The term ‘cashflow problems’ can mean very different things to people. For some individuals or companies, it can be about the challenges faced in making the budgets stretch and the money last. For accounting students, it can be the difficulties faced with producing the statement of cashflows under exam conditions. For the relatively strange beasts among us who enjoy debating financial reporting, it can lead us to the debate about whether IAS 7, Statement of Cash Flows, is fit for purpose.
The upcoming IFRS 18, Presentation and Disclosure in Financial Statements, has thrown this question back into the arena. This new accounting standard arose because of the primary financial statements project (see the AB article ‘Replacement plans for IAS 1’), which initially considered the presentation of all primary financial statements, hence the name. As the project developed, the scope narrowed, and the major changes now will be to the statement of profit or loss (see the AB article ‘Preparing for IFRS 18’).
Regulators still encounter very common errors with classification
There are some changes in IFRS 18 to the statements of financial position and cashflows, but these are comparatively minor. The statement of financial position will now include goodwill as a separate line item, and the statement of cashflows will mainly record interest paid within financing activities. These changes are relatively simple and not really disputed, but the concern is that they could have gone further.
At the Meet the Experts financial reporting conference in 2023, this became a topic of discussion. Andreas Barckow, chair of the International Accounting Standards Board (IASB), said the research project on cashflows would begin during 2024, so there were several discussions with panels that involved the current feelings towards cashflows (see the AB article ‘IASB lays out plans’).
Operating activities
During the Meet the Experts conference, it was pointed out that regulators still encounter very common errors over classification. While preparers have a responsibility to ensure classification is correct, panellists questioned which section some items should go in. Putting the tax paid in operating activities is seen as a problem, as its inclusion means that businesses cannot easily split out operating segmental cashflows.
Another classification argument relates to research and development. It is recognised as strange that while all research costs are initially included within operating expenses, they move to investing activities the moment they qualify as development expenditure, even though the activities are simply a continuation of the same process.
Another difficulty within the statement of cashflows relates to the use of the indirect method, which is difficult for a normal investor to decipher without a lot of information.
Cashflow and expense item types will not be classified in the same categories under IFRS 18
Inconsistency
A further criticism at the conference revolved around the inconsistency with the statement of profit or loss proposals under IFRS 18. The cashflows in the operating, investing and financing section will not be the same types of item included in the expense categories in the operating, investing and financing categories of the statement of profit or loss. This is likely to lead to further confusion around classification of items.
The operating expenses section under IFRS 18 does cover items relating to property, whether depreciation or rentals. Currently the capital expenditure element of these is recorded within the investing section of the statement of cashflows. While the capital nature of expenditure is clearly worthy of having its own line in a statement of cashflows, panellists at the conference argued that these costs are often related to the core activities of the entity and therefore should be included within the operating section of cashflows.
The investing category for the statement of profit or loss will include income or expenses from assets that generate returns individually and largely independently of other resources held by an entity, but the investing section of the statement of cashflows also includes capital items. A similar discrepancy exists within the tax category. This has its own section under IFRS 18 but remains in operating activities in IAS 7.
For at least one company, the IAS 7 cashflow figure is little more than a box-ticking exercise
The way forward
Barckow believes the research project on cashflows will result in targeted amendments rather than large changes. Some panellists at Meet the Experts disagreed with this course of action, expressing disappointment that cashflows had been largely dropped from the IFRS 18 project and hoping that larger changes would be made. Perhaps the most damning criticism came from a panellist who said that, within his company, the IAS 7 cashflow figure is irrelevant and little more than a box-ticking exercise, and that his entity focuses only on its own internal alternative performance measures relating to adjusted operating cashflows.
At the conference it was widely acknowledged that the statement of cashflows is a crucial piece of information for an entity. However, where people are describing the information as irrelevant and a box-ticking exercise, perhaps the IASB could be braver in looking at larger change, particularly in the light of the changes arising from IFRS 18.
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