Cash Flow Statement Essay

626 words - 3 pages

1. Cash is considered to be the least manipulated element in the financial statements (Dechow, 1994). However, there are ways of manipulating cash flow statement as seen in the WorldCom scandal. The common methods are delaying payables, financing payables, securitising receivables or stock buybacks. Investors most often look at the operating cash flows therefore, firms/management are interested in boosting operating cash flows. One way of doing it is securitising receivables where firm sells its receivables, boosting its operating cash flows and increasing financing cash flows. Selling receivables can be good cash management strategy pursued by the firm but firms which use this technique show better operating cash flows in the year in which these are sold. Delaying payables can increase operating cash flows. Analysts can spot this by comparison (e.g. payable days) with other companies in the same sector or previous years. Reclassification of payables is another way involving financial intermediary who pays the supplier thus firms transform their liability to financial liability instead of operating. Another way in of distorting cash flows is the use of trading securities. Although U.S.GAAP allows recognition of cash flows from trading activities under operating activities but it should be kept in mind that these are not originally generated from the normal business activities of the firm (Bloomberg, 2002). Therefore, analyst should be careful about these issues and make adjustments if necessary. Another way of manipulating cash flow is capitalising costs rather than expensing. In this case expense is charged to income statement gradually through depreciation therefore boosting net income and hence operating cash flows. Analysts should consult the supporting footnotes with the financial statements as these are a good source for evaluating financial statement figures. These are some of the ways of distorting cash flows.

2. Screening of equity investments is a critical...

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