The statement of cash flow, which is also known as the cash flow statement, refers to financial statements. It details about cash generated in a firm over a specific time. However, it can be said that the cash flow statement functions as a mediator between the income and balance statement generated in relation to the firm. In other words, this would help to show how much has moved in and out of the firm. The statement of cash flow compromises of three section and they are detailed in the following part of the article.
- Operation activities – The revenue generating activities of a firm, including other activities that involve financing would result in cash flow. This cash flow is done from current assets and liabilities.
- Investing tasks – Whether it is long term asset disposal or any kind of investments, casg flow is not included within cash equivalents.
- Financing functions – When there is any change in the size of contributed equity capital of the firm such as stock, bonds or dividends, financing activities take place.
What are the Different Definitions of Cash Flow of a Firm?
- Cash flow – It refers to cash and cash equivalents that move in and out of business.
- Cash balance – The other name of cash balance is cash in hand along with demand deposits. The balance sheet of the firm is suitable to know details of cash balance.
- Cash equivalents – These include bank deposits, cash convertible assets, and short-term investments of the firm. In addition, it also includes short-term equivalents.
Different types of cash flow
- Operating cash flow
This includes operating activities that include both source and usage of cash from different business activities. Through this statement, it is possible to know what amount of cash has been generated from business activities. Other than this, this list of activities might include the following.
- Interest payments
- Income tax payment details
- Goods and service receipts of the firm
- Rent payments
- Details of salary given to employees
- Any operating expense
However, in case of an investment company, receipts from the sale of debt, a loan or other sources are also calculated together.
Investing cash flow
This revolves around investing activities that include any cash that comes from the firm’s investment. In the cash flow statement items such as asset sale, loans paid to vendors and given to customers or other related payments are listed. However, any change in equipment, investment, or asset can be included in the list of cash from investing sources.
Financing cash flow
Any source of cash from investors or any banks source, including use of cash given by shareholders is considered among the financing activities. In addition to this, payment for stock repurchase, payment of dividends, and any repayment of loans are included in this financing activity of the firm.
How Cash Flow Statement is Generated?
The main source of revenue and expenditure is operating activities, and therefore, it is essential to declare the cash flow from the above-said sources. However, this cash flow reporting can be done in two ways that are via the direct method and the indirect method. The details of the methods are given in the following part of the article.
Direct Method of Calculating Statement of Cash Flow:
In this method, the heads of both cash inflow and outflow should be considered. It includes employee benefits, expenses paid, trade receivables, and others. Some ways of calculating the statement is illustrated below.
- Cash receipts received from customers – This is calculated by adding Revenue from operations with trade receivables in the beginning and subtracting it from the trade received at the end.
- Cash payment given to suppliers – Here, the purchases and trade payable at the beginning are added and the sum is subtracted from the trade paid at the end.
- Different purchases – In this, the cost of revenue from operations are subtracted from opening inventory. The result is then added with the closing inventory.
- Cash expenses of the firm – Here, the expenses on an accrual basis are added with prepaid expenses made at the beginning, including outstanding expenses. This is subtracted from the prepaid expense, including outstanding expense in the initial stage of the business.
Indirect method of calculating statement of cash flow
This calculation is done from operating activities of the firm, and it includes the amount of both net profit and loss of the firm. The profit and loss statement would incorporate the effects of enterprise activities. The profit and loss statement is prepared on accrual basis without the cash basis. In addition to this, it includes the non-operating items of the firm like profit and loss on the sale of fixed assets, interest paid, and others. However, some non-cash items are also included, such as goodwill, depreciation of the firm, and others. So, when using this indirect method of calculating statement of cash flow, it is necessary to include the amount of profit or loss of the firm.
What is the importance of creating a cash flow statement?
- The statement provides an important idea about the solvency and liquidity of the company. These are the main factors of survival for organizations growth.
- Analysts can use this statement to analyze the past picture of cash flow and helps to know about the chances of future cash flow.
- With cash flow, it becomes easy to highlight the priorities of the firm and know about possible changes in the financial condition of the firm.
- By going through a cash flow statement, you can know about the earnings of the company during a specific period of time.
Wrapping it up
The cash flow statement gives a clear picture of the strength and profitability of the firm. In addition, it also helps to know about the future outlook of the company. Also, the statement helps to know whether the firm has enough cash to clear pending expenses. Since cash is the crux of any firm, the statement of cash flow is perfect to know about the cash condition. Investors look after the cash flow statement of the company to grasp a better insight into the financial condition of the firm.