What is the relationship between income statement balance sheet and cash flow?
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What is the Relationship Between Financial Statements?The financial statements are comprised of the income statement, balance sheet, and statement of cash flows. These three statements are interrelated in several ways, as noted in the following bullet points:
In short, the financial statements are highly interrelated. Consequently, when reviewing the financial statements of an organization, one should examine all of the financial statements in order to obtain a complete picture of its financial situation. Balance Sheet vs. Cash Flow Statement: An OverviewThe balance sheet and cash flow statement are two of the three financial statements that companies issue to report their financial performance. The financial statements are used by investors, market analysts, and creditors to evaluate a company's financial health and earnings potential. While the balance sheet shows what a company owns and owes, the cash flow statement records the cash activities for the period. Key Takeaways
Balance SheetA balance sheet lists a company's assets, liabilities, and shareholders' equity at a point in time, typically at the end of a period, such as the end of a quarter or year. A balance sheet shows what a company owns in the form of assets, what it owes in the form of liabilities, and the amount of money invested by shareholders listed under shareholders' equity (also referred to as owners' equity). The balance sheet shows a company's assets, but also shows how those assets were financed, whether it was through debt or through issuing equity. The balance sheet is broken down into three parts: assets, liabilities, and owners' equity, and it is represented by the following equation: Assets = Liabilities + Owners’ Equity where: Owners’ Equity = Total Assets minus total liabilities \begin{aligned} &\text{Assets} = \text{Liabilities} + \text{Owners' Equity} \\ &\textbf{where:} \\ &\text{Owners' Equity} = \text{Total Assets minus total liabilities} \\ \end{aligned} Assets=Liabilities+Owners’ Equitywhere:Owners’ Equity=Total Assets minus total liabilities To calculate the balance sheet, one would add total assets to the sum of total liabilities and shareholders' equity. The balance sheet equation above must always be in balance. If cash is used to pay down a company's debt, for example, the debt liability account is reduced, and the cash asset account is reduced by the same amount, keeping the balance sheet even. The name "balance sheet" is derived from the way that the three major accounts eventually balance out and equal each other; all assets are listed in one section, and their sum must equal the sum of all liabilities and the shareholders' equity. Below are examples of items listed on the balance sheet: Assets
Liabilities
Shareholders' Equity
The balance sheet shows a snapshot of the assets and liabilities for the period, but it does not show the company's activity during the period, such as revenue, expenses, nor the amount of cash spent. The cash activities are instead, recorded on the cash flow statement. Cash Flow StatementThe cash flow statement shows the amount of cash and cash equivalents entering and leaving a company. The cash flow statement (CFS) measures how well a company manages and generates cash to pay its debt obligations and fund operating expenses. The cash flow statement is derived from the income statement by taking net income and deducting or adding the cash from the company's activities shown below. The three sections of the cash flow statement are:
Operating ActivitiesOperating activities on the CFS include any sources and uses of cash from business activities. In other words, it reflects how much cash is generated from the sale of a company's products or services. Changes made in cash, accounts receivable, inventory, and accounts payable are shown in cash from operating activities and might include:
Investing ActivitiesThese activities include any incoming or outgoing cash from a company's long-term investments. Investing activities include:
Financing ActivitiesThese activities include cash from investors or banks, as well as the use of cash to pay shareholders. Financing activities include:
A balance sheet is a summary of the financial balances of a company, while a cash flow statement shows how the changes in the balance sheet accounts–and income on the income statement–affect a company's cash position. In other words, a company's cash flow statement measures the flow of cash in and out of a business, while a company's balance sheet measures its assets, liabilities, and owners' equity. Examples of How the Balance Sheet and Cash Flow Statement DifferBelow are copies of the balance sheet and cash flow statement for Apple Inc. (AAPL) as reported in the 10-Q filing on Dec. 28, 2019. Balance SheetThe balance sheet for Apple has the following entries listed for the quarter:
The balance sheet above shows a snapshot of Apple's assets and liabilities for the quarter, but you'll notice it does not show the amount of cash that was spent nor the profit or revenue generated for the quarter. Undoubtedly, Apple recorded cash flow activity as well as activity from the income statement, such as revenue and expenses. However, the balance sheet doesn't show the actual activity from the quarter. Instead, the balance sheet shows the results of what the company owns and owes as a result of that activity. Cash Flow StatementApple recorded the following cash flow activities for the quarter:
To highlight the difference between the two statements, we can look at Apple's investing activities, which included approximately $2.1 billion dollars in purchases of property, plant, and equipment. On Apple's balance sheet (shown earlier), the company recorded $37 billion dollars in property, plant, and equipment. That total includes the $2.1 billion purchase for those fixed assets, which was recorded as a cash outflow in investing activities. An extreme example would be if Apple decided to pay off $70 billion of its term debt, which totals approximately $93 billion listed on the balance sheet. The company would record the cash outlay of $70 billion dollars within the financing activities section of the cash flow statement. Also, the term debt total on the balance sheet would be listed as the reduced amount of $23 billion. While the cash flow statement shows cash coming in and going out, the balance sheet shows the assets and liabilities that result, in part, from the activities on the cash flow statement. What is the relationship between the three major financial statements?The balance sheet, income statement, and cash flow statement each offer unique details with information that is all interconnected. Together the three statements give a comprehensive portrayal of the company's operating activities.
What links balance sheet and statement of cash flow?Net income links to both the balance sheet and cash flow statement. In terms of the balance sheet, net income flows into stockholder's equity via retained earnings.
What is the relationship of financial statements with each other?The financial statements are not isolated items, they are closely related and flow between each other to give a larger picture of the business' financial circumstances. Each statement can stand alone to offer a snapshot of the given information.
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