Issues in Cash Flow Statement

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1. Introduction

Cash flows are the single most important source for a business short term survival and growth of business. It shows the relationship between profits and the business’s cash generation ability and is more difficult to manipulate by the business management as, unlike profits calculated on accrual basis, it is not prone to change by judgment and accounting policies. Statement of cash flows is one of the components of financial statements that present an analysis of the cash into three major types of activities, namely: operating, investing and financing activities. This document presents an analysis of the statement of cash flows of the three companies – BHP, Santos and Funtastic, and aims to evaluate their financial strengths / weaknesses based on the information available in these statements.

2. Information content of the income statement and statement of cash flows

Cash flow statement measures a company’s sources of generating cash and using / expanding that cash into various activities to fund and grow the business over a period of time. In contrast the income statement shows a record of revenues and expenses and establishes whether the company has a profit or loss situation over a period of time. Income statement therefore tells about company’s performance, and the cash flow statement tells about its cash generation ability and its overall liquidity position and its main focus for incurring cash payments, like new business projects, investments or repayment of capital to debt and equity financiers.

Income statement is mainly divided through functions of performance. It starts with the revenue and first calculates the gross profit and then deducts business expenditures to finally arrive at the net profit figure. It also tells about the types of revenues (sales, interest income, capital gains) realized and not realized and expenditures (administrative, selling and marketing, manufacturing etc).

Statement of cash flows is mainly divided into three parts:

  1. Operating activities – it mainly reconciles the net profits into the cash actually generated from operations. It accounts for working capital changes and the business’s ability to convert its inventory and debtors into cash and ultimately pay back its creditors. Items calculated in income statement on accrual basis are therefore converted into cash basis under this part.
  2. Investing activities – shows the activities through which business has expanded cash for investment such as buying new fixed assets, plant and machinery and intangibles; or making new investments.
  3. Financing activities – Shows how the funds have been raised through debt or equity capital or how it has been paid back to the financiers through for example, debt repayment, interest or dividends.

Both are useful for the management and owners of the business as income statement tells about the potential profitability of the business and the cash flow statement about its liquidity and ability to generate sufficient cash to finance the operations and seize potential growth opportunities (Clinch et al, 2002).

3. Analysis of Statement of Cash Flows of the three companies

In the following sub-sections various analysis is done to show the trend in cash earnings usage of the three companies for the three years 2017 to 2019. The figures for BHP Limited and Santos Limited are taken in millions of USD, whereas that for Funtastic Limited are taken in thousands of AUD. Further, the analysis and conclusions drawn therefrom are based solely on the figures extracted from the statement of cash flows of the three companies for the three years as reported in the audited accounts. Any other statement or notes thereto are not considered, as the purpose of the analysis is to make informed decisions based solely on the cash positions of the companies.

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