Group Accounts and Cash Flow - Essay Example

Introduction to Accounting Group Accounts There are a lot of separate entities that provide goods and services which produce accounting and financial statements which are subsidiaries of group companies. Unless a consolidated group accounts are prepared and presented the accounts will not presenting a fair view of the activities of the group as a whole (Catherine Hernandez). This is one of the key reasons for revising the reporting requirements in respect of group company accounts by Financial Reporting Standard No2 (Shortly FRS 2). Convergence on the presentation of the financial statements worldwide is another reason for ensuring the consolidation so that comparison of international group concerns' financial statements becomes possible and easier. FRS 2 'Accounting for Subsidiary Undertakings' details the conditions under which a parent company of subsidiaries should prepare and present consolidated financial statements. The FRS also spells out the manner in which the consolidated accounts need to be prepared. As per the FRS the purpose of the consolidated financial statements is to provide detailed information about the activities of the whole group of undertakings including the subsidiaries (ASB). The FRS adopts the definition of a group as provided by the Companies Act 1985 as amended by the Companies Act 1989. The group accounts comprises of the group income statement, group balance sheet and group cash flow statement. In the preparation of group accounts the primary consideration should be the effect on the users of the financial statements with respect to their ability to see the complete economic activities of the group and to ascertain the exposure of the parent company to risk through its interests in the subsidiaries and participation in their activities. Hence it becomes necessary that the qualitative aspects of materiality are given full consideration in respect of preparation of the group accounts. The accounts of the subsidiaries are to be consolidated in accordance with the procedure laid down in FRS 2. This requires consolidation on a line-by-line basis and also the removal of the all transactions within the group companies. Goodwill on acquisition is to be calculated on the basis of FRS 2 and FRS 7. In order to ensure that the parent company group accounts comply with the UK Generally Accepted Accounting Principles (GAAP) adjustments to the data from the subsidiary companies' accounts need to be made as the first step in the consolidation process. These adjustments managements may related to the profits or losses on disposal of assets and the notional interest and any directly controlled assets and liabilities that have been excluded from the subsidiary accounts. The effect of consolidating the parent and the subsidiary companies may be that the aggregation being undertaken in the process of consolidation may obscure the useful information about the different companies whose accounts are being consolidated and by inclusion of the activities in the consolidated financial statements. Hence the parent companies usually provide a segment-wise analysis of the activities and their results in the financial statements with useful information on the various risks and rewards, as well as the growth and potential for profitability for different member companies of the group. It is also mandatory that the financial statements of all subsidiary companies to be consolidated should have the same financial year end and must represent the financial results for the same accounting period as that of the parent company. When the parent company acquires a subsidiary company according to the FRS the identifiable assets and liabilities shall have to be brought in to the consolidation at fair values on the date the company became the subsidiary. This is so even when the acquisition is made in different stages. Cash Flow A company's financial statements have three important components. The balance sheet, income statement and the cash flow statement. The balance sheet gives an overview of the assets and liabilities of the company as on a particular date and the income statement reports the profit or loss made by the company during a particular period. The cash flow statement differs from these two statements as it stands to reconcile these two components of the financial statements. In its simplest form the cash flow represents the money that came into and went out of any business. Cash flow is considered as the life blood of a company as it indicates the financial health of a company than its net income. The bottom line of the cash flow statement indicates the net increase/decrease in the cash and cash equivalents and this is an important figure for any company in business. (Investopedia) It is always the case that the profit figure for a company does not give a useful or meaningful picture of the operations of a company. There are chances that the reported profit figure of a company may mislead the readers of the financial statements of the companies. For instance if a company is said to have made a profit after tax of say 100,000 then the company should be in a position to distribute this amount to the shareholders as dividend. However unless the company has sufficient cash it may not be able to pay the amount to its shareholders. Thus survival of a company by meeting its obligations to make payment to various creditors on time and this needs a sound cash flow for the company (FAO). A cash flow statement is a record of all cash receipts and payments made by a company during the financial year. The cash flow statement prepared by a company may help the users (1) to make an assessment of the ability of the company to generate positive cash flows to meet its future obligations in respect of loans and also to make dividend payments (2) to examine the reasons for major variations in the reported and the related cash flows and (3) to make an assessment of the effect of the cash flows on the finances of the companies with respect to major transactions entered into by the company during the period under review. Cash flow planning is vitally important for business houses. Without a viable cash flow plan the company may invite the risk of over spending than its earnings and revenue and thus puts itself to danger of becoming bankrupt being unable to meet its financial obligations on the due dates. The statement of cash flows for the non-finance companies usually takes the following three main parts: Operating flows that signify the net cash generated out of the operations of the company during a relevant period. This includes the net income of the company and the changes in the working capital of the company Investing flows which are the net result of capital expenditures incurred by the company. It also includes the investments, acquisitions etc Financing flows which is the net result of the funds raised by the company to finance other flows or for meeting its debt obligations. (Investopedia) Cash flow is always considered as the good indicator of the financial soundness of any company. It is possible for the investors to analyze the financial soundness of the companies in the shares of which they want to invest by studying their cash flows. GAAP requires that the non-operating cash flows to be reported separately to make the user understand the real financial situation clearly. References ASB 'Accounting for Subsidiary Undertakings' Accounting Standards Board Catherine Hernandez 'Are you Preparing Group Accounts' FAO Corporate Document Depository 'Chapter 3 - Cash Flow Accounting' Investopedia 'Operating Cash Flow: Better than Net Income' Investopedia 'The essentials of Cash Flow' Read More