Accounting Business Reporting for Decision Making

CHAPTER 7 Statement of cash flows 299

Complexity of transactions

It is difficult to compute cash inflows and cash outflows directly from an entity’s published statement

of profit or loss and balance sheet. The number and types of adjustments are beyond the scope of this

chapter, but they include transactions relating to bad debts, discounts, timing of tax and dividend pay-

ments, and the acquisition of controlled entities. Although the array of transactions can become com-

plex, it is not necessary for report users to prepare a statement of cash flows with complex scenarios.

When interpreting the statement of cash flows, what you need to remember is that it basically shows

cash received and cash paid, and that accrual adjustments have been made from the statement of profit

or loss and the balance sheet.

VALUE TO BUSINESS

•   The difficulty in manipulating the statement of cash flows increases its usefulness.

•   The evaluation of the statement of cash flows includes a general analysis, as well as the use of trend

and ratio analysis.

•   Cash-based ratios include the cash adequacy ratio, the cash flow ratio, the debt coverage ratio, the

cash flow to sales ratio, and free cash flow.

•   It is important to consider appropriate cash warning signals when analysing financial statements.

•   Despite the complexity of transactions undertaken in business, when interpreting the statement of

cash flows it is important to remember that its basic purpose is reporting what cash came in and

what cash went out.