Question

Please describe what the Statement of Cash Flow is for and the 3 components of it. Describe in detail each of the 3 components. And finally, describe what the difference is between the direct and indirect method of constructing the Statement of Cash Flow.

Answer 1

Statement of Cash Flow

It is the part of the financial statement of an entity that shows the movement of cash in and out of the entity.
Purpose- To know how various components of cash flows affect the financial position of an entity.

Components of Cash Flow Statement

1) Operating Activities-
It shows how the cash flow position of an entity is affected due to normal operating activities of an entity. Such as Payment to suppliers, collection from customers, and so on.

2) Investing Activities-
It shows how the cash flow position of an entity is affected due to capital expenditures and sale of long-term assets of an entity. Such as, Purchase/sale of fixed assets.

3) Financing Activities-
It shows how the cash flow position of an entity is affected due to long-term borrowings and change in equity of an entity. Such as- Long-term borrowings from bank, issue of common stock, etc.

Methods of Cash Flow Statement

1) Direct Method
Under this method, the cash flow from operating activities is arrived by computing the cash profits from the normal operations and ignoring the non-cash items such as depreciation.

2) Indirect Method
Under this method, the net profit from Income Statement is taken as base. Then, it is adjusted for all non-cash items and finally arriving at the cash flow from operations. It is a reverse way of calculating the cash flow from operations.