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Article Summary Essay

1000 words - 4 pages

This article presents the argument of widespread use of the direct method with regards to presenting a statement of cash flows. In the author’s research they found that many balance sheets and cash flow statements do not articulate. Changes in the current asset and liability account balances are often presented significantly different on the cash flow statement than on the balance sheet. Upon examining a sample of approximately 10,000 sets of public financial statements it was found that many unexplained differences existed between the expected operating cash flow measures and the amount reported in the company’s respective cash flow statement. The purpose of this paper is to alert FASB that ...view middle of the document...

They assumed that the changes in current accounts would equal the differences between beginning of period and end of period balance sheet numbers. Many of the cash flow statements not only showed large differences but that had no explanations to those differences which presented a list of questions. The first question was how widespread the differences were. The second was to what factors caused those differences. The final question addressed what needed to be changed concerning the nonarticulation.
The three questions led to a three-stage research effort. The first stage examined a large sample of Compustat financial statements showing approximately 75% of companies within the sample contained nonarticulation in their statements. The second stage involved an analysis of ten companies that identified numerous causes for the nonarticulation. Many of the nonarticulated changes were no explained though. The final stage presented implications for education, research and practice based on the nonarticulation findings.
The first stage involved processing information from the Compustat database. The processing consisted of assessing the volume of nonarticulation. During this stage the authors had hopes of identifying this nonarticulation by comparing adjustments reported on the cash flow statements with changes in current accounts from the beginning to the end of the period. This was deemed impossible because of two instances of aggregation. The first aggregation issue was that preparers aggregate changes in several accounts from the balance sheet into single items of the cash flow statement instead of distinguishing the specific account. The second involved coding protocols that altered the origination of the changes reported on the original statements. With these constraints the authors modified their approach to comparing the operating cash flow actually reported (ROCF) with an independently estimated measurement of operating cash flow assuming articulation would occur (IOCF). If ROCF and IOCF differed then it appeared reasonable to conclude that the statement of cash flows must have shown nonarticulation for at least one account.
The sample used included financial statement information for 6,999 companies that were based in the United States....

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