Chapter 6 — Classification of Cash Flows

6.2 Financing Activities

ASC 230-10-20 defines financing activities as follows:

Financing activities include obtaining resources from owners and providing them with a return on, and a return of, their investment; receiving restricted resources that by donor stipulation must be used for long-term purposes; borrowing money and repaying amounts borrowed, or otherwise settling the obligation; and obtaining and paying for other resources obtained from creditors on long-term credit.

ASC 230-10

45-14 All of the following are cash inflows from financing activities:

Proceeds from issuing equity instruments
Proceeds from issuing bonds, mortgages, notes, and from other short- or long-term borrowing
Receipts from contributions and investment income that by donor stipulation are restricted for the purposes of acquiring, constructing, or improving property, plant, equipment, or other long-lived assets or establishing or increasing a donor-restricted endowment fund
Proceeds received from derivative instruments that include financing elements at inception, whether the proceeds were received at inception or over the term of the derivative instrument, other than a financing element inherently included in an at-the-market derivative instrument with no prepayments
Subparagraph superseded by Accounting Standards Update No. 2016-09.

45-15 All of the following are cash outflows for financing activities:

Payments of dividends or other distributions to owners, including outlays to reacquire the entity’s equity instruments. Cash paid to a tax authority by a grantor when withholding shares from a grantee’s award for tax-withholding purposes shall be considered an outlay to reacquire the entity’s equity instruments.
Repayments of amounts borrowed, including the portion of the repayments made to settle zero-coupon debt instruments that is attributable to the principal or the portion of the repayments made to settle other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of the borrowing that is attributable to the principal.
Other principal payments to creditors who have extended long-term credit. See paragraph 230-10-45-13(c), which indicates that most principal payments on seller-financed debt directly related to a purchase of property, plant, and equipment or other productive assets are financing cash outflows.
Distributions to counterparties of derivative instruments that include financing elements at inception, other than a financing element inherently included in an at-the-market derivative instrument with no prepayments. The distributions may be either at inception or over the term of the derivative instrument.
Payments for debt issue costs.
Payments, or the portion of the payments, not made soon after the acquisition date of a business combination by an acquirer to settle a contingent consideration liability up to the amount of the contingent consideration liability recognized at the acquisition date, including measurement-period adjustments, less any amounts paid soon after the acquisition date to settle the contingent consideration liability. See also paragraph 230-10-45-17(ee).
Payments for debt prepayment or debt extinguishment costs, including third-party costs, premiums paid, and other fees paid to lenders that are directly related to the debt prepayment or debt extinguishment, excluding accrued interest.

The next sections discuss certain types of financing cash flows.

6.2.1 Debt Extinguishments and Modifications

If a borrower settles a debt financing arrangement before the maturity date, a lender may include a prepayment penalty in the financing agreement, often on the basis of a number of factors, such as an approximation of remaining interest that will not be paid given the early extinguishment.

ASC 230-10-45-15(g) specifies that cash outflows for financing activities include “[p]ayments for debt prepayment or debt extinguishment costs, including third-party costs, premiums paid, and other fees paid to lenders that are directly related to the debt prepayment or debt extinguishment, excluding accrued interest.” Further, paragraph BC7 of ASU 2016-15 specifies that the EITF concluded that debt extinguishment costs “should include all costs for the prepayment or extinguishment of debt (that is, third-party costs, premiums paid to repurchase debt in an open-market transaction, and other fees paid to lenders).”

Although ASC 230 does not address debt modifications,1 we believe that when debt is restructured and is accounted for as a modification rather than as an extinguishment, an entity should follow the principles in ASC 230 and classify the fees paid to the creditor on the modification date as a financing cash outflow. Our view is based on the fact that, in accordance with ASC 470-50-40-17(b), fees paid to the creditor on the modification date are “associated with the . . . modified debt instrument” and (1) capitalized on the balance sheet as a reduction to the modified debt and (2) “amortized as an adjustment of interest expense over the remaining term of the . . . modified debt instrument using the interest method.” Since the fees paid to the creditor to modify the debt reduce the liability on the balance sheet, such fees are akin to the payment of principal (or a debt discount, which, on the balance sheet, is netted against the proceeds from the debt issued); accordingly, such payments would be presented as financing cash outflows in the statement of cash flows.

Further, we believe that any fees paid to a third party other than the creditor in connection with a debt modification, including those incurred in connection with a troubled debt restructuring (TDR), should generally be classified as operating cash outflows because, in accordance with ASC 470-50-40-18(b), the payment must be expensed. Therefore, since such fees enter into the determination of net income, they would be presented as operating activities. See Section 6.3 for further discussion of operating activities.

6.2.1.1 Troubled Debt Restructurings

As part of a TDR, an entity may recognize a gain because the carrying amount of the debt is greater than the total future cash payments specified by the modified terms. In such a case, the entity should present cash payments made after the TDR as financing cash outflows, including interest payments. In accordance with ASC 470-60-35-5, all payments are treated as reductions to the carrying value of the debt instead of interest expense for accounting purposes.

