Question

Question 2: Accounting & Finance

1. In deriving the cash generated from operations, we add the depreciation expense for the period to the profit before taxation. Explain why.

B. The relevant information from the financial statements of ABC plc for last year is as follows:

	$m
Profit before taxation (after interest)	200
Depreciation charged in arriving at profit before taxation	40
Interest expense	5
At the beginning of the year
Inventories	14
Trade receivables	24
Trade payables	9
At the end of the year
Inventories	28
Trade receivables	20
Trade payables	15

The following further information is available about payments during last year:

	$m
Interest paid	1
Taxation paid	5
Dividends paid	6

Prepare a statement of cash flow for operating activities for ABC plc.

Answer 1

A.
Depreciation is non-cash expense which does not lead to cash outflow and thus is added back to profit before taxation to calculate cash flow from operating activities
B.
Statement of cash flow for operating activities
	$ in m
Profit before taxation	$200
Add: Depreciation	$40
Less: Taxes paid	$5
Add: Interest payable ($5-$1)	$4
Increase in inventories (14-28)	-$14
Decrease in accounts payable (24-20)	$4
Increase in trade payable (15-9)	$6
Cash flow from operating activities	$245
Thus, cash flow from operating activities is $245 million