Cash Flows Introduction The Statement of Cash Flows is the third basic financial statement that is presented with the Balance Sheet and the Income Statement on a periodic basis. By reviewing the changes in cash due to operations, investing activities, and financing activities, the analyst can better ascertain how cash was generated and spent. The Statement of Cash Flows The statement of cash flows was developed in the 1970s and 1980s as a reaction to the need for management to reconcile net income to available cash. Many managers questioned how a company could report a profit, but have no money, or report a loss and still have cash available; the statement of cash flows was developed to explain how the income statement related to the available cash. The statement of cash flows can help managers and business owners to understand the sources and uses of cash, and predict future cash requirements so that needs may be met. The cash flow statement focuses attention on a firm's ability to generate cash internally, its management of current assets and current liabilities, and the details of its investments and its external financing (Libby, Libby, & Short, 2004). It is designed to help both managers and analysts answer important cash-related questions such as these:           Will the company have enough cash to pay its short-term debts to suppliers and other creditors without additional borrowing?           Is the company adequately managing its accounts receivable and inventory?           Has the company made necessary investments in new productive capacity?           Did the company generate enough cash flow internally to finance necessary investment, or did it rely on external financing?           Is the company changing the makeup of its external financing? These questions and others can be answered through the preparation and examination of the statement of cash flows. Operating, Investing, and Financing Activities The statement of cash flows has three main sections: (a) cash flows from operating activities, which are related to earning income from normal, recurring operations; (b) cash flows from investing activities, which are related to the acquisition and sale of productive assets; and (c) cash flows from financing activities, which are related to external financing of the enterprise. The net cash inflow or outflow for the year is the same amount as the increase or decrease in cash and cash equivalents for the year on the balance sheet. Cash equivalents are highly liquid investments with original maturities of less than three months. The operating activities section of the statement of cash flows can be prepared using either the direct or indirect method; the investing and financing activities sections are always prepared directly. Direct Method of Determining Cash Flows from Operating Activities The direct method for reporting cash flows from operating activities separates all of the operating transactions that result in either a deb ...

1. Cash Flows
Introduction
The Statement of Cash Flows is the third basic financial
statement that is presented with the Balance Sheet and the
Income Statement on a periodic basis. By reviewing the changes
in cash due to operations, investing activities, and financing
activities, the analyst can better ascertain how cash was
generated and spent.
The Statement of Cash Flows
The statement of cash flows was developed in the 1970s and
1980s as a reaction to the need for management to reconcile net
income to available cash. Many managers questioned how a
company could report a profit, but have no money, or report a
loss and still have cash available; the statement of cash flows
was developed to explain how the income statement related to
the available cash. The statement of cash flows can help
managers and business owners to understand the sources and
uses of cash, and predict future cash requirements so that needs
may be met.
The cash flow statement focuses attention on a firm's ability to
generate cash internally, its management of current assets and
current liabilities, and the details of its investments and its
external financing (Libby, Libby, & Short, 2004). It is designed
to help both managers and analysts answer important cash-
related questions such as these:
Will the company have enough cash to pay its short-
term debts to suppliers and other creditors without additional
borrowing?
Is the company adequately managing its accounts
receivable and inventory?
Has the company made necessary investments in new
productive capacity?
Did the company generate enough cash flow internally
to finance necessary investment, or did it rely on external

2. financing?
Is the company changing the makeup of its external
financing?
These questions and others can be answered through the
preparation and examination of the statement of cash flows.
Operating, Investing, and Financing Activities
The statement of cash flows has three main sections: (a) cash
flows from operating activities, which are related to earning
income from normal, recurring operations; (b) cash flows from
investing activities, which are related to the acquisition and sale
of productive assets; and (c) cash flows from financing
activities, which are related to external financing of the
enterprise. The net cash inflow or outflow for the year is the
same amount as the increase or decrease in cash and cash
equivalents for the year on the balance sheet. Cash equivalents
are highly liquid investments with original maturities of less
than three months. The operating activities section of the
statement of cash flows can be prepared using either the direct
or indirect method; the investing and financing activities
sections are always prepared directly.
Direct Method of Determining Cash Flows from Operating
Activities
The direct method for reporting cash flows from operating
activities separates all of the operating transactions that result
in either a debit or credit into categories of cash inflows and
cash outflows. The most common inflows are cash received
from customers, and interest and dividends received on
investments. The most common outflows are cash paid for the
purchase of services and goods for resale, salaries and wages,
income taxes, and interest on liabilities. The cash flows from
operating activities section of the statement of cash flows is
prepared by adjusting each item on the income statement from
an accrual basis to a cash basis.
Indirect Method of Determining Cash Flows from Operating
Activities
The indirect method for reporting cash flows from operating

