Question

"The Statement of Cash Flow is more important than the Income Statement and the Balance Sheet."  Do you agree or disagree? Please state your opinion and explain your position by giving specific examples.

Answer 1

Yes; I agree with the statement.

Statement of cash flow consists of three activities – operating, investing, and financing. Operating activity indicates cash provided or used in the company’s main business – like the activity of making products and selling it to the market. Investing activity indicates cash provided or used in company’s investments – like sale or purchase of fixed assets. Financing activity indicates cash provided or used to finance the business – like the activity of issuing shares, redemption of debentures, etc.

Individual assessment or evaluation could be done through this statement, since all sorts of monetary acts are considered here – suppose in which activity of the business money is being used more.

This type of close monitoring can’t be possible through the income statement and the balance sheet. These give aggregate picture – suppose, the income statement gives the amount of profit that may be high but balance sheet gives cash balance that is very low; proper reconciliation is required for finding this issue, which may be done through the statement of cash flow.

Example: Net income and depreciation (from the income statement) of a business are $10,000 and $500 respectively; increase in current asset is $3,000 and increase in current liability is $1,000 (both from the balance sheet). Once we get these we can now prepare the statement of cash flow as below:

Statement of cash flow

Net income		$10,000
Add: adjustment for depreciation		$500
Operating profit before working capital changes		$10,500
Adjustment for working capital:
Increase in current assets	-$3,000
Increase in current liabilities	$1,000
Total changes		-$2,000
Net cash provided by operating activity		$8,500

  

Although there is a profit of $10,000 the actual cash the company gets till now is $8,500. The evaluation of net income becomes more authentic.