The statement of cash flows is divided into cash flow from operating, investing, and financing activities. Discuss the importance of classifying the activities correctly.
There are various purposes and importance of cash flow statements and classifying them correctly. One of the importance is providing significant insights especially in the area of liquidity and solvency of an organization which is known to be critical for the survival and the growth of a business. It also allows analysts to access and use the company data particularly its cash flow history as this facilitate them to project the future cash flow of the firm. These projections act as the base for making economic decisions about the company (CFI Education Inc., 2019). Classifying the vital changes in financial position makes it easy for highlighting the priorities of management. Once the company is able to compare the different cash flows, identifying weaknesses and strength becomes easy, leading to strategic measures to stir growth. Nevertheless, classifying these elements correctly allows the business to manage its internal finance processes to help in formulating financial plans. Finally, these actions make it easier for ratio analysis as well as cash flow analysis which is significant in measuring profits and financial position of the business (CFI Education Inc., 2019).
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How does each area impact the statement of cash flows?
When each of the above activities is classified into their right functions, they play vital roles in the company. The activity leads to variations in the structure and size of borrowing and equity capital of an organization. Financing activities are cash flows linked with repurchasing and issuing shares as well as borrowing and servicing of bank loans. The operation provides an overview of how the company is being financed. On the other hand, investing activities refers to disposal and procurement of non-current assets. This includes selling/buying of equipment, plant, and assets. Lastly, operational activity explains why the cash flow differs from profits. Here, the entity can start operating now that all the financial statements have been put in place (CFI Education Inc., 2019). The company is now ready to start working since it has been funded and equipped as needed.
From the above explanations, it is vital to classify these activities correctly to be able to operate correctly without any errors or any mismanagement. The company will also be able to know on which areas are still pending and make the corrections quickly.
References
CFI Education Inc. (2019). Statement of Cash Flows . Retrieved on 25 February 2019, from https://corporatefinanceinstitute.com/resources/knowledge/accounting/statement-of-cash-flows/
