Introduction
During the current business cycle, the transparency of money and liquidity are both required for successful long-term development. With every organisation, whether big or small, in every business, comes the need to hold its cash receipts adequate enough to fulfill its short-term debts as well as long-term investment strategies. Of all the statements presented by accounts, the cash flow statement is most important. It presents the stakeholders with an undeniable portrait of how cash actually moves in the company, apart from the abstract notion of profit.
It has been placed under Section 2(40) of the Companies Act, 2013 that all such companies whose accounts are to be prepared in accordance with accounting standards are required to prepare a cash flow statement along with other such statements. The requirement itself shows the utmost importance of the need of preparing the cash flow statement from time to time for effective and smooth functioning.
This article tells us the reasons why being solvent, competitive, and credible is not merely a regulatory necessity but also a business imperative such that one can make a periodic cash flow statement.
What is a Cash Flow Statement?
A good place to start is to define: what is a cash flow statement?
Cash flow statement is an accounts statement that presents the inflow and outflow of cash and cash equivalents during an accounting period. It indicates how an enterprise generates cash from its operations, invests in its funds, and finances its operations. In other words, it gives answers to the biggest question: "Where did the money come from, and where did it go?"
The sole purpose of Cash flow statement is not just compliance rather it's an analysis tool which traps liquidity, solvency, and financial flexibility.
Elements of Cash Flow Statement
Elements of cash flow statement are classified under three major heads, as required under Accounting Standard (AS) 3 and Ind AS 7 – Statement of Cash Flows:
1. Operating Cash Flow – They comprise the routine transactions including customer payments, payments to vendors, wages, and tax payments. This is often a company's lifeblood.
2. Investing Cash Flow – They comprise purchasing or selling fixed assets, investment in shares, etc., and other capital outlays. These flows indicate how well a company performs in its re-investing of profits for expansion.
3. Cash Flow from Financing Activities – Examples include issue of shares proceeds, borrowing or repayment of loan, and dividend paid. This provides an insight into the financing of the entire operation by the company.
All such components of the cash flow statement collectively provide the target users with the right idea about the financial position of the business.
Statement of Cash Flow Statement – Periodical Necessity
A periodic cash flow statement provides dynamic details which cannot be depicted by a static balance sheet. Paper profit does not always reflect the availability of liquid money. For instance, credit sales revenue enhances profit but not the short-term liquidity.
Preparing the cash flow statement at periodical intervals (quarterly, half-yearly or annually) helps organisations to:
- Identify deficiencies beforehand.
- Service debt or working capital needs.
- Enable compliance with Section 129 of the Companies Act, 2013, in the form of true and fair accounting reporting.
Purpose of a Cash Flow Statement
The main purpose of Cash Flow Statement is being listed herewith as follows:
1. Liquidity Test – It verifies whether the company possesses adequate liquidity in order to meet its short-term commitments.
2. Investment Decision – It advises investors and management whether the company is making enough profits to expand.
3. Creditors' Confidence – Bankers, before lending money, study firm cash flow statement to understand their repayment ability.
Thus, use of the cash flow statement is synonymous with both external accountability and internal planning.
Role of Cash Flow Statement in Organisations
Role of cash flow statement cannot be denied. It is reality-check compared to mere accrual-based profit figures. Maintaining cash flow statement from time to time for firm has the following advantages:
1. Working Capital Tracking – Businesses survive on working capital and not on returns. Company's cash flow statement tells us whether there's sufficient liquid cash.
2. Investor Sentiment – Investors prefer companies with sound working capital cash inflows since it reflects sufficient long-term viability.
3. Operating Efficiency – Comparison of relative working capital inflows and outflows highlights operating working capital inefficiencies.
4. Law Compliance – Ind AS 7 mandates listed entities to present the nature of the cash flow statement through direct or indirect method.
The reason for cash flow statement, thus, is to bridge the gap between accounting profitability and actuality.
Types of Cash Flow Statement
While accounting concepts refer to the type of cash flow statement, they recognize two methods:
1. Direct Method – This method considers the gross cash receipts and payments. Cash receipts from customers and cash payments to suppliers, for instance, are reported under these captions.
2. Indirect Method – Begins with net profit and makes an adjustment for items which are not cash and in changes in working capital.
