How are the three statements linked?
Model answer
Net income from the income statement flows to the top of the cash flow statement and into retained earnings (equity) on the balance sheet. The cash flow statement's ending cash becomes the cash line on the balance sheet. Non-cash items and working-capital changes on the CFS reconcile accrual net income to actual cash.
⚠ Common wrong answer: "Net income flows to the top of the cash flow statement — that's the link." Why it fails: That is only one of three connections. Net income (less dividends) also rolls into retained earnings on the balance sheet, the cash flow statement's ending cash becomes the balance-sheet cash line, and balance-sheet working-capital changes feed back into cash from operations — stop after one link and the loop never closes.
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