The Statement of Cash Flows Turns 30

The Statement of Cash Flows Turns 30

By James Schmutte and James Duncan, PhD, CPA

This past year marked the 30th anniversary of the statement of cash flows as a required financial statement. FASB’s efforts in developing the then-new standard were heavily influenced by the objectives and concepts set forth in Statement of Financial Accounting Concepts (SFAC) 1, Objectives of Financial Reporting by Business Enterprises, and SFAC 5, Recognition and Measurement in Financial Statements of Business Enterprises. Statement of Financial Accounting Standards (SFAS) 95, Statement of Cash Flows, intended to overcome the questioned usefulness of the previously required statement of changes in financial position and the inconsistences in preparers’ definition of “funds.” SFAS 95, as amended, is now incorporated in Accounting Standards Codification (ASC) Topic 230, “Statement of Cash Flows.”

Despite its long history, the cash flow statement continues to present reporting challenges, as evidenced by recurring findings reported by the AICPA’s peer review program and inconsistencies in reporting various cash flows. Similar cash flow reporting deficiencies have been noted in public company reporting, as evidenced by PCAOB inspection findings, restatements, and SEC comment letters (Dana R. Hermanson, Richard W. Houston, and Zhongxia Ye, “Accounting Restatements Arising From PCAOB Inspections of Small Audit Firms,” The CPA Journal, Inspections,” Staff Inspection Brief, , Ernst & Young, SEC Comments and Trends,).

This article highlights practice issues with the statement of cash flows in terms of common reporting deficiencies, recent updates issued by the FASB, and potential changes coming in the future.

Background

Prior to SFAS 95, the statement of changes in financial position, which focused most often on working capital, was required by Accounting Principles Board Opinion 19. During the 1980s, both financial statement users and preparers expressed dissatisfaction with this reporting basis and the diversity in practice for different definitions of funds, cash, and cash flow from operations, as well as different forms of presentation in the statement (SFAS 95, Appendix A: Background Information). In fact, many users of financial statements defaulted to the calculation of earnings before interest, tax, depreciation, and amortization (EBITDA) as a surrogate for operating cash flows to meet their informational needs. The primary cause of these difficulties was a lack of understanding on the part of users, preparers, and many auditors-a misunderstanding that for some persists to this day. In addition, FASB saw the reporting of working capital changes as inconsistent with its subsequently issued SFAC 1, which indicated that financial reporting should provide users with information to assess the amounts, timing, and uncertainty of cash flows.

After a project of approximately six years that included discussion memoranda, exposure drafts, hearings, task forces, and numerous comment letters, FASB issued SFAS 95 in November 1987. The standard required a statement of cash flows to be included in a full set of financial statements and encouraged-but did not require-the use of the direct method of reporting cash flows from operating activities. In 2016, FASB issued three Accounting Standards Updates (ASU 2016-14, ASU 2016-15, and ASU 2016-18) that modified cash flow reporting standards.

Requirements

A statement of cash flows is required whenever a business or not-for-profit (NFP) entity provides a set of financial statements that reports both financial position and results of operations. A statement of cash flows should be provided for each period for which the results of operations are reported. A frequent reporting deficiency noted in peer reviews is omitting a cash flow statement for each period covered by the statements of operations; this deficiency is especially common in the case of nonpublic company comparative interim financial statements where monthly and year-to-date results are reported together. SEC regulations, while still requiring a statement of cash flows, permit an abbreviated level of detail reporting.

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