Understanding relationship between statement of financial position and statement of cash flows (2024)

The relationship between the statement of financial position (otherwise known as balance sheet) and the statement of cash flows is crucial for understanding how a company's financial position and cash flows are interconnected. While the statement of financial position provides a snapshot of a company's financial position (health) at a specific point in time, the statement of cash flows presents the movement of cash during a particular period. Let’s dive in.

1) Operating activities

Statement of financial position: The current assets and current liabilities listed on the balance sheet, such as accounts receivable and accounts payable, are indicators of a company's short-term financial health.

Statement of cash flows: The cash inflows and outflows from operating activities in the cash flow statement are directly related to changes in these current assets and current liabilities. For instance, an increase in accounts receivable (as shown on the balance sheet) might indicate that customers owe the company money, and this would result in a decrease in cash flow from operating activities.

2) Investing activities

Statement of financial position: Non-current assets, such as property, plant, equipment, and investments, are reported on the balance sheet.

Statement of cash flows: Cash flows from investing activities on the cash flow statement detail the cash spent on acquiring or selling these non-current assets. For example, if the company purchases new equipment, this outflow of cash is reflected in the investing activities section of the cash flow statement representing a reduction in cash and will reflect as an increase in the non-current assets on the balance sheet.

3) Financing activities

Statement of financial position: Non-current liabilities and shareholders' equity, such as loans, bonds, and equity, are components of the balance sheet.

Statement of cash flows: Cash flows from financing activities show the movement of cash related to the company's capital structure. For example, if a company issues new shares, the resulting cash inflow would be reflected in the financing activities section of the cash flow statement and would impact the equity portion of the balance sheet.

In summary, the statement of financial position provides information about a company's financial position at a specific point in time, including its assets, liabilities, and shareholders' equity. The statement of cash flows shows how cash is generated and used during a specific period through operating, investing, and financing activities. The interaction between these statements helps stakeholders understand how changes in financial position impact cash flows and vice versa.