Companies experience a variety of financial transactions throughout their business. Financial transactions impact various account balances, cash flows and financial reporting. Businesses rely on their cash flows to meet financial obligations and provide a return to the owner. Managers need to understand how each transaction impacts the company’s cash flows. Transactions involving accrued liabilities can increase or decrease company cash flows.
Cash flows represent money entering or leaving the business. The company receives cash inflows and pays cash outflows. Cash inflows include customer payments or vendor refunds. Cash outflows include paying invoices or purchasing equipment. The company reports its cash flows on the Statement of Cash Flows, one of the primary financial statements. The total of all cash inflows and outflows determines the total change in the company’s cash balance and appears on the Statement of Cash Flows.
Accrued liabilities refer to money the company owes, but has not received formal notice of. The company records accrued liabilities when it incurs the liability, even if it receives no bill from the vendor. For example, when the company purchases materials from a vendor, it may not receive an invoice until the following month. The company records an accrued liability when it receives the shipment. At the end of each period, the company reviews the accrued liabilities and calculates the change in this balance.
Increase in Accrued Liabilities
When the company receives products or services without paying any cash, its accrued liabilities increase. The company compares this level of accrued liabilities to those from the previous period. An increase communicates that the company is recognizing its accrued liabilities, but paying less on them. The higher balance indicates that each liability remains outstanding for a longer timeframe. This creates an increase in cash flows.
Decrease in Accrued Liabilities
When accrued liabilities decrease, the company pays for the products or services it receives sooner, eliminating these accounts from the financial records. A decrease from the prior period level of accrued liabilities communicates that the company is recognizing its accrued liabilities, and paying more on them. The lower balance in this account indicates that each liability remains outstanding for a shorter timeframe, creating a decrease in cash flows.