Question

72. What is the formula for the cash flow statement and briefly describe each component.

Answer 1

The statement of cash flows, or the cash flow statement, is a summary of a financial statement which has the details of the amount of cash and cash equivalents entering and leaving a company.

It measures how well a company manages its cash position, chash generation of a company to pay its debt obligations and fund its operating expenses. The cash flow statement complements the balance sheet and income statement and is a mandatory part of a company's financial reports since 1987.

Cash Flow from Operations Formula (Direct Method) = Cash Receipts – Cash Payments – Cash Expenses – Cash Interest – Cash Taxes

Calculating Cash flow from Operations using direct method includes determining all types of cash transactions including cash receipts, cash payments, cash expenses, cash interest and taxes.

Steps to calculate cash flow from operations using direct method is given below –

A) Cash Receipt: Represents the actual amount of cash received during the period

B) Cash Payment: Represents the actual amount of cash payments to the suppliers

C) Cash expenses may include selling, administration, R&D and changes in other operating liabilities

D) Cash interest only recognizes interest expense paid in cash

E) Cash Tax: Represents only taxes paid in cash

Calculating Cash Flow from Operations using Indirect Method

Calculation of Cash flow from operations using indirect method starts with the Net income and adjust it as per the changes in the balance sheet.

Steps to calculate cash flow from operations using indirect method is given below

Step 1:

• Start with Net Income

Step 2:

• Subtract: Identify gains or losses that result from financing and investments (like gains from sale of land)

Step 3:

• Add: Non-cash charges to income (such as depreciation and goodwill amortization) and subtract all non-cash revenue components

Step 4:

• Add or subtract changes to operating accounts
• Operating Assets: Increase in the balances of operating assets is subtracted while decrease in those accounts is added
• Operating Liabilities: Increases in the balances of operating liability accounts are added, while decreases are subtracted

Cash Flow from Operations Formula (Indirect method) = Net Income + Gains & Losses from financing & investments + Non-cash charges + changes in operating accounts