Cash flow refers to the inflow and outflow of cash. Cash inflows and outflows occur through various activities of a business organization. In business, cash outflow occurs through purchase of goods and cash inflow occurs through sale of goods. Cash flow is directly related to the purchases and sales of an organization. Fixed assets like furniture, machinery, spare parts etc. are purchased by the organization’s administration for smooth operation. Sometimes old property needs to be sold. The cash flow involved in the purchase and sale of fixed assets is called investing cash flow.
A business organization raises capital from various sources; Like shares, bonds etc. In addition to raising capital, shareholders are required to pay dividends as a reward for their capital. Cash flows involved in long-term fund raising and debt repayment activities are called financing cash flows.
i) Decrease in Accounts Receivable: A decrease in Accounts Receivable means that the amount has been collected from Accounts Receivable. That’s why it’s cash inflow.
ii) Increase in Accounts Receivable: Increase in accounts receivable means that the company has sold more than the amount of money it has collected from accounts receivable. As a result, accounts receivable will increase and cash receipts will be less than sales. This is cash out flow.
iii) Decrease in Accounts Payable: Accounts payable due to purchase of goods or raw materials from suppliers. A decrease in accounts payable means that the company has paid its suppliers. Hence it is a cash out flow.
iv) Increase in Accounts Payable: Accounts Payable increases when the company purchases goods in excess of the amount it has paid its suppliers for what they owe. As accounts payable increases, cash payments decrease. That’s why it’s cash inflow.
v) Reduction of Interest Payable: Reduction of interest payable means that interest due from the previous year has been paid with interest in the current year. For this it is cash out flow.
vi) Increase in Interest Payable: Interest payable increases when less amount of money is paid in interest than the interest expense shown in the income statement. That amount
vii) Issue of Shares, Debentures: The company collects long-term funds through the issue of these financial securities. Hence it is cash inflow.
Classification of Cash Flow
Cash flow statement is divided into three segments.
- Cash Flows from Operating Activities
- Cash Flows from Investing Activities
- Cash Flows from Financing Activities
Necessary Information for Cash Flow Statement
a) Comparative Statement of Financial Position
b) Current Income Statement
c) Additional Information
Methods of Preparation of Cash Flow Statement
There are 2 methods of preparation of cash flow statement
- Direct Method
- Indirect Method
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