Question

• This week, we learned how to prepare a statement of cash flows from information on the balance sheet and income statement. If this is possible, why are managers required to provide a statement of cash flows? Also, how is the statement of cash flows linked to each of the other financial statements (income statement and balance sheet). How are the other financial statements linked with each other?
• A company president remarked, “The operations of our company are such that we can take advantage of only a minor amount of financial leverage.” Explain the likely reasoning the company president had in mind to support this statement.

Answer 1

Although the information required to prepare the statement of cash flows is taken from the income statement and balance sheet, the managers need to prepare the cash flows to give a clear understanding of the activities which has resulted in the cash flow. It divides the activities into operating , investing and financing and tells which activity has led to maximum cash inflow and outflow. What are the unnecessary activities. It also helps in comparison with previous years regarding increase or decrease in activities.

The income statement is linked to financial statements as the net profit calculated in income statement goes to balance sheet as shareholders' fund. The depreciation on fixed assets appearing in the balance sheet goes to income statement. The shows income statement shows the financial performance and the balance sheet shows the financial position.

The likely reasoning , the manager had in mind to support this statement might be that the company has lesser proportion of debt in its financial structure.