Question

“The ordering of the three sections of the statement of cash flows is ‘backwards’ for start-up firms, but it is more appropriate for businesses once they are up and running.” Explain.

Answer 1

What is Cash flow statement-

A cash flow statement is a financial report that describes the sources of cash of a company and how that cash is spent over a reasonable time period. It enhances a company's ability to pay its bills. Because managing cash flow is very important, especially for small businesses.

How to Work-

A cash flow statement is similar to an income statement in that it records a company's performance over a period. The income statement also takes into account certain non-cash accounting items such as depreciation. And the cash flow statement does away with all this and shows how much real money the company has made. Cash flow statements describe how companies have managed cash flows. It provides the company's ability to pay creditors and a spurt in finance development.

Statement of cash flows is ‘backward’ for start-up firms-

It has been shown by a company to be profitable according to accounting standards when there is not enough cash on hand to pay bills. Known as the "operating cash flow ratio" refers to the company's ability to service its debt and interest payments, compared to cash generated for outstanding debt.

The cash flow statement is divided into segments by these three functional areas in business:

Cash from financing-

At its inception of a company, a person or group of people comes up with an idea for that new company. Initially, the money put into the company by the owners is classified as a financing activity. And any item that is classified on the balance sheet as a long-term liability will be a candidate for classification as a financing activity.

Cash from investment-

Business managers invest initial money to buy equipment or other assets that they need to run the business. The purchase of property, plant, equipment, and other productive assets is classified as an investment activity. Sometimes a company has enough cash of its own that it can give money to another enterprise. It is also classified as an investment activity.

Cash from operations-

When the company starts doing business. And purchase the equipment and other assets necessary to operate it. When it starts selling goods or services and paying for taxes and other costs of doing business. Therefore, the company is set up to perform all those cash flow related activities, it is classified as an operational activity.