Statements of cash flows provide us with a different view on the entity’s activities.
There’s a saying:
Turnover for vanity,
Profit for sanity,
Cash is reality
If a company runs out of cash, it’s insolvent.
The company’s statement of comprehensive income and statement of financial position can look healthy, but in reality if there’s no money to pay employees or suppliers, you can’t continue trading.
The cash flow is different to the profit figure because;
- Revenue and expenses, which make up the profit figure are prepared on the accruals basis. So, say a company gives 1-year credit to a customer, this year it may record the revenue, but cash will not be received until next year.
- Accounting estimates and policies can distort the profit figure in the statement of comprehensive income. By contrast, a statement of cash flows reflects purely the cash in and cash out in a specific period. It doesn’t get swayed or changed by these policies.