Team what is communicated on the face of the statement of ca

Team, what is communicated on the face of the statement of cash flows and related disclosures? Why might this be important to an investor or creditor? Brandy

Solution

General Purpose Financial Statements include
a. Balance Sheet / Posistion Statement which depicts the status of business i.e., assets and liabilities at a point of time.
b. Income Statement which shows the performance of business i.e., profit or loss for the period.

Book-keping and accounting is done on accrual basis of accounting.
Because of accrual basis, the actual cash receipts and payments cannot be traced from the general purpose financial statements.
Hence, for the better understanding of cash flow in and out of business entity, cash flow statement is being presented.
Thus, cash flow stataemnt presents movement of cash.

There are two methods of disclosure of Cash Flow Statement:
1. Direct Method
2. Indirect Method

Under direct method, cash flow statement is presented as Sources and Application of Funds during the year.
Cash inflow from every source (ledger wise) is presented under Sources.
Cash outflow for every application (ledger wise) is presented underr Applications.

Under Indirect method, cash flow statement presents the movement of cash during the year resulting from operating, investing and financing activities of the company.
In this method, profit before tax is adjusted for the effects of transactions of a non-cash nature, any deferrals or accruals of past or future operating cash receipts or payments and item of income or expenses associated with investing or financing cash flows.

Thus, details communicated on face of Cash flow statement is determined by the method under which cash flow statement is presented.
Under direct method, Sources (gross cash receipts) and Applications (gross cash payments) are presented as a whole of business for the year.
Under indirect method, cash inflows and outflows are catagorised into operating activities, investing activities and financing activities.

Associated Discclosures for cash flow statement prescribed under accounting standards are:
1. significant cash and cash equivalents held by business entity that are not available for use.
2. amount of undrawn balance in borrowing facility available for future operating activities.

Users of financial statements can understand how the enterprise generates and uses cash and cash equivalents.
A potential investor or creditor will analyse net cash flows through operations exceeds net cash flows from selling assets or borrowing money. This is because selling assets or borrowing money can never be construed as a continuing event, such as bringing in cash from selling goods or services. Thus, indirect method is most popularly used to present cash flow statement.

Uses of Cash Flow statement:
Investor: An investor wants to make sure the entity has enough cash flow to pay an adequate return on investment. In other words, investor expects getting a cash dividend. Also important is using the statement of cash flows to evaluate how well the company is managing its cash because investors may eventually sell their shares of stock. If the company mismanages its cash to such a point that it goes out of business, there won’t be any buyers for the company’s stock — the stock may be worthless.

Creditor: The creditor is interest in company\'s liquity and has sound cash management. After all, in addition to interest expenses, the creditor wants to make sure it also gets paid back the principal portion of the loan. It’s never a good sign if a business is paying back debt by assuming more debt or issuing more equity.