Question

What goals are attempted to be accomplished by the presentation of the cash flow statement to investors?

Discuss how the format of the Cash flow statement may have contributed towards meeting its objectives.

Answer 1

Overview:Cash flow statement is a statement that depicts the inflow and outflow of cash and cash equivalents for a particular period and it is divided into the following heads:

• Cash flow from operating activities
• Cash flow from investing activities
• Cash flow from financing activities

- The following goals are attempted to be accomplished by the presentation of the cash flow statement to investors:

• It depicts the ability of an organization to pay dividend to its investors.
• It discloses the amount of investment made in positive NPV projects and gives the investors a fair idea of where their money is being invested further.
• It discloses the amount used in payment of interest of loan, premium on redemption of debentures, etc. and an investor can have a fair idea after looking at this statement whether the company is able to meet its financial obligations.
• It helps in comparison of many items of the current year with their respective counterparts of last year. Thus, the investors can have a fair idea as to what progress is being made by the company.
• It divides the allocation of funds sourced and used by an entity into three major heads, thus an investor can have a fair idea of where did the company make most of its cash from and where did the company use all of its cash. Ideally, a company should generate most of its cash from operating activities (because cash raised from financing activities has to be returned in future always) and should use most of its funds in investing activities.
• It helps an investor in having a thorough understanding of non-cash items such as depreciation.
• It depicts the loss of cash due to managerial inefficiency and helps investors remain informed of such instances.

- The format of the Cash flow statement can contribute towards meeting its objectives in the following manner:

• It can help the management in making a cash forecast for the near future by providing a clear picture of the cash position today because cash is the foundation for all operations. Without cash, the operation cycle of any entity can never start.
• It can help us appraise the results of our previous cash planning. To what measure was the cash planning successful is divulged by the period end Cash Flow Statement. The deviations can be studied and improvised for the future.

• Cash Flow Statement can aid the management in determining the liquidity and profitability position of a business.

• Cash Flow Statement of an organisation can help us understand how efficiently the firm is meeting its obligations.
• Cash Flow Statement depicts the flows in and flows out of cash for various purposes, across various heads. On the basis of this information, future estimation can be done.
• SincIt helps management in taking capital budgeting related decisions. Capital budgeting is always a long-term decision. Matching of cash flow timing and the timing of capital expenditure is very important for this purpose.