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Discussing Financial Statements and the Production of Cash Flow Statements

Please address the following inquiries:
- The significance of financial statement data is not in the amount alone. Why is it necessary to convert accrual-based net income to a cash basis when preparing a statement of cash flows?
- How is the amount of cash payments to suppliers computed under the direct method in producing a statement of cash flows?

Solution Preview

To begin, why is this statement true: The significance of financial statement data is not in the amount alone.

Materiality is a concept or convention within accounting to the importance/significance of an amount. The objective of an audit of financial statements is to satisfy that they are compiled in accordance with Generally Accepted Accounting Principles or GAAP. The assessment of what is material is a matter of professional judgment. Economic activity is measured in the currency of a country. For example U.S. dollars - Transactions that can be expressed in monetary units ( U.S. dollars) are recorded. As a result accountants ignore the effects of inflation on recorded amounts, while when recording the transactions, professional judgment is needed to decide whether an amount is significant or immaterial. The materiality guideline may allow accountants to violate the matching principle and to expense the entire cost of any purchased item even it is small in amount.

Due to materiality, financial statements usually show amounts rounded to the nearest ...

Solution Summary

This solution discusses the importance of financial statements and the need to regard not only the financial based data, but all information recorded on statements of cash flows. This is all completed in under 700 words.

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