3. activities involves a conversion of net income to net cash flow
from operating activities. To convert net income to net cash
flows from operating activities, the following steps are used:
1. Start with net income for the period, found on the income
statement.
2. Adjust net income for non-cash expenses (typically
depreciation and amortization). Since depreciation and
amortization expenses decrease net income, but do not use cash,
they are added back to net income in the conversion.
3. Add back losses or subtract out gains that resulted from
investing activities. Gains and losses will be included in the
investing activities section of the statement of cash flows, and
are factored out of the operating activities section.
4. Adjust for changes in each of the individual current assets
(other than cash and short-term investments), which reflect
differences in the timing of accrual basis net income and cash
flows. All increases in the identified current assets are included
in the conversion by decreasing cash flows, and all decreases in
the identified current assets are reflected by increasing cash
flows.
5. Adjust for changes in each of the current liabilities (other
than short-term debt to financial institutions and current
maturities of long-term debt, which relate to financing), which
reflect differences in the timing of accrual basis net income and
cash flows. All increases in the identified current liabilities are
included in the conversion by increasing cash flows, and all
decreases in the identified current liabilities are reflected by
decreasing cash flows.
6. The sum of the net income, depreciation and amortization
adjustment, gain and loss adjustment, adjustments for changes
in current assets, and adjustments for changes in current
liabilities, will result in the cash flows from operating activities
for the period.
Financial Accounting Standards Board (FASB) Statement No.
95 requires that when the indirect method is used, additional
disclosures must be made, such as the interest and income taxes

4. paid by the company, so that the user of the financial statements
may approximate the direct method of determining cash flows
from operating activities (Kieso, Weygandt, & Warfield, 2004).
Cash Flows from Investing Activities
Investing activities reported on the cash flow statement include
cash payments to acquire fixed assets and short- and long-term
investments, and cash proceeds from the sale of fixed assets and
short- and long-term investments.
Cash Flows from Financing Activities
Cash inflows from financing activities include cash proceeds
from issuance of short- and long-term debt and common stock.
Cash outflows include cash principal payments on short- and
long-term debt; cash paid for the repurchase of the company's
stock, and cash dividend payments. Cash payments associated
with interest are a cash flow from operating activities.
Supplemental Disclosures
Outside of the basic format of the statement, a company is also
required to disclose the following:
Cash paid for taxes
Cash paid for interest
A reconciliation of net income to cash provided/used
by operations if the direct method is used for operating
activities
A schedule of non-cash investing and financing
activities
The supplemental disclosures on the statement of cash flows are
considered important items for the user of the financial
statements, as they will indicate major expenditures that might
not otherwise be exposed.
Analysis of the Statement of Cash Flows
The statement of cash flows provides insight into where cash
comes from and how a firm spends it. Typically, investors and
creditors prefer to see that a company is generating much of its
cash from operating activities. Cash outflows from investing
activities indicate that the company is investing in long-term
assets, which may indicate growth. Cash inflows from financing

5. activities mean that the firm is raising capital through
borrowing or selling stock.
Quite often, management cannot directly control cash from
operations since sales and collections rely upon customers.
However, the investing and financing activities represent active
management decisions to purchase or sell assets, enter into
long-term debt, sell or purchase the company's stock, or pay
cash dividends. The statement of cash flows can indicate
management's intentions through a careful examination of the
cash flows from investing and financing activities sections.
In addition to reviewing the actual statement of cash flows, the
accountant or analyst should calculate cash flow ratios to get a
better picture of how an organization is managing its cash. The
statement of cash flows, combined with the other financial
statements and a detailed ratio analysis, can lead the user to a
better understanding of the financial health of the firm, as well
as its goals and objectives.
Analysis of Cash Flow Ratios
Cash flow ratios are highly scrutinized by present and potential
creditors. The statement of cash flows, in conjunction with ratio
analysis, can indicate whether a borrower will be able to repay
funds if borrowed.
Free Cash Flow
Free cash flow (Cash flow from operating activities - Capital
expenditures - Cash dividends) measures the cash remaining
from operations after the company makes investments in new
assets and pays out the expected dividends to stockholders
(Kimmel, Weygandt, & Kieso, 2009). Free cash flow gives the
analyst a better idea of how much cash truly is available from
cash flows from operations, looking at the statement of cash
flows alone.
Quality of Income Ratio
Quality of income ratio (Cash flow from operating activities /
Net income) measures the portion of income that was generated
in cash. A higher quality of income ratio indicates greater
ability to finance operating and other cash needs from operating

