Net cash provided by operating activities” is equivalent of cash-basis net income or the CASH Profit & Loss.

2. Indirect Method: (or reconciliation method) –

starts with Net Profit/income and converts it to net cash.

Increase in Accounts Receivable―Indirect Method:
If accounts receivable increase during the year, revenues on an accrual basis are higher than on a cash basis because goods sold on account are reported as revenues. In other words, operations for the period led to increased revenues, but not all of these revenues resulted in actual cash, but appear as an increase in accounts receivable. Therefore the increase of $36,000 in accounts payable must be deducted from net income.

Increase in Accounts Payable―Indirect Method:
If accounts payable increase during the period, expenses on an accrual basis are higher than they are on a cash basis because expenses are incurred for which payment has not taken place yet. Therefore the increase of $5,000 in accounts payable must be added back to net income.

As a result of the accounts receivable and accounts payable adjustments, net cash provided by operating activities is determined to be $3,000 for the year 2003. This calculation is shown as follows.

Observe that net cash provided by operating activities is the same whether the direct or indirect method is used.

Step 3: Calculate Net Cash Flows from Investing and Financing Activities:
Finally, we need to determine whether any other changes in balance sheet accounts caused an increase or decrease in cash.

For example, an examination of the remaining balance sheet accounts shows that both common shares and retained earnings have increased. The common shares increase of $60,000 resulted from the issuing of common shares for cash. This is a receipt of cash from a financing activity and is reported as that in the statement of cash flows. The retained earnings increase of $20,000 is caused by two items:

1. Net income of $34,000 increased retained earnings, less
2. Dividend declared of $14,000 decreased retained earnings.

Net income has been converted into net cash flows from operating activities, as explained earlier. The additional data indicates that the dividend was paid. Thus, the dividend payment on common stock is reported as cash outflow, and classified as financing activity.

We are now ready to prepare the statement of cash flows. We start with the operating activities section. Either the direct or indirect method may be used to report net cash flow from operating activates.

The statement of cash flows under indirect method for Tax Consultation Inc. is as follows.

Business Pty Ltd
cash flow statement-Indirect Method
For the period end 31 Dec 2014

As shown, the $60,000 increase in common shares results in a cash inflow from a financing activity. The payment of $14,000 in cash dividends is classified as a use of cash from a financing activity. By coincidence in this example, the $49,000 increase in cash reported in the statement of cash flows agrees with the increase of $49,000 shown as the change in the cash account in the balance sheet.

What are your thoughts?

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Cashflow Tips – Handle your business growth plan carefully to avoid disaster!

Cashflow Tips – Handle your business growth plan carefully to avoid disaster!

For many, your business growth plan will solve most business problems.

But growth can also be a disaster for a business if not handled well – and here are some common miss-beliefs.

1. Build it and it will sell itself – Many new ideas come to entrepreneurs all the time – but not everything succeeds for outside and internal reasons – no real demand, lack or poorly-prepared marketing plan (often a weak spot for small business owners), lack of financial budget plan.
2. I can/will do it all – Common error to fall into the “if it’s to be done no-one does as it well as I do it” trap. Yes in the early days you have to do most yourself – but document the method that you find works best, then teach someone else to do it so you can move on to other things. A good explanation is found in “The E Myth” by Michael Gerber. Paint a clear picture of what the future business will look like/become, write out the Organisation chart of the key roles of the organisation and job descriptions, find/create the systems required to make the business efficient, and get employment/HR help as it is a whole new mine-field of managing people and financial responsibility!
3. Bigger is better – When owners work on business growth, they often focus on sales, but a look at industry benchmarks often reveals that businesses in higher sales brackets aren’t always the most profitable.  Often, businesses with modest turnover can achieve better profits, where-as too often, as a business grows, overheads can get out of hand and the extra sales get eaten up then profit falls.  So sales and marketing plans are very important – and testing and measuring as you go is paramount – set budgets and create reports at least monthly to track how you are going.
4. Growth solves Cashflow problems – Nothing just happens without careful measuring and managing carefully!!! Ensure the budget is created as already mentioned, know your margins (Gross Profit, Net Profit as minimum). See if there are supplier discounts with larger purchasing volumes, and importantly, if you sell on account instead of retail, keep monitoring debtor days and don’t get slack on customers taking their time to pay!

