Question

For the company you chose to post on in Topic 2, return to the financial statement and study the statement of cash flows. How does the cash from operating activities differ from the income from operations on the income statement? What are the major sources for this difference? Which would you find more valuable in deciding whether to invest in the company or not and why? ( I choose Ford Motor) http://s22.q4cdn.com/857684434/files/doc_financials/2017/annual/Final-Annual-Report-2017.pdf

Answer 1

How does the cash from operating activities differ from the income from operations on the income statement?

In general accounting transactions may be recorded in in ways i.e Cash basis and accrual basis. In cash basis of accounting system only cash transactions are recorded and non cash transactions are ignored. And in accrual basis of accounting system all relevant cash and non cash both type of transactions will be recorded.

Just like that in Cash flow statement the in flow and out flow of cahs into and out of the business is recorded. Cash from operating activites under the Cash flow statment records the transactions of business operations i.e cash inflow from, sale of goods from cash, cash received from debtors, cash recovered from bad debts, cash out flow to, purchase of goos or raw material for cash, payment made to creditors, expenses paid in cash relating to operating actiivties.

But in Income statment, whether the cash received or not is irrelavent, if it is accurred it shall be recorded, and whether the cash paid or not is irrelavent, if it is incurred it shall be recorded. At the same time accrual concept mandates to record the future loss in this period and not to record the future income untill it is received.

Some examples for difference in cash from operating activities and income from operations:

1)sales both credit and cash:- in cash from operating activities only Cash sales will be recorded where as in Income from operations both cash and credit shall be recorde, at cash part under cash and credit part under Debtors. This is mixed transaction

2) Depreciation: It is completely non cash item. So, it is recorded only in Income from operations and it is irrelavenet and not recorded in cash from operating activities.

This is how cash from operating activities differ from the income from operations on the income statement.

What are the major sources for this difference? Which would you find more valuable in deciding whether to invest in the company or not and why?

Major source of this difference is the recognising only cash items and omitting non cash items in cash from operating activities and recgonising both cash and credit items in income from operating activities.

In case of amout paid to outstanding expenses, cash flow recognises the transaction only at the time of payment but in income from operating activities , the expense is regonised as and when the transaction was taken place but as a current liability, and at the time of payment it is written off. It is one of the example for major source for difference in Cash from operating activities and income form operating activities.

Income from operation is more valuble while deciding whether to invest or not than cash form operating activities. Because, Income from operation gives information about both cash and non cash significant fianancial data, which is not availble in cash form opetrating activities. And future unaspected looses are recognised in Income from operations which follows Accrual concept and keeps the business attentive form future losses in current period. But it is not possible in Cash from operating activites.

In FS 5 of Ford, Consolidated statment of cash flows, Depreciation is added back to the net income,as it is a non cash item. And at the same time increase or decrease in account receivables and account paayable are also adjusted accordingly ad they are also non cash items. And at last Net Cash provided or used is calculated in the Consolidated statment of cash flows.

The company sales it cars and parts for both credit and cash. so there will be changes in account receivables which is adjusted in Cash from opearating activities but it is not needed in Revenues under Income statment in page no: FS-14

( DATA FROM " FORD MOTOR COMPANY AND SUBSIDIARIES NOTES TO THE FINANCIAL STATEMENTS ")

So we find more valuble information in income from operations to decide whether invest or not which is a significant decision.

Note: Significant decision means the decission which effects the financial decission of a investor or stakeholders