CACI-U5-L13 · Canadian Accounting Common Core I

Statement of cash flows

115 minutesUnit 5: Cash flow and financial analysisPrerequisite: Ownership, shares, and retained earningsCurriculum: Common Canadian introductory accounting core; institution placement varies

Learning goals

Classify cash flows as operating, investing, or financing.
Reconcile net income to operating cash flow using the indirect method.
Explain direct-method operating cash collections and payments conceptually.
Reconcile opening cash to ending cash and identify non-cash transactions.
Interpret why profit and operating cash flow diverge.

Prerequisite check

Name one transaction that raises cash but not profit.
Why does depreciation reduce profit but not current cash?

Vocabulary

Operating activities: principal revenue-producing activities and other activities not investing or financing under the applicable classification.
Investing activities: acquisition/disposal of long-term assets and investments, subject to framework definitions.
Financing activities: changes in contributed equity and borrowings.
Indirect method: reconciles profit to operating cash flow.
Direct method: reports major classes of operating cash receipts and payments.
Cash equivalents: short-term, highly liquid investments meeting strict criteria; not every short-term investment qualifies.
Non-cash transaction: investing/financing event without cash movement, disclosed separately when required.

Core idea

The cash-flow statement answers three different questions:

Did operations generate or consume cash?
What long-term resources were purchased or sold?
How did owners and lenders finance the entity?

The indirect method begins with accrual profit, removes non-cash/non-operating items, and translates working-capital changes into cash effects. Classification of interest and dividends differs across IFRS/ASPE choices and circumstances; this lesson states assumptions rather than presenting one universal rule.

Why this treatment makes sense

Profit measures performance using accrual recognition. Cash flow measures actual cash movement. A credit sale raises profit before collection; buying equipment uses cash but is not immediately an equal expense; borrowing raises cash without profit. Users need both views.

A repeatable method

Use MAP–RECONCILE–PROVE–READ:

Map each cash transaction to operating, investing, or financing; isolate non-cash items.
Reconcile profit to operating cash flow, checking signs against account logic.
Prove opening cash + net change = ending cash and agree to the statement of financial position.
Read patterns across several periods; investigate quality and sustainability.

Indirect working-capital sign logic:

Operating asset increase → subtract; decrease → add.
Operating liability increase → add; decrease → subtract.

Worked example

Spruce Current Inc. reports net income $18,000. Other facts:

depreciation expense $4,000;
$1,000 gain on equipment sold;
A/R increased $3,500; inventory decreased $2,000; prepaid expenses increased $500;
A/P increased $1,800; wages payable decreased $700;
equipment purchased for $15,000 cash; equipment sold for $4,000 cash;
shares issued for $10,000; loan proceeds $8,000; principal repaid $5,000;
dividends paid $3,000; opening cash $6,900.

Assume interest paid is operating and dividends paid are financing for this course example.

Operating, indirect:

Reconciliation, Amount working table
Reconciliation	Amount
Net income	$18,000
Add depreciation	4,000
Subtract gain	(1,000)
Increase in A/R	(3,500)
Decrease in inventory	2,000
Increase in prepaids	(500)
Increase in A/P	1,800
Decrease in wages payable	(700)
Net operating cash flow	$20,100

Investing cash flow = −$15,000 + $4,000 = −$11,000. The gain is not the cash proceeds; it was removed from operating profit because full proceeds appear in investing.

Financing cash flow = $10,000 + $8,000 − $5,000 − $3,000 = $10,000.

Net cash increase = $20,100 − $11,000 + $10,000 = $19,100. Ending cash = $6,900 + $19,100 = $26,000.

Journal, ledger, and statement connection

Cash-flow preparation is a reconstruction from cash ledger evidence and changes in related accounts, not a new journal entry. The equipment sale entry includes Cash $4,000 and Gain $1,000, implying carrying amount $3,000 removed. Borrowing entry Dr Cash / Cr Loan affects financing cash and the statement of financial position but not profit.

Under a direct-method operating presentation, customer cash collections can be derived from beginning A/R + credit sales − ending A/R, adjusted for write-offs and other items. Supplier cash paid requires inventory/purchase and A/P data; do not use an unsupported shortcut.

Common mistakes

Adding an increase in A/R instead of subtracting it.
Treating depreciation as an operating cash inflow; it is a non-cash reconciliation adjustment.
Reporting equipment-sale gain as investing proceeds.
Classifying principal repayment as an operating expense.
Including a share-for-equipment exchange in cash totals.
Forgetting bank overdraft/cash-equivalent definitions and framework choices.
Evaluating one year's positive operating cash without checking working-capital timing.

Guided practice

Net income $25,000; depreciation $6,000; loss on sale $800; A/R decreases $2,500; inventory increases $3,200; A/P decreases $1,100; unearned revenue increases $900. Compute operating cash flow and explain every sign.

Independent practice

Tamarack Data reports net income $31,000, depreciation $7,500, gain on sale $1,500, A/R increase $4,000, inventory increase $2,200, prepaids decrease $600, A/P increase $3,100, and income tax payable decrease $900. It buys equipment for $20,000, sells equipment for $5,500, borrows $12,000, repays $4,000 principal, issues shares for $6,000, and pays $2,500 dividends. Opening cash is $8,900. Prepare the three sections and ending cash under the course assumptions.

Self-check and solutions

Guided: $25,000 + $6,000 + $800 + $2,500 − $3,200 − $1,100 + $900 = $30,900. A/R decrease means collections exceeded accrual revenue; inventory increase used cash; A/P decrease means cash paid exceeded purchases/expense; unearned revenue increase means customer cash preceded revenue.

Independent: Operating = $31,000 + $7,500 − $1,500 − $4,000 − $2,200 + $600 + $3,100 − $900 = $33,600. Investing = −$20,000 + $5,500 = −$14,500. Financing = $12,000 − $4,000 + $6,000 − $2,500 = $11,500. Net increase $30,600; ending cash $39,500. Confirm the gain is removed from operating while full $5,500 proceeds are investing.

Retrieval practice

State the sign logic for operating assets and liabilities.
Give two financing inflows and two financing outflows.
Why is a gain removed in the indirect method?
Name one important non-cash transaction.

Exam-style application

Net income is $40,000, including $9,000 depreciation and a $2,000 loss on sale. A/R rises $6,000; inventory falls $3,000; A/P falls $4,000. Compute operating cash flow and interpret profit-to-cash quality in one sentence.

Target: $40,000 + $9,000 + $2,000 − $6,000 + $3,000 − $4,000 = $44,000. Operating cash exceeds profit mainly because non-cash depreciation/loss and inventory release more than offset receivable growth and payable reduction; one period alone does not establish sustainable quality.

Lesson summary

Classify actual cash, reconcile accrual profit carefully, isolate non-cash events, and prove ending cash. The gap between profit and operating cash is a question generator, not automatically good or bad news.