Classify and reconcile cash flows under IAS 7
Classify operating, investing and financing cash flows, calculate an indirect operating total and reconcile opening to closing cash.
Cambridge International AS & A Level Accounting 9706, 2026–2028 syllabus, Version 2. These lessons cover the nine named IAS at the main-provisions level described in Cambridge teacher guidance, the stated ethical principles, audit and stewardship. Practice is self-checked, not an official Cambridge grade. Full timed Papers 1–4 and human subject-teacher review remain outstanding.
Before you begin
- Use the Topic 1.5 and 3.1 statement skills: identify the reporting period, distinguish profit from cash, and explain how a reporting choice affects users of financial statements.
Work on paper. Try each question before revealing help, and explain why your method works.
Quick readiness check
A company issues ordinary shares for cash. Which activity is this?
What you will learn
- Classify cash flows as operating, investing or financing
- Adjust operating profit for non-cash items and working-capital movements
- Reconcile the net cash movement with opening and closing cash
Separate cash flows by the activity that causes them
IAS 7 explains changes in cash and cash equivalents during a period. Operating activities arise from the entity's main revenue-producing activities. Investing activities include purchases and disposals of long-term assets and investments. Financing activities change the size or composition of contributed equity and borrowings.
Under the indirect operating method, start from an appropriate profit measure, add back non-cash expenses such as depreciation, and adjust for working-capital movements. An increase in inventory or receivables usually reduces operating cash; an increase in payables usually increases it. Then include relevant interest and tax cash flows under the stated consistent classification.
Make the closing cash agree
Net operating, investing and financing cash flows to find the net increase or decrease. Add the movement to opening cash and cash equivalents to obtain the closing balance. This is a useful arithmetic check and connects the statement to the statement of financial position.
IAS 7 permits consistent classification choices for interest and dividends in the syllabus guidance; income tax is operating unless it can be specifically identified with investing or financing. Follow the question's stated policy and do not count a non-cash transaction as a cash flow.
Pause and explain
Receivables increase by $900. What is the usual indirect-method adjustment to operating cash?
Worked example
Operating profit is $40,000, depreciation $6,000, inventory increases by $2,000, receivables decrease by $1,500, and payables increase by $500. Calculate cash generated from operations before interest and tax.
Show the worked solution
- Start with operating profit: $40,000.
- Add depreciation because it reduced profit but did not use cash: $40,000 + $6,000 = $46,000.
- Subtract the inventory increase and add the receivables decrease and payables increase: $46,000 − $2,000 + $1,500 + $500 = $46,000.
Answer Cash generated from operations before interest and tax is $46,000.
Try a topic test
Choose Easy, Normal or Difficult. Save your answers and open worked review after finishing.
Test this topic →From guided practice to a new situation
Write your answer and reasoning first. Use a hint only if you are stuck. The model solution is for self-checking; your written work is not automatically marked.
Calculate operating cash before interest and tax from profit $28,000, depreciation $3,000, inventory decrease $1,200, receivables increase $2,500 and payables decrease $700.
Give me a hint
Add back depreciation; increases in current assets reduce cash and decreases in payables reduce cash.
Compare my reasoning
- Start: $28,000 + $3,000 depreciation = $31,000.
- Inventory falls, freeing $1,200: add it. Receivables rise, tying up $2,500: subtract it.
- Payables fall by $700: subtract it. Cash generated = $31,000 + $1,200 − $2,500 − $700 = $29,000.
Cash generated from operations is $29,000 before interest and tax.
Look for these in your work
- Depreciation added
- Working-capital signs correct
- Arithmetic reconciles
A company reports operating cash $32,000, investing cash outflow $11,000 and financing cash inflow $4,000. Opening cash is $8,500. Calculate the net movement and closing cash.
Give me a hint
Combine the three activity totals, then add the movement to opening cash.
Compare my reasoning
- Net cash movement = $32,000 − $11,000 + $4,000 = $25,000 increase.
- Closing cash = opening cash $8,500 + $25,000.
- Closing cash and cash equivalents = $33,500.
Net increase $25,000; closing cash $33,500.
Look for these in your work
- Activity signs used
- Net movement calculated
- Closing balance reconciled
A company buys equipment by issuing shares directly to the seller, with no cash exchanged. Explain how the transaction should be treated when a student checks the cash-flow statement.
Give me a hint
Ask whether cash or cash equivalents moved; distinguish a financing event from a cash flow.
Compare my reasoning
- No cash is exchanged, so the purchase does not create a cash inflow or outflow in the main cash-flow totals.
- The transaction is a non-cash investing and financing transaction and is disclosed separately as appropriate.
- The student should not include a cash purchase and a cash share issue that never occurred.
Do not put the exchange into the main cash-flow totals as if cash moved. Disclose the non-cash investing and financing transaction separately as required.
Look for these in your work
- Cash movement test applied
- Non-cash transaction recognized
- No invented inflow or outflow
Common mistakes
- Subtracting an increase in payables as if suppliers were paid sooner
- Adding a disposal's profit instead of the cash proceeds
- Mixing opening and closing cash with the net movement
What can you explain now?
Where is cash used to buy a machine normally classified?
Compare with the explanation
Investing activities
A purchase of property, plant and equipment is an investing cash flow.
After trying it yourself, choose your next review. This is your self-assessment.
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Make it stick
Give one example each of an operating, investing and financing cash flow, and state the opening-to-closing cash reconciliation.
If you needed the solution, close it and solve the problem again from a blank page. A correct answer is stronger when you can explain the reason for each step.