15. Cash Flows

Question 1

Outline the benefits of the cash flow statement information

Answer 1

• assesses the ability of a company to generate net cash inflows from the sale of products or the providing of services
• checks the accuracy of past predictions of the cash generating ability of a company
• compare the cash generating ability of different companies
• assess the ability of a company to pay its debts
• assists in assessing a company’s ability to generate future positive cash flows
• evaluate the financial structure of the company (including its liquidity and solvency)

Question 2

Explain the concepts of cash and cash equivalents

Answer 2

Cash:
- notes and coins held on the business premises and deposits held at call with a financial institution, such as, a bank
- the term “at call” means money that a business can withdraw from a financial institution at any time
Cash Equivalent:
- include short term highly liquid investments (<3 months) that must be readily convertible into known amounts of cash with an insignificant risk of changes in value, e.g. bank bills, commercial bills, money market deposits, bank overdraft, term deposits, cash management trusts

Question 3

Explain the purpose of annual reporting and the use of KPIs by directors for accountability and decision-making purposes

Answer 3

Purpose of annual reports:
- annual reports are required under Corporations Act 2001
- communicates financial information to shareholders and other users
- communicates other important information, such as CSR activities
- communicates information about future strategies

KPIs are benchmark indicators or specific instruments that measure progress towards achieving set goals or the standard of desired performance. KPIs can be financial or non-financial quantifiable measures. KPIs are implemented for decision making purposes to help:
- plan, coordinate and control business operations
- reduce costs
- motivate employees to achieve certain targets
- ensure business sucess in achieving its goals
- a financial report enables management to compare ratios and other KPIs to the set targets

Question 4

Outline the limitations in assessing performance from financial statement analysis and from traditional financial accounting

Answer 4

• Historic focus not future focus: ratios reflect historic performance and do not preict future performance
• Need for comparison: ratios need to be compared with other information to be most useful
• Lack of Disclosure: full disclosure is impossible; confidentiality required to retain confidential company trade secrets which generate competitive advantage
• Data Manipulation: data could be manipulated to make data appear more desirable; this will impact ratio calculation and comparisons
• Timeliness: financial reports are produced after a financial period and company position will have changed by the time GPFRs are able to be analysed