Sources Needed to Prepare the Cash Flow Statement

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Lesson Transcript
Instructor: Kevin Newton

Kevin has edited encyclopedias, taught middle and high school history, and has a master's degree in Islamic law.

The cash flow statement is one of the most important pieces of paperwork that a company will produce. In this lesson, we look at where the information for the cash flow statement comes from.

What Is a Cash Flow Statement?

As a manager or small business owner, one of the most important pieces of paperwork that you will encounter is a cash flow statement. This piece of paperwork shows how money moves through your organization during a given period of time. As a result, it is very useful for tracking exactly where your money comes from and where it goes. This, in turn, can help you optimize your company's spending patterns.

However, there are different techniques to prepare your cash flow statement depending on which cash flow method you wish to use. Please note that these changes only apply to the operations section of the cash flow statement. The financial and investment portions are the same under both systems. Both are perfectly acceptable, although your company likely has a preferred system. Most accounting bodies and many small businesses prefer using the direct method because it breaks down information more quickly in the operations section of the statement but requires that the manager or accountant consults multiple account journals to gather the relevant information. Meanwhile, the indirect method is preferred by most companies because information for its preparation can be lifted straight from readily available forms like the balance sheet or income statement.

Sources Needed For Direct Method

Let's start by looking at the direct method. Remember that this is the choice of smaller businesses and most accounting bodies. After all, it provides a more direct understanding about the flow of cash itself and not other assets. As such, the expenses under a direct method cash flow statement are:

  • Cash paid to employees
  • Cash paid to suppliers
  • Interest paid
  • Income taxes paid

Meanwhile, the income is summarized solely by cash receipts from customers.

This information comes from a number of different sources. The cash disbursements journal provides information about the cost of supplies, taxes, and interest, while the payroll journal provides the cash spent on employees. Meanwhile, the cash receipts journal provides information about the cash receipts from customers.

Sources Needed for Indirect Method

If you thought that the direct method meant juggling too many sources of information, then you're going to like the indirect method. Remember that most companies use the indirect method for their cash flow statements. We start with the net income, which we get from the income statement. We then adjust for the following criteria:

  • Depreciation and amortization of assets - from the income statement
  • Any capital gains or losses from the sale of plant, property, or other capital assets - from the income statement
  • Changes in inventory - from the balance sheet

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