IAS 7 Cash Flow Statements: A Practical Guide for Finance Professionals

IAS 7 Statement of Cash Flows is the accounting standard that governs how a business presents its cash flow statement — one of the primary financial statements, showing the actual cash moving in and out of the business over the period. This practical guide explains what IAS 7 covers, the three sections of the cash flow statement, the direct and indirect methods, and why it matters — in clear, plain language. It's a core financial-reporting topic, relevant to ACCA and AAT study, and connects to the wider cash flow statement.

What is IAS 7?

IAS 7 requires entities to present a statement of cash flows as an integral part of their financial statements. Its purpose is to give users information about the historical changes in cash and cash equivalents — where cash came from and where it went during the period. This is vital because, while the income statement shows profit on an accruals basis, only the cash flow statement shows whether the business actually generated cash — and cash, ultimately, is what keeps a business solvent.

Cash and cash equivalents

The statement deals with cash and cash equivalents. Cash includes cash on hand and demand deposits. Cash equivalents are short-term, highly liquid investments that are readily convertible to known amounts of cash and subject to an insignificant risk of changes in value — held to meet short-term commitments rather than for investment. Understanding what is included is important, because the statement explains the movement in this specific total.

The three sections

IAS 7 requires cash flows to be classified into three categories, which together explain the overall movement in cash:

• Operating activities — the cash effects of the principal revenue-producing activities of the business, and other activities that aren't investing or financing. This is generally the most important section, showing whether core operations generate cash.
• Investing activities — the acquisition and disposal of long-term assets and other investments (such as buying or selling property, plant and equipment).
• Financing activities — activities that change the size and composition of the entity's equity and borrowings (such as issuing shares, raising or repaying loans, and paying dividends).

Direct and indirect methods

IAS 7 permits two methods for presenting cash flows from operating activities:

• The direct method shows the major classes of gross cash receipts and payments — such as cash received from customers and cash paid to suppliers and employees. It's more informative but requires more detailed data.
• The indirect method starts with profit before tax and adjusts it for non-cash items (like depreciation), for changes in working capital (inventories, receivables, payables), and for items classified under investing or financing. This reconciles profit to operating cash flow and is the more commonly used method in practice.

The standard encourages the direct method, but the indirect method is widely used because the information is easier to extract from the accounting records.

Why IAS 7 matters

IAS 7 matters because cash flow information is essential to assessing a business's liquidity, solvency and financial adaptability. A company can report a healthy profit yet run into trouble if it isn't generating cash — and the cash flow statement is what reveals this. Its standardised, three-section structure makes it possible to compare cash generation across companies and over time, and it's harder to manipulate than profit. For accountants and analysts, understanding how the statement is built — especially the indirect-method reconciliation from profit to operating cash flow — is fundamental and one of the most frequently examined topics in the whole of financial reporting.

Frequently asked questions

What is IAS 7?

The international standard on the Statement of Cash Flows, requiring businesses to present the historical changes in their cash and cash equivalents, classified into operating, investing and financing activities.

What are the three sections of the cash flow statement?

Operating activities (cash from core operations), investing activities (buying and selling long-term assets and investments), and financing activities (changes in equity and borrowings, including dividends).

What's the difference between the direct and indirect methods?

The direct method shows gross cash receipts and payments; the indirect method starts from profit and adjusts for non-cash items and working-capital changes. The indirect method is more common in practice because the data is easier to obtain.

Why does IAS 7 matter?

Because cash flow reveals a business's liquidity and solvency — a profitable company can still fail if it doesn't generate cash. The statement is standardised, comparable and much harder to manipulate than reported profit.

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What is the main purpose of IAS 7?

IAS 7 sets out how entities present information about changes in cash and cash equivalents through a statement of cash flows, classified into operating, investing and financing activities. It helps users assess an entity's ability to generate cash and how it uses it. Always refer to the current standard for the detailed requirements.