Question

explain the purpose of the cash flow statement

Answer 1

• Cash flow statement is prepared to show the movement of cash and cash equivalents in terms of its sources and application over the reporting period.
• Cash flow statement presents the movement of cash and cash equivalents classified into 3 activities:

1. Cash flow from operating activities: It shows cash flows from principal business activities of a firm. i.e. it shows the cash generated from the supply of goods and services. A high operating cash flow implies that the firm is able to meet its operating expenses including taxes and interest without resorting to raising additional debts or selling assets or issuing debt or equity.
2. Cash flow from investing activities: It shows cash flows related to the acquisition and disposal of long-term assets and other investments. A negative cash flow from investing activities due to the purchase of a capital asset can significantly add to the growth potential of the company. The capital asset can be used to enhance the level of future operations.
3. Cash flow from financing activities: It shows cash flow that results in changes in equity, borrowings, payment of dividends, etc. It shows the cash flow between the firm and investors.

• Since it shows the sources (from where cash is generated) and the uses (where cash spent), it is useful for understanding the liquidity and long-term solvency of a firm.