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Make the Statement of Cash Flows One of Your Most Trusted Tools

And why you need better control over the preparation of this statement

By Alan Hart, MBA

www.budgetingexpert.com

www.pacificshinegroup.com

I just read an article in Compliance Week titled: “SEC Nudges Companies on Cash Flows”, authored by Tammy Whitehouse and dated 12/23/2014  (Link:  http://www.complianceweek.com/news/news-bulletin/sec-nudges-companies-on-cash-flows#.VJjIsUABA     ).

This article refers to a study done by the SEC of cash flow restatements and its interesting findings, as conveyed by Kirk Crews, a professional accounting fellow at the SEC, that the majority of errors were due to relatively less complex applications of US GAAP.

This suggests that the majority of errors requiring restatements of the Statement of Cash Flows were due to poor internal control over financial reporting, as well as possibly too much reliance on end-user computing tools, such as spreadsheets, extremely popular in the preparation of the Statement of Cash Flows and other financial statements and reports.

The article continues to explore the various possibilities leading to these errors, and stresses the importance of having the right processes in place with the appropriate internal control framework and full understanding of FASB Topic 230 (guidance for preparing the Statement of Cash Flows).

The Statement of Cash Flows is one of the most important financial statements in any organization and along with the Balance Sheet conveys the financial health of the company.  It is required by the SEC in all annual (FORM-10K) and interim (FORM-10Q) filings and is common practice in all audited and reviewed financial statements prepared by external auditors for privately held companies.

Unfortunately, the Statement of Cash Flows is often misunderstood by many accounting and finance professionals and its many benefits are not given the weight they deserve.  This is particularly true for a forecasted Statement of Cash Flows, rarely seen in the planning and budgeting process of many enterprises.

Why is the Statement of Cash Flows so important?

The Statement of Cash Flows shows the sources of all cash receipts and cash outlays segregated into three major categories:

1. Cash Flows from Operations

2. Cash Flows from Investing Activities

3. Cash Flows from Financing Activities

    

    

Whether the direct method or the indirect method are used, all cash receipts from customers, loan proceeds, sale of company stock, sale of assets and other sources are clearly listed on the statement, each appearing in one of the three categories listed above.  All cash outlays such as payments to suppliers, employees, taxing authorities, interest payments, payments for investments in other entities, and payments for acquisition of assets also appear in these three categories.

The rules surrounding the preparation of the Statement of Cash Flows have been published (including updates) by FASB under Topic 230, readily available to review and use.

As we clearly see, a properly prepared Statement of Cash Flows will give us a good idea on where cash is coming from and where it is going.  The data needed to prepare a Statement of Cash Flows comes primarily from the Balance Sheet (beginning and ending balance sheets) and the Income Statement will provide other needed data.  The period covered by the Statement of Cash Flows must match the period covered by the other financial statements.

In the case of a forecasted Statement of Cash Flows used for planning and budgeting, the benefits of having an accurate and complete statement are:

1. Projecting and understanding how much cash will be received in each planning period from the three identified cash flows categories.

2. Projecting and understanding how much cash will leave the organization via payments to suppliers, employees, taxing authorities and other entities, segregated by the three cash flows categories.

3. Projecting and understanding cash requirements during the planning period and arranging for financing, sale of assets and other activities in order to meet the anticipated cash needs and well ahead of time.

My observation and experience is that many ERP and accounting software solutions do not have a “canned” report to produce a proper Statement of Cash Flows, leaving users to either program it themselves in their ERP system or resort to using spreadsheets, as most people do.  As we have seen before on this blog, spreadsheets are not the right tool to produce financial statements (Link to: Think your spreadsheet files are dependable? Blog entry goes here).

The right solution is to have more ERP and accounting software vendors provide a pre-programmed template for this statement where users can link their GL account or account groups to various components of the Statement of Cash Flows.

As far as planning and budgeting solutions are concerned, I’d like to see an integrated Statement of Cash Flows, with an integrated balance Sheet and Income Statement.  These statements should be automatically generated from the aggregation of all user forecasted data and with the use of the beginning Balance Sheet account balances, will produce a complete and accurate set of financial statements for every period participating in the budget.

Readers of this blog know that with a software application like Budget Maestro from Centage Corporation (www.centage.com), forecasting an accurate and complete Statement of Cash Flows is a reality.  My hope is that more vendors in this software category will follow these principles and provide their users with tools to accomplish what really matters.

An accurate and complete Statement of Cash Flows is at the top of my list, along with the Balance Sheet, both for actual accounting and for budgeting.  There is little wonder now why the SEC is urging companies to take a closer look at their internal control over financial reporting and particularly the preparation of the Statement of Cash Flows.

Alan Hart - Bio

Alan Hart, MBA, is Principal Consultant at Pacific Shine Group in Portland, Oregon, with responsibility for client business development and hands-on client project implementations. Prior to starting Pacific Shine Group, he worked in various executive accounting and finance positions with technology and growth companies. Notable is his 18 years in the hi-tech manufacturing industry where he served as Controller, Vice President of Finance and CFO of several privately as well as publically held companies in the Hi-Tech industry, such as Hybrid Arts, Inc., Hamilton Bay Associates and Syncronys Software.  In his role in management consulting, Alan has worked in diverse industries and with a variety of clients, including fortune 1000 companies such as Boeing, Delta Airlines, Intel, Wyndham Worldwide and others, as well as many mid-market organizations such as Guitar Center, Ducommun AeroStructures, Cypress Semiconductor, TriQuint Semiconductor and others.

Combining his skills and experience in engineering with deep understanding of technical accounting, he is able to assist small and medium-size manufacturing companies establish GAAP compliant accounting and reporting systems.

Alan can be reached at (310) 384-1453 or alan.hart@pacificshinegroup.com.