Cash Flow

Topics: Cash flow statement, Cash flow, Generally Accepted Accounting Principles Pages: 5 (624 words) Published: January 21, 2014
Statement of Cash Flow (Cash Flow Statement) describes the changes in the cash position of a company during specific period of time. In business as in personal finance, cash flows are essential to solvency. Solvency can be described as the degree to which the current assets of an individual or entity exceed the current liabilities of that individual or entity. Cash flow is crucial to an entity's survival. Having ample cash on hand will ensure that creditors, employees and others can be paid on time. If a business or person does not have enough cash to support its operations, it is said to be insolvent, and a likely candidate for bankruptcy should the insolvency continue.

Basic Structure of Statement of Cash Flows
A. Operating
B. Investing
C. Financing

The indirect method (or reconciliation method) depicts net income as starting entry. It converts the net cash flow from operating activities. In other words, the indirect method adjusts net income for items that affected reported net income but did not affect cash. To compute net cash flow from operating activities, non-cash charges in the income statement are added back to net income and non-cash credits are deducted.

1. Prepare a cash flow statement using the indirect method of computing for cash flow from operations. Starlight Company
Statement of Cash Flows
For the year ended December 31, xxxx

Operating Activities

Net Income

Adjusments to reconcile net income to net cash

Increase in Accounts Receivable

Increase in Inventory

Decrease in Prepaid Expenses

Increase in Accounts Payable

Decrease in Accrued Liabilities

Decrease in taxes payable

Increase in Deferred Taxes


Net cash provided by operating activities


Investing Activities

Additions to Plant and Equipment

Decrease in Investments

Net cash provided bu investing activities


Financing Activities

Increase in Mortgage Payable

Dividends payment

Increase in Common Stock

Net cash provided by financing activities


Net increase in cash (net cash flow)

Cash, beginning balance

Cash, ending balance


2. Conduct a cash flow analysis
As shown in the Statement of Cash Flow by the Starlight Company, the company has the net cash of 1,000,000.00, a positive value. Pairing that information to that of income statement’s total sales we can able to generate operating cash flow over net sales ratio (which is 4.35%). The said ratio tells us how many dollars of cash we get for every dollar of sales. In the case, there has been a declaration and payment of dividends amounting 18 Million cash. Such distribution of gain, in general, was of the same category as capital expenditures and was treated as necessary cash outlays.

Investors generally would like to see that the company can pay for the investing figure out of operations without having to rely on outside financing to do so. A company's ability to pay for its own operations and growth signals to investors that it has very strong fundamentals.

3. Discuss whether or not depreciation is a source of cash.
Depreciation is not directly a source of cash. This is because depreciation is a form of deduction, designed to account for the routine wear and tear or obsolescence of certain kinds of property. It is also important to take note that the positive amount of depreciation that can be reflected in cash flows depicts adjustment which the net income amount that had been reduced by depreciation expense on the income statement. The said adjustment is needed to convert the accrual net income to cash.

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