Discuss the concepts underlying the statement of cash flows
1 . The statement of cash flows explains the reasons for the change in cash and cash equivalents during a period. This statement classifies the reasons as relating to operating or investing or financing decisions.
2 . Revenues from sales of goods or services to customers during a particular period do not
necessarily equal cash received from customers during the same period. The receipt of cash can precede, coincide with, or follow the recognition of revenue. Expenses incurred to generate revenues during a particular period do not necessarily equal cash expended for the goods and services consumed in operations during the same period. The expenditure of cash can precede, coincide with, or follow the recognition of expenses. Thus, net income for a particular period will likely differ from cash flow from operations for the same period.
3 . Firms typically report cash flows from operations using the indirect method. The indirect
method starts with net income, then adds any expense amount that does not use cash, and subtracts any revenue amount that does not provide cash. The adjustments to convert net income to cash flow from operations generally involve (1) adding the amount by which an expense exceeds the related cash expenditure for the period (for depreciation, adding the entire amount as there was no cash expenditure in the current period), (2) subtracting (in rare cases, adding) the amount by which a revenue exceeds (or is less than) the related cash receipt for the period (such as equity method earnings exceeding [or being less than] dividends), (3) adding credit changes in operating non-cash working capital accounts, such as accounts receivable, inventories, and accounts payable, and (4) subtracting debit changes in operating working capital accounts.
4 . Cash flow from investing activities includes cash purchases and cash sales of marketable
securities; property, plant, and equipment; intangibles; and investments in securities.
5 . Cash flow from financing activities includes cash issues and cash redemptions of long-
term borrowings, cash sales and cash repurchases of common and preferred shares, and
cash dividends.
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