Prior to the issuance of SFAS 95, GAAP had sanctioned different types of reporting on funds flow, most recently in the form of a "Statement of Changes in Financial Position." This flexibility in reporting resulted in much diversity regarding both the focus of the statement of changes in financial position and in the definition of "funds." SFAS 95 is an attempt to narrow the focus of reporting and to clarify the definition of "funds."

History of Reporting on Cash Flow and Funds

The origins of the current cash flow statement are in statements prepared decades ago by companies which listed the sources any uses of funds used in the business. These statements were essentially listings of the various increases and decreases of the company's balance sheet items. Accounting Research Study 2, entitled, "'Cash Flow,' Analysis and the Funds Statement," was issued in 1961. The Study recommended that a funds statement become a required statement in all corporate annual reports, and be covered by the auditor's opinion.

The next action by the APB occurred in 1963, with the issuance of APB 3. That Opinion recommended that the statement's name be changed to "Statement of Source and Application of Funds" and it attempted to provide some standards for statement preparation and presentation. The APB recommended that the statement be presented as supplementary, information and that such a statement not be mandatory. The coverage of the "Statement of Source and Application of Funds" in the report of the independent accountant was to be optional. The recommendations of APB 3 quickly gained strong support from all parts of the financial reporting community.

Most corporations implemented and continued to present statements of source and application of funds.

In 1971, the APB issued APB 19, which required that a "statement of changes in financial position" be presented as a primary financial statement and be covered by the auditor's opinion on the financial statements. By the 1980s, this title was used almost exclusively by all reporting entities in compliance with the opinion. The statements of changes in financial position that were presented invariably showed the change in working capital rather than cash flows. During the 1970s and 1980s, many advocated the use of a cash flow approach. In 1984, with the issuance of Concepts Statement 5, the FASB advocated that a statement of cash flows be included in the entity's primary. financial statements. According to that statement, the statement of cash flows should reflect the entity's cash receipts classified by major sources and its cash payments classified by major uses.

SFAS 95-Statement of Cash Flows

SFAS 95 suggests that the diversity of reporting practices under APB 19 was the result of a lack of clear objectives. The FASB has attempted to remove the ambiguity by making the purpose of the statement of cash flows explicit. "The primary purpose of a statement of cash flows is to provide relevant information about the cash receipts and cash payments of an enterprise during a period."

A Narrower Focus

By focusing on cash and cash equivalents, SFAS 95 has narrowed the number of possible definitions of "funds" to one. Under SFAS 95, cash includes currency on hand, demand deposits with financial institutions, and other accounts having the general characteristics of demand deposits. Cash equivalents are short-term, highly liquid investments that are both: 1) readily convertible to known amounts of cash; any 2) so near their maturity that they present insignificant risk of changes in value because of changes in interest rates. SFAS 95 provides an arbitrary bench mark of three months against which to measure investments to determine if they should be classified as cash equivalents

The use of a restrictive definition gives rise to an additional disclosure requirement. SFAS 95 requires that a firm disclose its policy, for determining which items are to be treated as cash equivalents. Study of Annual Reports

As with any new standard, there is interest as to implementation problems encountered and the degree of compliance with all its requirements. The following procedures were followed to determine how the required disclosures of SFAS 95 were being implemented.

Selection of Sample. A sample of 100 annual reports was selected from the 200 largest companies on the 1989 Fortune 500 list of industrial companies. The 1987 and 1988 annual reports were examined to determine in which year the company switched from issuing a Statement of Changes in Financial Position to issuing a Statement of Cash Flows. Companies were required to make the change for fiscal years ending after july 15, 1988, but earlier adoption was encouraged.

Attributes Examined. For those companies issuing a Statement of Cash Flows, the following facts were determined:

1. Year of change. The first year in which a Statement of Cash Flows was presented was determined.

2. Auditor reference. The independent auditor's report was examined to determine whether any reference was made to the Statement of Cash Flows in connection with a lack of consistency.

3. Restatement of prior years. The comparative financial statements were examined to determine whether the Statement(s) of Changes in Financial Position issued in prior year(s) were restated to Statement(s) of Cash Flows. If the prior year's Statement of Changes in Financial Position was restated, the footnotes were examined to determine if the restatement was disclosed. (Auditors are not required to take a consistency exception if the restatement is adequately disclosed.)

4. Method of reporting cash flows from operating activities. An examination of the face of the Statement of Cash Flows was made to determine whether the company had elected to report under the direct or indirect method. Further, if the company chose to report following the indirect method, a determination was made of where the reconciliation of net income to net cash flows was presented.

5. Disclosure of noncash transactions. An examination of the annual report was made to determine whether any disclosure of noncash transactions was made.

6. Presence/Placement of Foreign Currency Exchange Rate Changes. The Statement of Cash Flows was reviewed in conjunction with the other statements and footnotes to determine whether a foreign currency exchange rate change line item was applicable and, if so, how it was presented.

7. Disclosure of cash equivalents policy. An examination of the footnotes was made to determine if a disclosure of the company's policy regarding the determination of what constitutes a cash equivalent was made.

8. Presence/placement of disclosure of cash payments for interest and taxes. The Statement of Cash Flows and notes to the financial statements were reviewed to determine whether cash payments for interest and taxes were disclosed and, if so, how the amounts were presented.

