What Is A Statement of Cash Flow?

Capundan, Bea Marella R.
BSA1G 7:30-9:00pm TTh
Assignment #3
1. What is a Statement of cash flow?

Statemnt of cash flow is a financial statement that shows how changes in balance
sheet accounts and income affect cash and cash equivalents, and breaks the analysis
down to operating, investing and financing activities.
2. Identify and discuss the three types of activities found on the Statement of
cash flow.
 Operating activities include cash activities related to net income. For example,
cash generated from the sale of goods (revenue) and cash paid for merchandise
(expense) are operating activities because revenues and expenses are included
in net income.
 Investing activities include cash activities related to noncurrent assets.
Noncurrent assets include (1) long-term investments; (2) property, plant, and
equipment; and (3) the principal amount of loans made to other entities. For
example, cash generated from the sale of land and cash paid for an investment
in another company are included in this category. (Note that interest received
from loans is included in operating activities.)
 Financing activities include cash activities related to noncurrent liabilities and
owners’ equity. Noncurrent liabilities and owners’ equity items include (1) the
principal amount of long-term debt, (2) stock sales and repurchases, and (3)
dividend payments.
3. What are the different methods of presenting a Statement of Cash Flow?
Explain the difference between each method.
1. Direct method
Using the direct method, you list cash flow in the operating activities section, based on
actual cash the business has received or paid during the period. Unlike an income
statement, where income and expenses are recorded on an accrual basis – that is, at
the moment of sale – a cash flow statement records when the cash is physically
received or paid. In short, cash from all sales and all payments are directly reported on
the cash flow statement, without any adjustments.
Examples of cash receipts and payments used in the direct method include:
 Receipts from customers
 Payments to suppliers
 Payments to employees
 Interest payments
 Tax payments
The advantage of this line-by-line breakdown of cash transactions is that investors,
owners and their advisors have a clear understanding of the business’s ability to
generate and manage cash, ignoring non-cash transactions.
2. Indirect method
The indirect method is generally easier to use, as it relies on information already
gathered in the income statement and balance sheet. Net income is adjusted to convert
it from an accrual to a cash basis by:
 Adding back non-cash transactions, like depreciation, provisions made for losses
or bad debts, and losses recorded on the sale of an asset.
 Adjusting for changes in balances of current assets (excluding cash) and current
liabilities between the start and end of the period. Current assets include
inventory and accounts receivable (or debtors).
Calculating cash flow using the indirect method utilises figures taken directly from
existing reports, which is why most businesses prefer the indirect method.
4. Define and provide the formula for 1) Operating cash flow 2) Free cash flow.
Operating cash flow (OCF) is cash generated from normal operations of a business.
As part of the Cash Flow Statement the cash flows of the operating activities, investing
activities, and financing activities are segregated so the analyst can get a clear picture
of the cash flows of all the company’s activities.
Operating cash flow is important because it provides the analyst insight into the health
of the core business or operations of the company. Without a positive cash flow from
operations a company cannot remain solvent in the long run. A negative operating cash
flow would mean the company could not continue to pay its bills without borrowing
money (financing activity) or raising additional capital (investment activity).
Operating Cash Flow (OCF) = Operating Income (revenue – cost of sales) +
Depreciation – Taxes +/- Change in Working Capital
Free cash flow (FCF) is a measure of how much cash a business generates
after accounting for capital expenditures such as buildings or equipment. This cash can
be used for expansion, dividends, reducing debt, or other purposes.
The presence of free cash flow indicates that a company has cash to expand, develop
new products, buy back stock, pay dividends, or reduce its debt. High or rising free cash
flow is often a sign of a healthy company that is thriving in its current environment.
Furthermore, since FCF has a direct impact on the worth of a company, investors often
hunt for companies that have high or improving free cash flow but undervalued share
prices -- the disparity often means the share price will soon increase.
Free cash flow measures a company's ability to generate cash, which is a

fundamental basis for stock pricing. This is why some people value free cash flow more
than just about any other financial measure out there, including earnings per share.
Free Cash Flow = Operating Cash Flow - Capital Expenditures

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Capundan, Bea Marella R.

BSA1G 7:30-9:00pm TTh

1. What is a Statement of cash flow?

Free cash flow measures a company's ability to generate cash, which is a

Free Cash Flow = Operating Cash Flow - Capital Expenditures

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