Statement of Cash Flows

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Meaning and definition of Statement of Cash Flows

The statement of cash flows can be explained as one of the financial reports which are required to be disclosed according to  IFRS and US GAAP. This document provides summative data regarding all inflows of cash received by a company from its ongoing operations as well as external investment sources. Besides, cash outflows paying for business activities as well as investments during a specific period are also included in the statement of cash flows.

As explained by Investopedia, the statement of cash flows is a financial statement which shows how cash and cash equivalents are affected by changes in balance sheet accounts and financing activities. Moreover, the statement captures current operating results as well as associated changes in the balance sheet.

The main groups of people interested in statement of cash flows include:

  • Accounting personnel, who are interested in information about whether the organization will be capable of covering payroll and other immediate expenses.
  • Potential creditors or lenders, who want to have a clear picture of a company’s repaying ability.
  • Potential investors, who want to judge the financial soundness of the company.
  • Potential contractors or employees, who need to know about the capability of company to afford compensation.
  • Business’ shareholders.

How is Statement of Cash Flows prepared?

Generally, two approaches are used to prepare the statement of cash flows – direct and indirect method. Of both these methods, the direct method results in a more easily understandable report unlike indirect method which is used universally for FAS 95 asks for a supplementary report similar to the indirect method if a company presents a report prepared through direct method.

Direct Method

The direct method for preparing statement of cash flows emphasizes on reporting major classes of gross cash receipts and payments. As per IAS 7 dividends received can be reported under investing activities or under operating activities.

Indirect Method

The indirect approach of preparing statement of cash flows focuses on using net income as a commencing point, making adjustments for all transactions for non-cash items, and then adjusting from all cash-based transactions. An increase in an asset account is deducted from net income, and an increase in a liability account is added back to the net income. This method, therefore, converts accrual-basis net income into cha flows through the use of a series of additions and subtractions. 

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