The Statement of Cash Flows: Operating Activities Example (with video)

The Statement of Cash Flows

There are four financial statements that are used by investors for decision making: income statements, statement of retained earnings, balance sheet and statement of cash flows. The latter of these can be used by management in decision making for the business. The statement of cash flows shows where a businesses cash is going (cash outflows/use of cash) and what activities are creating cash inflows (source of cash) for the business.

The statement of cash flows is unmistakably the most difficult of the financial statements to prepare. With three sections, operating activities, investing activities, and financing activities, students often find this statement a bit challenging to master. Students first have to assimilate to the idea of accrual accounting where revenues are recorded when earned and expenses are recorded when incurred. When students finally have this topic concurred they are asked to complete the statement of cash flows that only represents cash inflows and outflows. Therefore, instead of taking balances from the ledger accounts (t-accounts) and placing them on a financial statement (i.e. balance sheet, income statement) we have to look at the changes in the account balances (i.e. change from beginning of the period to the ending of the period).

The Balance Sheet and the Accounting Equation

The accounting equation is the foundation of accounting. The accounting equation is written such that assets equal liabilities plus owners' equity. This is a very simple form of the balance sheet. The balance sheet is one of the four financial statements. The balance sheet gives a snapshot of a business' financial health and well-being on any given day. Unlike the other three financial statements, the balance sheet shows assets, liabilities and owners' equity as of only one day in time and not for a period of time. Caution should be taken when reviewing the balance sheet and any other financial statement. A savvy investor should carefully read the accompanying notes to the financial statements for additional information regarding specific account details that may not be obvious in the financial statement data (i.e. age of accounts receivable).