Classification of Cash Flows

Cash receipts and cash payments must be classified as operating, investing, or financing activities on the basis of the nature of the cash flow.

Cash flows should be grouped into operating, investing or financing activities to enable investors and creditors to evaluate significant relationships within and between those activities.

Investing Activities

Investing activities include making and collecting loans and acquiring and disposing of debt or equity instruments and property, plant, and equipment and other productive assets, that is, assets held for or used in the production of goods or services by the entity (other than materials that are part of the entity’s inventory). Investing activities exclude acquiring and disposing of certain loans or other debt or equity instruments that are acquired specifically for resale.

Financing activities

Financing activities include obtaining resources from owners and providing them with a return on, and a return of, their investment; receiving restricted resources that by donor stipulation must be used for long-term purposes; borrowing money and repaying amounts borrowed, or otherwise settling the obligation; and obtaining and paying for other resources obtained from creditors on long-term credit.

Certain cash receipts and payments may have aspects of more than one class of cash flows. In such circumstances, entities must determine the appropriate classification by considering when to (1) separate cash receipts and cash payments and classify them into more than one class of cash flows and (2) classify the aggregate of those cash receipts and payments into one class of cash flows based on predominance.

Operating Activities

Operating activities include all transactions and other events that are not defined as investing or financing activities. Operating activities generally involve producing and delivering goods and providing services. Cash flows from operating activities are generally the cash effects of transactions and other events that enter into the determination of net income.

Specific Considerations

  • Changes in a parent’s ownership interest while the parent retains its controlling financial interest in its subsidiary should be accounted for as equity transactions (investments by owners and distributions to owners acting in their capacity as owners). Accordingly, payments to acquire noncontrolling interests in a subsidiary, or those associated with the sale of noncontrolling interests in a subsidiary, should be classified as financing activities in the statement of cash flows.
  • An entity that actively and frequently purchases, sells, or trades equity securities, intending to sell them in the near term (e.g., hours or days) to generate short-term profits, would generally present such cash flow activity as operating activities; otherwise, presentation within investing activities would generally be required.
  • When an entity pays for capital expenditures or operating expenses before the reimbursement of government grant monies, it should present the receipt of the government grant in the statement of cash flows in a manner consistent with the presentation of the related cash outflow. For example, a government grant that is intended to reimburse an entity for qualifying operating expenses would be presented in the statement of cash flows as an operating activity if the grant was received after the operating expenses were incurred.
  • When an entity receives the government grant before incurring the related capital or operating expenses, it should present the receipt of the government grant as a financing cash inflow in the statement of cash flows.
  • Lease payments made to repay a finance lease liability should be classified as follows: (1) the principal portion of the payments as cash outflows from financing activities and (2) the interest portion of the payments as cash outflows from operating activities.
  • Cash flows related to the purchases and sales of businesses; property, plant, and equipment; and other productive assets are presented as investing activities in the statement of cash flows. In a business combination, all cash paid to purchase the business is presented as a single line item in the statement of cash flows, net of any cash acquired.
  • Acquisition-related costs such as advisory, legal, accounting, valuation, and professional and consulting fees in a business combination should be reflected as operating cash outflows in the statement of cash flows.
  • The effects of exchange rate changes on cash should be shown as a separate line item in the statement of cash flows as part of the reconciliation of beginning and ending cash balances.

Treatment of share premium in the Financial Statements

The Companies Act 71 of 2008 no longer permits companies to have shares of par value, resulting in companies no longer recognizing share premiums. In this issue we look at what this means for existing share premium accounts.

One of the most fundamental changes that the new Companies Act No. 71 of 2008 brought about was that a pre-existing company may not authorize any new par value shares, authorize any shares having a nominal value, or do any subdivision thereof.

In light of this, questions have often been asked about the treatment of the existing share premium account already present in the financial statements and what the legalities surrounding this is. In order to answer this, it will be necessary to fully understand what the share premium account is and explore the alternative treatments which are allowed in respect of this.

Note: The requirements relating to the issuing of shares are relevant to all shares which have been issued since the implementation of the new Companies Act No. 71 of 2008.

The effect of this is that share premiums can no longer be recognised by the company.

1. What is a share premium?

A share premium is the amount received by a company over and above the par value of its shares. This amount typically forms a part of the non-distributable reserves of the firm.

2. What is the implication of the new Companies Act No. 71 of 2008 in relation to share premium?

The effect of The Companies Act No 71 of 2008 is that a share premium will no longer be applicable. The new Companies Act was signed into law on 8 April 2009 and became effective on 1 May 2011. Consequently, any company with an existing share premium account would not recognize increases in such an account for all future years.

3. A company has issued shares that have a par value and it has recognized share premium separately from share capital.

The issues are:

i. Whether IFRS permits reclassifications within equity, for example combining share capital and share premium into one line termed “stated capital / issued capital”?

The legal requirements relating to the different categories of equity capital affect the accounting classifications. Therefore, from an IFRS perspective, if there is no legal requirement to retain separate classifications for share capital and share premium within equity, these could be combined. Such a reclassification would be recognized within the statement of changes in equity. This would also be the case in the South African context.

ii. The accounting impact of a repayment of shares

If the share premium is paid out to shareholders (for example, where the Company’s Memorandum of Incorporation specifies that the shareholders are entitled to the share premium), this is accounted for as a distribution of shareholders equity for IFRS purposes.

4. Does the company HAVE to reclassify the share premium account back to equity, or can it maintain a separate share premium account?

As there is no legal requirement for the company to reclassify the share premium account, a separate share premium account may be maintained.

Where a company has maintained a separate share premium account, due consideration should be given to any movements on such accounts.