Both the two statements of cash flows reach the same net cash flow but the direct method provides more information.
Example for Cash Flow Statement
Let XYZ Pvt. Ltd.'s cash flow statement for the year FY 2024-25:
- Cash Flow from Operating Activities:
to Cash received from customers: ₹50,00,000
to Cash paid to suppliers: ₹35,00,000
to Operating expenses: ₹5,00,000
to Net Operating Cash Flow: ₹10,00,000
- Cash Flow from Investing Activities:
to Purchase of machinery: ₹7,00,000
to Sale of old equipment: ₹1,00,000
to Net Investing Cash Flow: (₹6,00,000)
- Cash Flow from Financing Activities:
to Loan raised: ₹5,00,000
to Dividend paid: ₹2,00,000
to Net Financing Cash Flow: ₹3,00,000
Net Cash Flow = ₹7,00,000
This simple cash flow statement for firm demonstrates how excess working capital funded investment and paid dividends such that the firm was liquidity sufficient.
Limitations Cash Flow Statement
For obvious reasons the Cashflow Statement is very helpful but still it carries some inherent limitations with it, such as:
1. Historical Nature – It is duplication of transactions in the past and cannot guarantee future cash receptions.
2. Exclusion of Non-Cash Items – Depreciation, though huge in accounting profit, is being excluded. This lowers aggregate financial monitoring.
Cash flow statement purpose thus cannot be replaced but usage alone is risky. It must be complemented with analysis of balance sheet and profit & loss.
Cash Flow Statement of Company – A Governance Perspective
Corporate governance structures of companies emphasize transparency. Regulators and SEBI mandate listed companies to make and submit company cash flow statement in annual reports.
Precedures of judiciary also mirror its significance. In Reliance Industries Ltd. v. SEBI (2018), tribunal has made it a condition to be filed in time the financial statements, i.e., statement of cash flow statement, to protect the interest of investors.
This does no more than add to the justification that company's cash flow statement is not an accounting requirement but a governance requirement.
Strategic Advantages of Periodic Statement of Cash Flow of Statement of Cash Flow
- Forecasting Ability: Future cash requirements can be forecasted by management by extrapolating from period trends.
- Credit Rating: Cash flow statements' strength is evaluated by agencies to rate corporate debt obligations. Satisfactory operating flows must lead to better ratings.
- Tax Planning: Working capital cash inflows and outflows can be measured by analyzing the firms with an emphasis of keeping tax outflows minimum under the Income-tax Act, 1961.
- Defence Legal: The company's cash flow statement under the Insolvency and Bankruptcy Code, 2016, is generally robust evidence of financial distress in case of insolvency.
Globally, investors and regulators demand preparation of cash flow statement on periodic intervals as a measure of transparency. Listed public firms in the United States of America have to file quarterly reports that necessarily include a full statement of cash flow statement. This not only helps to track the profitability of firms but also their underlying liquidity trends.
For instance, Apple Inc.'s annual report for 2023 revealed robust operating inflows of over $110 billion, depicting the manner frequent tracking of cash flow statement reports actually helps shape investor sentiment. Similarly, Infosys Ltd. in India releases company's cash flow statement every quarter so investors can see how well it is performing distributing dividends and investing in digital ones.
These figures point to a truer reality — such companies that have healthy, transparent, and consistent cash flow statement of company reporting are more valuable in the market and can readily get credit. This is proof that while regulation is compliance, best practice is embedding significance of cash flow statement as competitive advantage in the long run.
Conclusion
By way of summary, preparation of the statement of cash flows in good time is not a regulatory concern; it's a survival issue. It fills the gap between profitability and liquidity in such a way that businesses are best-equipped to meet their obligations, re-invest, and expand well.
With the awareness of what is the use of a cash flow statement, organizations and stakeholders are empowered to make decisions. Although putting the restriction on cash flow statement, there cannot be any argument that there isn't any other report that presents the actual liquidity position better.
As Ind AS 7 says: "Information about the cash flows of an entity is useful in providing users of financial statements with a basis to evaluate the entity's ability to generate cash and cash equivalents." Those seven words summarize why the intent of the cash flow statement exists.
With the current uncertain business environment, companies that take the time to prepare and update statement of cash flow statement on a monthly basis are not only law compliers but also effective, efficient, and trustworthy.