If an entity does not recognize a gain as part of a TDR because the carrying amount of the debt is equal to or lower than the total future cash payments specified by the modified terms, the entity should present any debt payments made after the TDR in a manner consistent with the presentation of payments made on nontroubled debt. Consequently, an entity should present interest payments as operating outflows in accordance with ASC 230-10-45-17(d) and principal repayments as financing outflows in accordance with ASC 230-10-45-15(b).

For additional discussion of TDRs, see Chapter 11 of Deloitte’s Roadmap Issuer’s Accounting for Debt.

6.2.2 Transactions With Noncontrolling Interest Holders

ASC 810-10-45-23 indicates that “[c]hanges in a parent’s ownership interest while the parent retains its controlling financial interest in its subsidiary shall be accounted for as equity transactions (investments by owners and distributions to owners acting in their capacity as owners).” Accordingly, payments to acquire noncontrolling interests in a subsidiary, or those associated with the sale of noncontrolling interests in a subsidiary, should be classified as financing activities in the statement of cash flows.

Direct costs of purchasing or selling noncontrolling interests in a subsidiary, when control is maintained, should generally be recorded as an adjustment to additional paid-in capital (APIC) and be classified as financing cash outflows in the statement of cash flows. However, indirect costs of purchasing or selling noncontrolling interests in a subsidiary, when control is maintained, should generally be reflected as an expense in the income statement and should be classified as operating cash outflows in the statement of cash flows. These conclusions are supported by analogies to ASC 810, SAB Topic 5.A, and the nonauthoritative guidance in AICPA Technical Q&As Section 4110.09.

SAB Topic 5.A provides guidance on accounting for costs related to the issuance of equity securities, stating that “[s]pecific incremental costs directly attributable to a proposed or actual offering of securities may properly be deferred and charged against the gross proceeds of the offering.” Therefore, direct costs of issuing equity securities are generally reflected as a reduction of the amount that would have otherwise been recorded in APIC. SAB Topic 5.A further states that “management salaries or other general and administrative expenses may not be allocated as costs of the offering and deferred costs of an aborted offering may not be deferred and charged against proceeds of a subsequent offering.” These indirect costs are generally reflected as an expense in the income statement.

In addition, the nonauthoritative guidance in AICPA Technical Q&As Section 4110.09 states that although there is no authoritative literature on costs entities incur to acquire their own stock, some “believe that costs associated with the acquisition of treasury stock should be treated in a manner similar to stock issue costs.” Under SAB Topic 5.A, direct costs associated with the acquisition of treasury stock may be added to the cost of the treasury stock.

Distributions to noncontrolling interest holders (in their capacity as equity holders) are considered equity transactions and should be reflected as cash outflows for financing activities in accordance with ASC 230-10-45-15. Entities that determine that it is appropriate to classify the cash outflows associated with these distributions outside of financing activities in the statement of cash flows are encouraged to consult with their accounting advisers.

6.2.3 Debt Issue Costs

ASC 230-10-45-15(e) notes that cash outflows for financing activities include “[p]ayments for debt issue costs.” To the extent that debt issue costs are paid to the lender, they should be presented net in the statement of cash flows, since such a transaction effectively represents a reduction of borrowed amounts. However, any debt issue costs paid to other parties should be presented separately in the statement of cash flows and should not be presented net against the proceeds received. In other words, such fees should be presented separately as financing activities (i.e., on a gross basis), regardless of whether the borrower pays the debt issue costs to the other party directly or the lender retains the borrowing costs from the debt proceeds and remits them to the other party. Importantly, the balance sheet classification of debt issue costs (as a reduction of the related debt liability rather than as an asset) does not depend on the party to whom the debt issue costs are paid and therefore does not change if the fees are paid to the lender or to other parties. For additional considerations related to debt extinguishments and modifications, see Section 6.2.1.

6.2.4 Advance Payments Received From Customers or Other Third Parties

When a supplier receives up-front payments from a customer (i.e., the payment represents consideration for the goods or services that the supplier provides to the customer), the receipt of such advance payments should be presented as operating cash inflows in accordance with ASC 230-10-45-16(a). In addition, refunds of customer deposits represent operating cash outflows in accordance with ASC 230-10-45-17(f).

When an entity receives advance payments from a third party in an agency relationship, which must be refunded to that same party or another third party, the cash receipts in these situations are akin to borrowings rather than for the provision of goods or services. Therefore the cash receipts should generally be presented as financing cash inflows, with the subsequent repayments classified as financing cash outflows.

Example 6-4

Company M is a payroll processor that receives funds from clients in advance before it remits those funds to the client’s employees. The cash flows from the funds received from, and paid on behalf of, M’s clients are reported as financing activities in the statement of cash flows.

Footnotes

While ASU 2016-15 clarified the presentation of certain payments related to debt extinguishments in the statement of cash flows, it did not address the cash flow presentation related to fees a debtor pays to the creditor when the debt is modified in accordance with ASC 470-50.

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This publication provides comprehensive guidance; however, it does not address all possible fact patterns, and the guidance is subject to change. Consult a Deloitte & Touche LLP professional regarding your specific issues and questions.