Statement of Cash Flows

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Cards (13)

  • The direct method reports components of cash flows from operating activities as gross receipts and gross payments.
  • The indirect method for the statement of cash flows starts with net income and eliminates non-cash items to arrive at net cash flow from operating activities.
  • Cash Flows from Investing Activities are inflows and outflows related to the acquisition or sale of PPE and investments in other companies.
  • Cash Flows from Financing Activities are inflows and outflows related to external sources of financing or the enterprise.
  • Since interest expense is reported on the income statement, the related cash flow is part of the operating section.
  • Cash = Liabilities + Equity - Non-Cash Assets
  • Creating a Statement of Cash Flows:
    1. Determine the change in each balance sheet account (End less Beginning Amount).
    2. Classify each change to the cash account it relates to.
    3. Add the change when an operating asset decreases or operating liability increases, and subtract when an operating asset increases or operating liability increases.
    4. Include the amount of cash received from the sale of assets in the investment section, regardless of whether they are sold at a gain or loss.
    5. Add debt issuance and subtract debt repayment in the financing section.
  • Free Cash Flow = Cash Flow from Operating Activities - Dividends - Capital Expenditures
  • Quality of Income Ratio = Cash Flow from Operating Activities / Net Income
  • The Quality of Income Ratio measures the proportion of income generated in cash. A high ratio indicates a greater ability to finance operating cash needs.
  • A high Quality of Income Ratio means it is less likely that the company uses aggressive revenue recognition policies to increase net income and is, therefore, less likely to experience a future earnings decline.
  • Capital Acquisition Ratio = Cash Flow from Operating Activities / Cash Paid for PPE
  • The Capital Acquisition Ratio reflects the portion of PPE purchases financed by operating activities. A high ratio indicates less need for outside financing.