Q.What is meant by 'Cash Flow Statement' ?
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Start your 14-day free trial to unlock the full solution →A Cash Flow Statement is a financial statement that reports the actual inflows and outflows of cash and cash equivalents during an accounting period, classified into Operating, Investing, and Financing activities.
Concept and Meaning
A Cash Flow Statement is one of the three principal financial statements prepared by a business, alongside the Balance Sheet and the Statement of Profit and Loss. While the Profit and Loss Account shows whether the business made a profit (using accrual accounting), it does not tell us how much cash actually moved in or out. A company can be profitable on paper yet face a liquidity crisis if cash is tied up in debtors or inventory. The Cash Flow Statement bridges this gap.
The statement answers a fundamental question: Where did the cash come from, and where did it go? It tracks every rupee of cash received and paid during the year, ignoring non-cash items like depreciation or provisions. The focus is strictly on cash and cash equivalents—currency, bank balances, and short-term highly liquid investments (typically maturing within three months).
Structure and Classification
The Cash Flow Statement organizes cash flows into three distinct activities:
1. Operating Activities
These are cash flows from the principal revenue-generating activities of the business—the day-to-day operations. Cash received from customers, cash paid to suppliers and employees, cash paid for operating expenses, and income tax paid all fall here. This section reveals whether the core business is generating or consuming cash. A healthy business typically shows positive cash flow from operations.
2. Investing Activities
These relate to the acquisition and disposal of long-term assets and investments not included in cash equivalents. Purchase or sale of fixed assets (plant, machinery, land), purchase or sale of long-term investments, and loans given to or recovered from others are classified here. Investing activities usually show a net outflow in a growing business (capital expenditure exceeds asset sales).
3. Financing Activities
These are cash flows that result in changes in the size and composition of the owner's capital and borrowings. Issue of shares or debentures, repayment of loans, payment of dividends, and interest paid on borrowings appear in this section. It shows how the business is funded and how it returns cash to investors and creditors.
The net change in cash from these three activities, when added to the opening cash balance, gives the closing cash and cash equivalents—which must reconcile with the Balance Sheet figure.
Methods of Preparation
There are two methods to prepare the Operating Activities section:
- Direct Method: Reports major classes of gross cash receipts and payments (cash from customers, cash to suppliers, cash for expenses). Straightforward but requires detailed cash records.
- Indirect Method: Starts with net profit and adjusts it for non-cash items (depreciation, provisions) and changes in working capital (debtors, creditors, inventory) to arrive at cash from operations. More commonly used because it ties directly to the Profit and Loss Account.
Investing and Financing activities are always reported using the direct method—actual cash transactions. …
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