Why Statement of Cash Flow is Important - bitaccounting

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Why Statement of Cash Flow is Important: Understanding Cash Flow Statement

A statement is one cashflow that can track the cash inflows and outflows, therefore, providing detailed insights about a businesses financial health and operations.

How cash flow is calculated

A cash flow statement can predict a business’s cash position; this tells how efficiently a company can produce cash for paying its debts and managing funds for operation activities. A cash flow is part of one of the three main financial statements, and it supports the balance sheet and income statement. In this piece of information, you will find out how a cash flow statement is organized and formulated and how you can utilize it to assess a business.

Understanding Cash Flow Income Statement

A cash flow statement depicts how a company can manage operations and where the money is coming from that is being spent. A statement of cash flow can also help the creditors in finding out how much cash is available for the company for better managing its operational expenses and paying its debts.

Importance of a cash flow

The CFS helps a firm’s investors in finding out whether a company has a solid finances or not. Therefore the investors can use these statements to make accurate and better decisions regarding their investments.

Formation of a Cash Flow Financial Statement

A CFS incorporates three main parts, which are explained below:

  • Cash flow from investing proceedings
  • Cash flow from financing activities
  • Cash flow from operational ventures
  • declaration of non-cash activities

How to Manage Cash Flow

By understanding the following types of cash flow, you’ll know how to manage cash flow.

Types of Cash Flow

Operating Cash Flow

The operating cash flow incorporates relevant sources and utilization of cash from business operational activities. It simply tells how much cash is generated from the services and products of a business. This can include tasks like:

  • Income tax remittance
  • Interest remittance
  • rent payments
  • Salary and employee wages
  • Receipts received from the selling of business goods

Investment Cash Flow

This includes the funds a business uses from its investments. It includes the acquisition or selling of assets, loans for vendors, or payments that are linked to mergers and acquisitions. To sum up, cash flow from investments and assets is related to cash flow from investments.

Adjustments from cash flow are normally perceived as Cash-out items. This is because they are used for purchasing new equipment, marketing assets. Consequently, when a company disposes of an asset, the transaction is considered as a cash-in for processing cash from investments.

Cash Flow from finance

Cash flow from finance incorporates the cash from investors and banks as well, as this cash is paid to shareholders. This also incorporates the allowances and remittances for stock reacquiring. The reacquiring of debt principals that are created by the business.

Importance of Cash Flow

Adjustments in cash from financing are called cash-in when capital increases and are termed cash-out when allowances are paid. Therefore, if a firm provides bonds to the public, the company will also receive cash in terms of cash financing. More importantly, the interest provided to the stakeholders is the process by which a company is reducing cash. Keep in mind that interest is a cash-out expense and is recorded as an operational activity rather than a finance activity.

Steps to prepare a cash flow statement

Collecting financial statements

The first step is to collect the necessary financial statements:

This means to collect your income statement that provides the relevant information about revenues, expenses, and the total net income.

Furthermore, the balance sheet depicts a firm’s assets, liabilities, and equity at the start and ending period.

Finding out the Reporting Interval

This means to find out the period for which you are formulating the cash flow statement. This can be on a monthly, annually or quarterly basis.

Select the Method

For this, you need to decide whether you will incorporate the direct or indirect method for formulating CFS.

The direct method involves the itemization of all cash receipts and payments as well as the reporting period.

The indirect method initiates with the total net income and alters for development in non-cash transactions.

Create the Statement

Cash flow from operating activities

Direct Method

You need to itemize all the cash receipts, which include the total cash collected from your customers.

Next, you have to itemize your payments, which include the cash provided to suppliers, interest paid, employees, and the paid income tax.

Lastly, the total net cash flow from operational activities will be estimated, including the deduction of total cash payments from the cash receipts.

Indirect Method

For the indirect method, you need to start with the net income and this can be acquired from the income statement.

Adjustments for non-cash items should be made by adding back depreciation and annuity.

Changes should be made to the working capital. This can be done by changes in the accounts receivable, inventory, accounts payable and other working capital accounts.

Estimating the net cash flow from operational activities is done by combining the changed net income with changes in working capital.

CF from Investing Activities

Find out the actual cash transaction for cash flow management and investments: This includes cash spent on acquiring fixed assets, cash received from selling assets, and changes in cash from business activities like investing in securities.

Calculating actual cash flow from operations in investing activities. For this, deduct cash balance for investments in terms of cash receipts from investment sales.

Positive Cash Flow from financing activities

You need to find out the cash transactions in terms of financing. Here, the cash flow statement is received by the issuance of stocks or debt and cash collected from repaying debts or acquiring stock.

The total cash flow financing proceedings is done from deduction of cash payments for financing activities and cash lists from financing activities.

Merge all sections for cash flow management.

Now, you need to add all the net cash flow from operating, investing and financing proceedings for finding out the overall change in terms of cash equivalents, cash outflow, cash inflow, negative cash flow, positive cash flow so as to ultimately manage future cash flow.

Integrate with initial cash flow statement.

For this, you need to add the net change in the cash flow statement with the initial cash balance for reaching the initial cash balance, making sure that the cash balance is depicted on the balance sheet.

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