9. Other observations. Other general observations were made regarding general presentation, placement of disclosures, etc., in those cases where unusual formats or style were present.

Results of the Annual Report Survey

Seventy-eight percent of the firms surveyed switched to making disclosures under SFAS 95 in their 1988 annual reports. Nearly all companies restated prior years when issuing the Statement of Cash Flows for the first time in 1988. Only three companies in the sample chose not to restate the prior year. in these cases, the auditors correctly noted this as a consistency exception in their report. The auditor's report correctly did not take exception for a lack of consistency for the 75 companies that restated the prior year. On the other hand, two companies that adopted SFAS 95 in 1988 failed to disclose the adoption in their financial sections. The auditors did not take exception in their reports.

Although SFAS 95 recommends that companies use the direct method of reporting cash flows from operating activities, the indirect method was almost universally accepted by the companies in the sample. only one of 95 companies surveyed used the direct method of reporting cash flows from operating activities. When the indirect method is used, SFAS 95 requires that a reconciliation to net income be presented in either the statement itself or in a supplementary, schedule. All but one company presented the reconciliation on the face of the statement. One company presented the reconciliation as a footnote to the financial statements. None presented the reconciliation in a supplementary schedule.

Of the 94 companies that adopted SFAS 95 with their 1987 or 1988 annual reports, only 33 disclosed noncash transactions either at the bottom of the cash flow statement or, more commonly, in the notes to the financial statements. It is not possible to determine if the 61 companies that did not report any such transactions did so because they had no noncash transactions, or if this represents noncompliance with the reporting requirements of SFAS 95.

It is also difficult to determine whether compliance with the disclosure requirements of SFAS 95 are being met with regard to the presentation of the change in cash and cash equivalents resulting from foreign currency, exchange rate changes. While almost all of the companies in the sample have some foreign operations, only 57 of the 94 companies adopting SFAS 95 by, 1988 reported the impact of foreign currency exchange rate changes. It appears as though many of the remaining 37 companies that did not report any foreign exchange currency, rate changes either were not in compliance with SFAS 95 or could have done a better job of disclosure by stating that the effects of such changes were immaterial or insignificant.

Checking for the companies' policies for disclosure of "Cash Equivalents" revealed that just 77 of the 94 companies adopting SFAS 95 by 1988 made such disclosures. Most of these 77 companies used the boiler plate" definition appearing in SFAS 95. Time frames such as 91 days or three months were used. One company stated that no short-term investments were cash equivalents. A few companies stated no time frame as to the maturity of the short-term investments that were included in cash equivalents. A few disclosures were made on the bottom of the cash flows statement, but most appeared in the notes to the financial statements.

The disclosure of cash payments for interest and taxes was quite varied. Of the 94 companies that had adopted SFAS 95 by 1988, 21 made no disclosures of cash payments for interest and taxes. One can hardly believe that 21 of the largest industrial corporations made no cash payments for interest or income taxes in the years 1986-1988. This seems to represent noncompliance with SFAS 95. Disclosure of cash payments for interest and taxes was made by 25 companies on the bottom of the cash flow statement. The most common method (48 of 94 companies) of disclosure was in the notes to the financial statements. Some of the 48 made the cash payments disclosures for interest and taxes in a separate note entitled SFAS 95 Disclosures." Often, information on noncash transactions was also included in the note. The other common form of note disclosure was to include the cash payments for interest in a note on long-term debt or interest and the cash payments for taxes in the note on income taxes.

Recommendations for Improved Reporting

While SFAS 95 specifies the content of the required disclosures, it does not prescribe the exact form in which all of the disclosures must be made. Although this results in allowing the preparers of the cash flow statement a large amount of discretion in the preparation of the companies' financial information, it also results in some confusion for readers of the statements. A few companies do a very, complete job of disclosure on the face of the cash flows statement including supplemental information on the bottom of the page) with the use of one footnote. At the other extreme are a handful of companies that make their disclosures via the statement of cash flows and four footnotes While the scattering of the SFAS 95 disclosures throughout the financial section of the annual report is not incorrect, it appears to violate the spirit of SFAS 95.

The other deficiency that appears to exist in the disclosures regarding SFAS 95 is a failure to make reference to noncash transactions and the impact of foreign currency exchange rate changes. In this study, 61 companies did not report any noncash transactions and 37 companies did not report anything pertaining to the foreign currency exchange rate changes on the cash Hows statement.

Disclosures or lack of disclosures pertaining to noncash transactions pose a particular problem for the reader because such disclosures are not a line item on the face of the statement of cash flows. We recommend that companies disclose the existence or non-existence of noncash transactions either below the cash flow statement or in a note on cash flow information.

Concluding Remarks

The survey has shown that the disclosures relating to SFAS 95 lack uniformity and are difficult to comprehend in man)' cases and may actually be deficient in some cases, The major causes of these problems are: 1) the scattering of cash flow information throughout the notes to the financial statements; and 2) the absence of disclosures relating to the impact of foreign exchange rate changes on cash and cash equivalents and the absence of disclosures on noncash transactions. The reporting related to SFAS 95 would be improved if all of the information was disclosed on the page containing the statement of cash flows and in one note on cash flows.