Objectives and Significance of the Cash Flow Statement

In one line

The cash flow statement exists so that a reader can judge whether an enterprise can generate cash and what it needs cash for.

AS 3's objective, in its own words

Information about the cash flows of an enterprise is useful in providing users of financial statements with a basis to assess the ability of the enterprise to generate cash and cash equivalents and the needs of the enterprise to utilise those cash flows. The economic decisions that are taken by users require an evaluation of the ability of an enterprise to generate cash and cash equivalents and the timing and certainty of their generation.

Three things are named there, and they are the objectives.

And the Standard's second sentence names its own method: it deals with information about the historical changes in cash and cash equivalents by means of a statement which classifies cash flows during the period from operating, investing and financing activities.

The significance, which is AS 3's "benefits"

Paragraph 3 of the Standard, which is the answer to "state the significance".

A cash flow statement, used with the other financial statements, provides information that enables users to evaluate:

1. the changes in net assets of an enterprise;
2. its financial structure, including its liquidity and solvency; and
3. its ability to affect the amounts and timing of cash flows in order to adapt to changing circumstances and opportunities.

And two more benefits the same paragraph names.

1. It enables users to develop models to assess and compare the present value of the future cash flows of different enterprises.
2. It enhances comparability between enterprises, because it eliminates the effects of using different accounting treatments for the same transactions and events.

Benefit five is the strongest claim in the Standard and the one to quote. Two companies using different depreciation methods report different profits for identical trading. Their cash flows are identical, because depreciation takes no cash. So the cash flow statement is the one statement that is comparable across accounting policies.

Paragraph 4, on the use of history

Historical cash flow information is often used as an indicator of the amount, timing and certainty of future cash flows. It is also useful in checking the accuracy of past assessments of future cash flows and in examining the relationship between profitability and net cash flow and the impact of changing prices.

Three further uses, and the second is the one nobody remembers: last year's cash flow statement is the scorecard for last year's forecast.