Crash Course in Accounting and Financial Statement Analysis, Second Edition

Summary

The income statement, by virtue of employing the accrual method of accounting, has by definition the limitation of not being able to show exactly what is happening to a company’s cash flows for that specific accounting period. Accordingly, the cash flow statement has been created for the purpose of being able to trace the company’s cash flows and their sources/uses.

The Cash Flow from Operating Activities section tracks cash generated in the course of a company’s day-to-day operations:

• Under the indirect method, used by most companies, adjustments are made to reconcile net income to cash flows from operations.

• Decreases in assets and increases in liabilities and shareholders’ equity have a positive cash flow impact.

• Increases in assets and decreases in liabilities and shareholders’ equity have a negative cash flow impact.

The Cash Flow from Investing Activities section tracks additions and reductions to fixed assets and monetary investments.

The Cash Flow from Financing Activities section tracks changes in the company’s sources of debt and equity financing.

The change in cash reflected on the cash flow statement must always equal the change in cash reported on the balance sheet between two periods.