The Basics of the Statement of Cash Flows

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In our last blog posting, we covered certain non-recurring items that the Emerging Issues Task Force is looking at related to Statement of Cash Flows presentation. Let’s step it back a bit and go over the basics of the Statement of Cash Flows.

Who – Financial statement preparers.

What – The Statement of Cash Flows is also known as the Cash Flow Statement. This statement is prepared as one of the four major financial statements and is provided to explain inflows and outflows of cash for a Company.

When – At the end of each accounting period.

Where – Information is reported in three separate sections on the Statement of Cash Flows.

  • Operating Activities: Reports cash flows in relation to the Company’s core business operations by making adjustments to net income for changes in account balances, such as accounts receivable, inventory, and accounts payable, amongst others, from one year to another. This is called the indirect method, which is the method most commonly seen with private company financial reporting. This method also makes adjustments for non-cash items included in net income, including depreciation and amortization, bad debt expense, and gains or losses on the disposal of property and equipment. The direct method lists specific types of cash flows associated with the items that cause the cash flow. For example, cash received from customers or cash paid to suppliers. Both methods will arrive at the same amount of cash flows from operating activities.
  • Investing Activities: Reports cash flows associated with the Company’s investing activities. The most common activities reported in this section relate to purchases and sales of long-term investments and property and equipment.
  • Financing Activities: Reports transactions that change the debt or equity of the Company such as payment of dividends and distributions or issuance of a long-term debt and subsequent repayments.

Why – Given timing differences between when a transaction is recorded in the financial statements and when the cash is actually received or expended, there can be significant differences between the net income or loss reported on the Income Statement and the actual cash a Company has on hand. Many feel the Statement of Cash Flows is the most informative of the four statements and allows users to interpret the Company’s operations, where cash is generated and how it is spent. Because of this, the Statement of Cash Flows can be used to evaluate trends in performance that are not easily identifiable in the other statements and to predict future cash flows.

How – Cash flows from operating activities are combined with cash flows from investing and financing activities to arrive at a net change in cash. This amount is then added to the cash at the beginning of the period to arrive at the total cash at the end of the period, which will agree to the amount of cash shown on the Balance Sheet.

By Crystal L. Becerril, CPA