Using a divide-and-conquer technique, it may be possible to determine a cash flow statement from knowing a beginning balance sheet, an ending balance sheet, a change in equity statement, and a detailed income statement. Even if there is not enough detail to calculate exactly, it helps to correlate that the statements are consistent.
The first division is to divide cash flow into operating, investing and financing activities. Cash flow from :-
- operating activities - this can be seen by calculating changes in the current assets and current liabilities, and from operating income and expenses in the income statement. Payment of interest on borrowings is regarded as an operating activity, as interest is a current liability arising out of a non-current liability.
- investing activities - these deal with changes in non-current assets , such as property and equipment, and investment of cash , such as shares, foreign currency, government bonds - and return on investment such as dividends from invested other entities and gains from sale of non-current assets , which can be seen in the investing income part of the income statement.
- financing activities - cash may be generated from creation of company shares, and used in buybacks of company shares, payment of dividends on company shares, borrowing cash, and repayment of cash, and these can be seen in changes in non-current liabilities, and in changes in equity in the change-in-equity statement. e.g. Repayment of a long-term debt from retained profits is a outgoing cashflow; dividends is a form of drawings and is a equity distribution cash flow; issuing discounts is regarded as a finance expense, but there is no cash flow.
Why separate current and non-current, and separate non-current asset cash flow from non-current liability cash flow ? Separating current from non-current helps to see if there is enough easily accessible cash for day-to-day operations : separating long-term assets from long-term liabilities may help to predict longer term cash flow problems. However, cash flow statements are more useful when seen in the entire series: for instance, the first cash flow statement of the company may show a large incoming cash flow from borrowing in the financial section; then subsequent cash flow statements show the company purchasing non-current assets with outgoing cash flow; not knowing about the first borrowing cash flow makes the company look good.
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