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Financial Accounting: In an Economic Context by Jamie Pratt

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HOW THE STATEMENT OF CASH FLOWS CAN BE USED

The statement of cash flows is used primarily to assess performance in two basic areas: (1) a company's ability to generate cash and (2) the effectiveness of a company's cash management. The ability to generate cash is determined by the strength of the company's operating activities as well as its financial flexibility, which reflects the company's capacity to borrow, issue equity, and sell nonoperating assets (e.g., investments). During 2009, for example, the drugstore chain Walgreens generated $4.1 billion through its operating activities, which was sufficient to finance $2.8 billion of additional investments, repurchase $279 million of its own stock, pay a $446 million dividend, and maintain its cash balance. On the other hand, the national retailer Saks needed to raise over $156 million in financing to fund its investments of $123 million because cash from operations was a negative $1.5 million.

Effective cash management requires that two competing objectives be balanced. On one hand, cash must be available to meet debts as they come due. That is, solvency must be maintained. On the other hand, cash must be invested in productive assets that provide returns. Sources of cash include the sale of inventories and services, borrowings, equity issuances, and the selling of long-term assets. Uses of cash include purchasing and manufacturing inventories, covering selling and administrative costs, making debt interest and principal payments, ...

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