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Bookkeeping – Accounting for Barter Transactions and Trade Exchanges

Bookkeeping – Accounting for Barter Transactions and Trade Exchanges

If you are a member of a barter organisation eg Bartercard in Australia, you are still required to ensure you are accounting for barter transactions for the sales and purchases as if made by regular cash methods, and GST and tax still applies.

Here is how the ATO website explains it as at today –

How barter works

In its simplest form, bartering involves the direct exchange of goods or services for other goods or services without reference to money or money value.

There are sophisticated forms of bartering in the market place, both locally and internationally. These arrangements are typically controlled by member-only organisations, with credit units the medium of exchange.

The terms ‘exchange’, ‘barter exchange’, ‘trade exchange’ and ‘countertrade exchange’ are used to describe the organisation that manages the bartering operation. Various terms are used to refer to the medium of exchange, such as units, credits, trade dollars or barter dollars. The most commonly used term is trade dollar.

Trade exchange operations vary in size and sophistication, from community-based to business-based operations.

A trade exchange provides its members with a trading account for the purpose of recording member transactions. The trade exchange credits or debits the account each time a member makes a sale or purchase respectively. The account is also debited for fees the trade exchange charges its members. The trade exchange may buy and sell in its own right, acting as a member with its own trading account.

Tax treatment of barter transactions

Barter transactions are assessable and deductible for income tax purposes to the same extent as other cash or credit transactions.

When an entity that is a member of a trade exchange makes a taxable sale to another member, there is a liability for tax, including GST.

Payment may be in money or in kind, or in some instances a combination of these. The payment for sales between members of a trade exchange is the debiting of the recipient’s account and the payment received is the crediting of the supplier’s account.

Value of supplies made through a trade exchange need to be taken into account when determining whether an entity meets the GST registration threshold and is required to register for GST. For example, if an entity has $60,000 of cash transactions and barter transactions valued at $20,000, it meets the GST registrations threshold.

As a general rule, when valuing the payment arising from barter or countertrade transactions, we will accept a fair market value as adequately reflecting the money value or arm’s length value, as applicable. In most cases, we will accept as a fair market value the cash price that the taxpayer would normally have charged a stranger for the services or for the sale of the goods or property.

The rules of most business-oriented countertrade organisations specify a rate for converting credit units into an Australian dollar equivalent. Customarily the rules specify that each credit unit has a value equivalent to one Australian dollar. Where the monetary value worked out using the rate specified in the rules represents a fair market value of the goods or services provided, that rate is to be applied when valuing the payment. In all other cases, a conversion rate that values the goods or services provided at their fair market value is to be applied when valuing the payment.

Transactions where the values are set at artificially high levels for the purpose of establishing an inflated income tax deduction may indicate fraudulent activity. Parties to transactions that involve inflated credit unit values may have consequences other than an adjustment to the amount of income returned or the amount of income tax deductions claimed.

Personal purchases are not deductible for income tax purposes and a GST credit cannot be claimed, whether the purchase is made using trade dollars or Australian currency.

Example: GST payable on a taxable supply between members of a trade exchange

Harvey and Tracey are registered for GST and are both members of the Better Bartering Exchange. Harvey is a bookkeeper and provides bookkeeping services to Tracey who operates a courier service. Harvey’s trading account is credited with 440 Better Bartering credits (BBs) for the supply of services to Tracey.

Under the rules of the exchange, one BB equals $1 and the commercial value of the services is $440. The price of the supply is 440 BBs. Before calculating the value of the supply, the 440 BBs are converted to their Australian dollar equivalent ($440). The value of the taxable supply that Harvey makes is $440 × (10÷11), which is $400. The GST on the supply is, therefore, $40 (that is, 10% of $400).

Harvey will declare $400 as assessable income on his income tax return, and Tracey will claim $400 as a deduction on her tax return.

Payments to ATO

Payments to us of GST, income tax and the super guarantee levy must be made in Australian currency.

Generally, only other members of the trade exchange and the trade exchange itself may accept payment in trade dollars.

Tax invoices and ABNs

A tax invoice is required for a barter transaction as it is for any other business transaction. However, where a member of a trade exchange makes a taxable sale and the payment is expressed in credits, the tax invoice must comply with all of the usual requirements for a tax invoice, and include either:

• The GST inclusive price expressed in Australian currency
• The GST payable in Australian currency.

Australian business number (ABN) obligations apply to bartering transactions to the same extent as for any other business transaction.

