Chartered Accountancy ? IPCC/PCC/FINAL
Analysis of cash flow statement (CFS)
The cash flow statement is a mandatory part of a company's financial reports since 1987 in India, It records the amounts of cash and cash equivalents coming in and going out of a company. Cash Flow Statement only take into account actual funds moving in and out of a company on the other hand income statement also takes into account some non-cash accounting items such as depreciation.
Cash and cash equivalent includes cash in hand, cash at bank and demand deposits with bank, short term and highly liquid investments taking insignificant risk of changes in value, in consideration.
Significance and Importance:
CFS measures liquidity of a company by providing better picture to the investors on ability of company to pay off bills, creditors and other liabilities. In fact, a company can be profitable and yet run out of money. Liquidity problem may result in financial difficulty and potential lead into insolvency. CFS also helps investors to get answers to the questions, "Where did the money come from?" and "Where did it go?"
The chance of manipulations in the Cash flow statement is rare, as either company don't have the cash or have it, cash flow statement tell investors the whole story.
Positive cash flow tells investors that the company is able to generate enough cash from operations to fund the business growth without the need for additional financing. A negative cash flow would tell that the company had to obtain cash from other sources such as financing from bank or sell investment or properties, fixed assets to raise cash to meet the day-to-day operations of the company.
Structure of the CFS:
Accounting standard-3 provided a structure of the CFS to be followed by every company in India. Cash flow should be bifurcated in the three types of activities affecting the cash inflow and outflow of the company. These activities are defined as core operation activity, investing activity and financing activity.
The cash inflows and outflows caused by core business operations, the operations component of cash flow reflects how much cash is generated from a company's products or services. In this step of making cash flow statement, we are required to calculate cash from operations. Generally, changes made in cash, accounts receivable, depreciation, inventory and accounts payable are reflected in cash from operations. There are two methods to prepare it, Direct and Indirect.
EXAMPLE OF OPERATING CASH FLOW
From sale of goods or services ?
From returns on loan interest received ?
From returns on dividends received on equity securities
Cash Outflow: ? ?
To suppliers for inventory ?
To employees for services ?
To government for taxes ?
To lenders for interest ?
To others for expenses
NET CASH PROVIDED/(USED) BY OPERATING ACTIVITIES
Net cash provided by investing activities also known as Total Investing Cash Flow it's the sum of the sales of property, plant and equipment; purchases of property, plant and equipment; sale of short-term investment; purchase of short-term investment and other investing activities.
EXAMPLE OF INVESTING CASH FLOW
Cash Inflow: ? ?
From sale of property, plant, and equipment
From sale of debt or equity securities of other entities
From collection of principal on loans to other entities
To purchase property, plant, and equipment
To purchase debt or equity securities of other entities ?
To make loan to other entities
NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES
This activity describes the inflow/outflow of cash associated with outside financing activities. Typical sources of cash inflow would be cash raised by selling stock and bonds or by bank borrowings. Likewise, paying back a bank loan would show up as a use of cash flow, as would dividend payments and common stock repurchases. Net cash provided by financing activities also known as Total Financing Cash Flow.
EXAMPLE OF FINANCING CASH FLOW
Cash Inflow: ? ?
From sale of equity securities (company's own stock)
From issuance of debt (bonds and notes)
Cash Outflow: ? ?
To stockholders as dividends ?
To redeem long-term debt or reacquire capital stock
NET CASH PROVIDED (USED) BY FINANCING ACTIVITIES
Foreign Currency Cash Flows:
Cash flows arising in foreign currency should be recorded in enterprise? reporting currency applying the exchange conversion rate existing on the date of cash flow.
The effect of changes in exchange rates of cash and cash equivalents held in foreign currency should be reported as separate part of the reconciliation of the changes in cash and cash equivalents during the period.
These items should be separately shown under respective heads of cash from operating, investing and financing activities.
Ideally, investors would like to see that the company can pay for the investing figure out of operations without having to rely on outside financing to do so. A company's ability to pay for its own operations and growth signals to investors that it has very strong fundamentals.
An article by CA. Dashrath Maheshwari
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