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  • 8/9/2019 Cash Flow Statement Ali



    History and Variations01What Is A Cash Flow Statement? ..02Components of Cash Flows Statements..03

    Operating Activities03Investing Activities.03

    Financing Activities04Format of Cash Flow Statement..05Example...06Methods of Computation of Operating Activities06Direct Method...06

    Indirect Method08Key Terms10How to Analyze a Cash Flow Statement..11Conclusion13

  • 8/9/2019 Cash Flow Statement Ali



    History and variations:

    Cash basis financial statements were common before accrual basis financialstatements. The cash flow statement was previously known as the statement ofchanges in financial position or flow of funds statement. The cash flow statementreflects a firm's liquidity or solvency.

    In the United States in 1971, the Financial Accounting Standards Board (FASB)defined rules that made it mandatory under Generally Accepted AccountingPrinciples (US GAAP) to report sources and uses of funds, but the definition of"funds" was not clear. "Net working capital" might be cash or might be the difference

    between current liabilities and current assets. From the late 1970 to the mid-1980s,the FASB discussed the usefulness of predicting future cash flows. In 1987, FASBStatement No. 95 (FAS 95) mandated that firms provide cash flow statements.

    In 1992, the International Accounting Standards Board issued InternationalAccounting Standard 7 (IAS 7), Cash Flow Statements, which became effective in1994, mandating that firms provide cash flow statements. US GAAP and IAS 7 rulesfor cash flow statements are similar. Differences include

    IAS 7 requires that the cash flow statement include changes in both cash and cash

    equivalents. US GAAP permits using cash alone or cash and cash equivalents.

    IAS 7 permits bank borrowings (overdraft) in certain countries to be included in

    cash equivalents rather than being considered a part of financing activities.

    IAS 7 allows interest paid to be included in operating activities or financing

    activities. US GAAP requires that interest paid be included in operating activities.

    US GAAP (FAS 95) requires that when the direct method is used to present the

    operating activities of the cash flow statement, a supplemental schedule must alsopresent a cash flow statement using the indirect method. The IASC stronglyrecommends the direct method but allows either method. The IASC considers theindirect method less clear to users of financial statements. Cash flow statementsare most commonly prepared using the indirect method, which is not especiallyuseful in projecting future cash flows.

  • 8/9/2019 Cash Flow Statement Ali


    What is a Cash Flow Statement?

    The cash flow statement is basically the most important financial statement a businessprepares. It traces the flow of funds or in other words working capital into and out of

    your business during an accounting period. The cash flow statement became arequirement for publicly traded companies in 1987. There are various rules governinghow information is reported on cash flow statements, as determined by generallyaccepted accounting principles (GAAP). While your business may not be a publiccompany, a cash flow statement is still important to measure and track the flow ofcash into and out of your business

    For a small business, a cash flow statement should probably be prepared as frequentlyas possible. This means either monthly or quarterly. An annual statement is a must forany kind of business. A cash flow statement can be used to assess the timing, amountand predictability of future cash flows and it can be used as the basis for budgeting. .A cash flow statement is also a key to understanding the investment and financing

    philosophy of a borrower.

    Cash flow is essentially the movement of money into and out of your business; it's thecycle of cash inflows and cash outflows that determine your business' solvency.

    The purpose of the statement of cash flows is to provide an entry for the cash balanceshown on your balance sheet. But, in essence, the statement of cash flows provides a

    business with so much more. An examination of the statement of cash flows willshow you exactly where your cash surplus or deficit is coming from.

    Cash flow analysis is the study of the cycle of your business' cash inflows andoutflows, with the purpose of maintaining an adequate cash flow for your business,and to provide the basis for cash flow management. Cash flow analysis involvesexamining the components of your business that affect cash flow, such as accountsreceivable, inventory, accounts payable, and credit terms. By performing a cash flowanalysis on these separate components, you'll be able to more easily identify cashflow problems and find ways to improve your cash flow.

    The statement of cash flows is meant to serve as a bridge between the minute detail ofthe profit and loss sheet, and the sketchy details of the balance sheet. When properly

    used, the statement of cash flows will fill in many gaps left in the reporting ofinformation from one level of detail to the next.

    The balance sheet is a snapshot of a firm's financial resources and obligations at asingle point in time, and the income statement summarizes a firm's financialtransactions over an interval of time. These two financial statements reflect theaccrual basis accounting used by firms to match revenues with the expensesassociated with generating those revenues. The cash flow statement includes onlyinflows and outflows of cash and cash equivalents; it excludes transactions that do notdirectly affect cash receipts and payments. These non-cash transactions includedepreciation and write-offs on bad debts. The cash flow statement is a cash basis

    report on three types of financial activities: operating activities, investing activities,and financing activities. Non-cash activities are usually reported in footnotes.

  • 8/9/2019 Cash Flow Statement Ali


    The cash flow statement is intended to

    1. provide information on a firm's liquidity and solvency and its ability to changecash flows in future circumstances

    2. provide additional information for evaluating changes in assets, liabilities and

    equity3. improve the comparability of different firms' operating performance by

    eliminating the effects of different accounting methods4. indicate the amount, timing and probability of future cash flows

    The cash flow statement has been adopted as a standard financial statement because iteliminates allocations which might be derived from different accounting methods,such as various timeframes for depreciating fixed assets.

    Components of Cash flows Statements:

    In the accounting, banking and business communities there has been much debate asto the best method to report cash flow information. Accounting experts recommendusing three categories to organize cash flow data which are as follows:-

    1. Operating Activities2. Investing Activities3. Financing Activities

    Operating Activities:

    The area of cash flows from operating activities will show you if your sales, your cashreceipts, and inventory and your accounts receivables are experiencing any dramaticchanges. Cash flow from operating activities is probably the most complex section

    because there are two methods of computing it. The direct method will be introducedfirst. However, the direct method is not the most widely used method to calculate thecash flow from operating activities. Many companies use the Indirect Method. Thechoice of method does not change the amount of cash flow reported from operatingactivities. These methods will be discussed later. It includes

    receipts from the sale of goods or services

    receipts for the sale of loans, debt or equity instruments in a trading portfolio

    interest received on loans

    dividends received on equity securities payments to suppliers for goods and services

    payments to employees or on behalf of employees

    tax payments interest payments (alternatively, this can be reported under

    financing activities

    Investing Activities:

    Cash flow from investing activities is the second part of both types of cash flowstatements. Investing activities are the changes to your cash position owing to the

    buying or selling of non current assets. This includes selling and replacing equipmentthat wears out or acquiring a new building or land so that your company can grow.Investing activities can also include the purchase or sale of stock, bonds, and