Example: Tax invoice

Harvey and Carol are registered for GST. Harvey uses his Better Bartering credits (BBs) to purchase a new computer from Carol for his bookkeeping business. The rules of the exchange specify that one BB equals $1, and the market value of the computer is actually calculated in BB credits on this basis.

Carol issues Harvey with a tax invoice, showing the price of the computer in BBs and the GST payable in Australian currency converted at the rate of one BB equalling one Australian dollar.

If Carol did not quote an ABN, Harvey would be required to withhold 46.5% of the payment and remit that amount to us.

Record keeping

Members of trade exchanges must keep records that record and explain all business transactions and other acts they engage in that are relevant to a particular sale, importation, purchase, dealing or entitlement. The records must be kept for five years after the completion of the relevant transactions or acts.

In addition to ordinary accounting documents, this may include:

• Invoices and receipts
• Purchase orders, delivery dockets, contracts and barter scheme statements
• Other relevant documents, such as the application for membership of the bartering scheme, the rules of the scheme, and any other documents governing the relationships between members, and between members and the trade exchange.

 See also:

• GSTR 2003/14 Goods and services tax: the GST implications of transactions between members of a barter scheme conducted by a trade exchange (As at 29 May 2013)

From ATO website as current today.

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RECKON / Quickbooks (former) – Leave amount incorrect on PAYSLIPS but correct in REPORTS and Employee record – for Desktop and previous Quickbooks Plus, Pro, Premier, Enterprise, Hosted 2014 onwards

Leave amount incorrect on PAYSLIPS but correct in REPORTS and Employee record – for Desktop and previous Quickbooks Plus, Pro, Premier, Enterprise, Hosted 2014 onwards

Lady called – Why do our payslips from the latest version of Reckon Accounts show an incorrect amount of Accrued Leave, but the reports and Employee record show the correct amount?

SOLUTION – From the Reckon Support Notes (ID: 5623) –

This issue is effecting random Reckon/Quickbooks Accounts Business (Plus, Premier and Enterprise/Hosted) users using 2014 and later releases.

Analysis:

Reckon have identified the issue where the payslips of some employees do not display the correct accrued leave hours. This issue is totally random.

Reckon understand although the payslips do not show the correct hours, the leave liability report and the leave hours in employee actual record shows the correct hours.

Solution/workaround:

Please note: While we have known this KB to fix most of the issues we have tested, we cannot warrant that it will fix the issue in every case.

(The workaround to the issue is to reset the hours for leave for the employee and entering it manually after rebuilding the files 3 times.)

Please follow the below steps to fix the issue which is categorised into two parts:

Part 1: Preparations

1. Backup the file. Make a fresh new backup of your Reckon file and keep it separate in a safe location so you can easily access it if required.
2. Print the Current ‘Leave liability’ report and ensure you know the current leave accruals for each employee prior to making any changes.

Part 2: Execution

1. Go to the employee menu and select the employee which has an issue with leave.
2. Edit the employee.
3. Go to ‘Payroll & Compensation’ Info Tab
4. Click on the Leave Details Tab
5. Note down the existing Year Begins on “xxxxx”, Day “xx” and Begin accruing time on “xx/xx/xx” field for the employee – (or take a screen shot of the existing details. As you will need to enter them back once the fix is done.)
6. Do this for both Personal and Holiday
7. Tick the ‘Reset hours each new year‘ option for the employee
8. Enter the Year begins on, Day and Begin accruing time on field as a date after the last pay entered but prior to the next pay date (i.e. if the last pay was on 08/11 and the next pay is on 15/11 enter any date between 09/11 & 14/11 as the reset date)
9. Do this for both Personal and Holiday
10. Rebuild the data file 3 times (File > Utilities > Rebuild)
11. Process the next pay (eg 15/11), the leave will reset
12. Go into the Employee record and enter the correct Amount of Personal and Holiday Leave (and untick the Reset option)
13. Enter the correct ‘Year begins on’, ‘Day’ and ‘Begin accruing on’ field as well as noted in step 5 above.
14. Next week when you process the next pay (i.e. 22/11), the leave accruals will be correct in Payslip & Employee Record and the Transaction.

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Business Finance 101 – How does the Cashflow Statement Work – Overview for Business Owners

How does the Cashflow Statement Work – Overview for Business Owners

There are 2 popular financial statements that are commonly given for a business – a profit & loss or income statement, a balance sheet or statement of position, but rarely used is the cashflow statement (or statement of cash flows). The purpose of the cashflow statement is to highlight the major activities that directly and indirectly impact cash flows and hence affect the overall cash for the business.