6. cash inflows. A higher ratio also indicates that it is less likely
that the company is using aggressive revenue recognition
policies to increase net income.
Capital Acquisition Ratio
The capital acquisition ratio (Cash flow from operating
activities / Cash paid for property, plant, and equipment)
reflects the portion of purchases of property, plant, and
equipment financed from operating activities without the need
for outside debt or equity financing or the sale of other
investments or fixed assets. A high ratio benefits the company
because it provides the company with opportunities for strategic
acquisitions (Libby et al., 2004).
Conclusion
The statement of cash flows is important for all stakeholders:
management, employees, creditors, and stockholders. Without
sufficient cash, a company would cease to exist. While viewing
only cash transactions ignores accrual accounting, it also
eliminates the smoothing of earnings accomplished by the
careful selection of certain accounting methods.
References
Kieso, D., Weygandt, J., & Warfield, T. (2004). Intermediate
accounting (11th ed.). Hoboken, NJ: John Wiley & Sons.
Kimmel, P., Weygandt, J., & Kieso, D. (2009). Accounting:
Tools for business decision making (3rd ed.). Hoboken, NJ:
John Wiley & Sons, Inc.
Libby, R., Libby, P., & Short, D. (2004). Financial accounting
(4th ed.). Boston, MA: McGraw-Hill/Irwin.
Career Packet Assignment (10 points)
Learning Objectives
After completing this assignment, students will be able to:
· Adapt the principles of effective business communication to

7. other occasions and formats;
· Create a resume and cover letter as well conduct an
informational interview;
· Use social media platforms as a networking component to
communicate with business professionals.
Description
One of the major areas of focus in this course will be the
importance of written communication in business. As an
assignment, students will be required to submit a resume,
chronological or functional, highlighting professional and
volunteer experiences, honors, awards and other relevant
information specific to a position of interest.
Assignment Details
For the career packet assignment, students MUST use factual
information in their Career Packets. The use of false
information will result in a “zero” on this assignment.
Basic RequirementsThe Career Packet will consist of the
following:
· Resume (Chronological or Functional)
· Cover Letter
· LinkedIn Account OR Alternate Assignment (Assigned by
Instructor)
Resume & Cover Letter: The resume should include details of
relevant, accurate information about an applicant. Detail about
the different styles of resumes and cover letters and how to
create an effective career packet, view the Assignment tab for a
detailed schedule.
LinkedIn Account: Social media is a wide spread phenomenon
that allows individuals to connect with valuable networks,
personally or professionally. Students must create a LinkedIn
account (www.linkedin.com) to accompany the resumes and

8. cover letter. The LinkedIn pages MUST include a complete
profile and a minimum of 25 professional connections. You are
highly encouraged to create your LinkedIn page early in the
semester to ensure you meet the assignment requirement. If you
have any personal reservations with professional social media
please let me know so I can give you a supplemental
assignment.
Alternate Assignment: Students that is unable to create the
social media site, LinkedIn, for valid reasons will need to
contact the instructor for approval to complete the alternate
assignment. It is your responsibility to communicate that reason
and get approval and the assignment details from the instructor.
Students that fail to communicate with the instructor will
receive a zero for incompletion on one section of the Career
Packet.
Things to remember when completing the career packet:
· You must also include a cover page (See Blackboard) for
details.
· Include, on a separate page, the URL to your LinkedIn page
for easy accessibility – DO NOT GIVE ME YOUR USERNAME
AND PASSWORD!
· You will need to bring a copy to class AND submit it online to
the link provided.
· Must be one complete packet (in one document). You will
NOT be able to upload multiple documents in Blackboard.
Rev. 1/2017