Income statement and cash flow

Income statement is a way to understand whether a business is profitable or not over a period of time. It measures the inflows of revenues (assets) and the outflows of expenses incurred in the attempt of producing revenue. The difference between revenues and expenses represent the profit or losses of the business. The cash flow statement shows inflows and outflows of cash due to operating, financing, investment activities and its goal is to measures the liquidity of the business (Atrill & McLaney, 2011).

The key difference between these two statements lies behind their objectives: the income statement is focused on profits, while the cash statement is focused on liquidity. For a business, being profitable does not necessarily mean being liquid. Profit shows how wealthy a business is but wealth is not limited to cash (Atrill & McLaney, 2011). For this reason, the income statement includes non-cash items such as depreciation, while the cash flow statement is exclusively focused on cash flows. Consequently, the income statement is insufficient to measure the performance of a business because it does not show the quality of the wealth held by the business itself. When a business is profitable but not liquid, its possibility of acquiring the necessary assets needed by the business operations or repaying loans could be affected. Therefore, controlling the cash owned through the cash flow statement is important to ensure the ability of the business to maintain its operability and sustain future expenses.

 

References

Atrill, P & McLaney, E (2011) Accounting and Finance for Non-Specialists. Seventh Edition. Harlow. Pearson Education Limited.

 

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