Business owners usually know by “feel” what their cash flow is like, and they should monitor cash for a very good reason – without a sufficient cash balance at the right time, a company can miss golden opportunities or may even fall into bankruptcy. 

The cash flow statement answers questions that cannot be answered by the income statement and a balance sheet. For example a statement of cash flows can be used to answer questions like where did the company get the cash to pay dividend of nearly $14,000 in a year in which, according to profit & loss / income statement, it lost more than $10,000?

The cashflow statement is a valuable analytical tool for business managers as well as for investors and creditors, although managers tend to be more concerned with forecasted statements of cash flows that are prepared as a part of the budgeting process. The statement of cash flows can be used to answer crucial questions such as the following:

1. Is the company generating sufficient positive cash flows from its ongoing operations to remain viable?
2. Will the company be able to repay its debts?
3. Will the company be able to pay its usual dividends?
4. Why is there a difference between net profit/income and net cash flow for the year?
5. To what extent will the company have to borrow money in order to make needed investments?

For the statement of cash flows to be useful, it is important to use a common definition of cash. It is also important that a statement be constructed using consistent guidelines for identifying activities that are sources of cash and uses of cash. The proper definition of cash is broadly defined to include both cash and cash equivalents.

Cash equivalents (applicable more for large companies) include short term, highly liquid investments such as treasury bills, commercial paper and money market funds that are made solely for the purpose of generating a return on temporary idle funds. Instead of simply holding cash, most large companies invest their excess cash reserves in these types of interest bearing assets that can be easily converted into cash. These short term liquid investments are usually included in marketable securities on the balance sheet. Since such assets are equivalent to cash, they are included with cash in preparing a statement of cash flows

The 3 sections of cash flow statement (each has an inflow and outflow section):

How does the Cashflow Statement Work – Overview for Business Owners

Operating Activities: (mostly income statement / profit & loss)

Operating activities shows the cash effects of transactions such as –

• cash receipts from sales of goods and services and
• cash payments to suppliers and employees for acquisition of inventory, taxes, interest on loans

Investing Activities: (mostly long term assets)

Investing activities generally show long term assets (and sometimes debt/equity securities) which include –

• sale/disposing of plant, equipment
• sale of debt or equity securities
• acquiring plant and equipment
• acquiring debt or equity securities

Financing Activities: (mostly long term liabilities and equity)

Financing activities involve liability and stock holder’s equity items and include obtaining cash from creditors and repaying the amounts borrowed and obtaining capital from owners and providing them with a return on, and a return of, their investment.

• Increase in debt / loans taken on
• Payment/redemption of debt facilities / loans
• Dividends paid

Next month we will work through an example

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Reckon ONE – How to set up and how to report Taxable Payments Annual Report (TPAR) – and when due?

Reckon ONE – How to set up and how to report Taxable Payments Annual Report (TPAR) – and when due?

Businesses in the building and construction industries need to know how to report Taxable Payments Annual Report (TPAR) – so how do we set up the Reckon ONE file, how do we generate the report and when is the due date to report?

Here we look at what the 1 Australian Tax Office (ATO) requires and how to 2 Steps to set up and generate a Taxable Payments Annual Report from Reckon ONE software.

1  ATO Requirements

You may need to lodge a Taxable payments annual report by 28 August each year if you are a:

• Business in the building and construction industry;
• Government entity;
• May extend to Couriers and Cleaners.

The Taxable payments annual report reports to the ATO about payments you have made to contractors for providing services. Some government entities also need to report the grants they have paid and payments they make to certain other entities.

Contractors can include subcontractors, consultants and independent contractors.

They can be operating as sole traders (individuals), companies, partnerships or trusts.

See our post HERE, for more ATO detail.

2  Reckon ONE – The steps to set up and generate the report are – (a) Set the system, and then (b) Create the Report

(a)   Set up

1. Click the “cog” icon at far top right of screen > Settings > Book Settings under General > Ensure all Business/Company info is completed – especially Company Name, ABN, Address, Contact, Phone > Save
2. Back to Settings > under Tax Settings > General > Are you Registered for Tax? > Yes and fill in options below > Save
3. Set up Suppliers > Contacts in Left side Menu > Suppliers. For each supplier subject to TPAR (contractors) click its name to open, and at top right, tick Subject to TPAR > Verify ABN left side is best. Save and Close. Repeat for all applicable suppliers.
4. In transactions – you can tick in each transaction, if subject to TPAR also, and de-select individual transactions if not applicable when generating the TPAR report later.

