6. Why is the statement of cash flows an important source of information?
Net profit or loss is one measure of a company’s financial performance. However, creditors and investors are also keenly interested in how much cash a business generates and how it is used. The statement of cash flows, a summary of the money flowing into and out of a firm, is the financial statement used to assess the sources and uses of cash during a certain period, typically one year. All publicly traded firms must include a statement of cash flows in their financial reports to shareholders. The statement of cash flows tracks the firm’s cash receipts and cash payments. It gives financial managers and analysts a way to identify cash flow problems and assess the firm’s financial viability.
Using income statement and balance sheet data, the statement of cash flows divides the firm’s cash flows into three groups:
- Cash flow from operating activities: Those related to the production of the firm’s goods or services
- Cash flow from investment activities: Those related to the purchase and sale of fixed assets
- Cash flow from financing activities: Those related to debt and equity financing
Delicious Desserts’ statement of cash flows for 2018 is presented in Table 14.3. It shows that the company’s cash and marketable securities have increased over the last year. And during the year the company generated enough cash flow to increase inventory and fixed assets and to reduce accounts payable, accruals, notes payable, and long-term debt.
|Statement of Cash Flows for Delicious Desserts
|Delicious Desserts, Inc.
|Statement of Cash Flows for 2018
|Cash Flow from Operating Activities
|Net profit after taxes
|Decrease in accounts receivable
|Increase in inventory
|Decrease in accounts payable
|Decrease in accruals
|Cash provided by operating activities
|Cash Flow from Investment Activities
|Increase in gross fixed assets
|Cash used in investment activities
|Cash Flow from Financing Activities
|Decrease in notes payable
|Decrease in long-term debt
|Cash used by financing activities
|Net increase in cash and marketable securities
- What is the purpose of the statement of cash flows?
- Why has cash flow become such an important measure of a firm’s financial condition?
- What situations can you cite from the chapter that support your answer?