(b)   Create TPAR Report

1. Click Tax in Left side Menu > TPAR
2. There are 3 tabs – All, Draft and Lodged
3. To start, click Add at top right. Select reporting year required and say NO to Amendment (unless it is)
4. This gives a list of your TPAR suppliers
5. Click the arrow on the left of each supplier and you can see all the separate transactions. You can de-select any that don’t apply
6. Generate File – click this at top right – this generates a TPAR.C01 to upload via the ATO Business Portal – it saves as a Download
7. Print report form top right, as a record
8. Email a PDF to the default email (as in your Settings, General, Email Settings)
9. Once lodged, click LODGED and the TPAR becomes Read only.

For a quick video, go here –

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You also get FREE 30 min to assess the setup of your company in the software,

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Reckon/Quickbooks – How to set up and how to report Taxable Payments Annual Report (TPAR) – and when due?

Reckon/Quickbooks – How to set up and how to report Taxable Payments Annual Report (TPAR) – and when due?

Businesses in the building and construction industries need to know how to report Taxable Payments Annual Report (TPAR) – so how do we set up the Reckon/Quickbooks file, how do we generate the report and when is the due date to report?

Here we look at what the 1 Australian Tax Office (ATO) requires and how to 2 Steps to set up and generate a Taxable Payments Annual Report from RECKON software.

1 ATO Requirements

You may need to lodge a Taxable payments annual report by 28 August each year if you are a:

• Business in the building and construction industry;
• Government entity;
• May extend to Couriers and Cleaners.

The Taxable payments annual report reports to the ATO about payments you have made to contractors for providing services. Some government entities also need to report the grants they have paid and payments they make to certain other entities.

Contractors can include subcontractors, consultants and independent contractors.

They can be operating as sole traders (individuals), companies, partnerships or trusts.

See our post HERE, for more ATO detail.

2 Reckon Accounts (and Hosted) – The steps to set up and generate the report are –

1.  Enable the Taxable Payment Reporting option in the preference to be able to open the report.

1. Go to the Edit menu, choose Preferences.
2. Choose the Tax item and go to the Company Preferences tab.
3. In the Taxable Payment Report section, click to select the Enable the Taxable Payment Reporting option.
4. Click OK.

2.  Enable a supplier (sub-contractor) to become reportable on the Taxable Payment report

1. Go to the Suppliers menu and choose Supplier Centre.
2. On the Suppliers tab, double click the supplier’s name to open the supplier’s profile.
3. Click to select the “Include in Taxable Payments electronic report” option.
4. Click OK.

3.  How do I create this report to have what I need to upload or write on the ATO form?

1. Go to the Suppliers menu, click Tax Activities, click Process Taxable Payments.
   The Process Taxable Payments annual report window opens.
2. Click the Tax Year drop-down to select the tax year you are reporting on.
3. If applicable, click the Withholding Liability Account drop-down to select the account you use to track withholding tax.
4. Click the (tick) column to select the selected suppliers that you want to appear in the selected tax year’s report.
5. Click the supplier to view the transactions for each supplier that are included in the report.
   The Supplier Taxable Payments Details – <supplier name> window opens.
6.  You can review each transaction and click to deselect if you don’t want a transaction that doesn’t apply, included.
7. Click OK.
8. Click Save to save the changes (if you have made them) in the Process Taxable Payments annual report window.
9. Click Export to save the report to your disk. The Select Location for Tax Payment Report File window opens. Enter a file name for the report, we recommend using the date in the file name.
   The default location for the file is \\ProgramData\Intuit\ReckonAccounts 2013\<level> 2013\<Company Name>\Export Files\Tax Payment Reports. For Reckon Accounts Hosted users, the default location is “Q:\ “
10. Click Save. You will receive a message that the file has been successfully written. If you have electronic key, you can upload the file to your ATO portal.

Note: If you make any changes to the data whilst the Taxable Payments Annual Report Window is open, the report needs to be closed and reopened for it to refresh.

4.  How do you Amend the TPAR report if incorrect?

If you require to submit an amended report to the ATO, select the Generate Taxable Payments as ‘Amended’ option in the Process Taxable Payments annual report window.

Select the supplier that has been amended from the list and click Create Report.

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