Understanding statement of cash flow
Revenue is vanity, profits are sanity, but cash is king – or so the saying goes. That’s because cash is what customers pay in, and what shareholders get as a dividend. So, you must want to know more about the impact of your business activities on your cash flow?
Understanding Your Statement of Cash Flows
The cash flow statement shows how your business has generated and used cash (and cash equivalents) within a specific time period.
For each of the reporting categories, receipts and payments are listed (money in and money out), and this is reported as a net increase or decrease in cash held for that category.
The net change in all categories is added to the amount of cash at the start of the reporting period to arrive at the current cash at the end of the reporting period.
It is another important financial statement to understand alongside with the Profit and Loss statement and the Balance sheet. These three reports provide a good understanding of the financial position of your business.
How Does it Work?
The cash flow statement integrates the information provided by the profit and loss statement and the balance sheet into a current cash position. The cash flow statement is reported on a cash basis, while your other financial statements are usually reported on an accrual basis. Accruals basis being when the income was earned or expense incurred, not when the cash entered or left your business.
The statement of cash flows is organised into three sections:
Operating cash flows– Day to day operations of the business. All business income, expenses, assets and liabilities (except for those assets and liabilities reported in investing and financing activities).
Investing cash flows – the purchase and sale of long-term investments, property, plant and equipment as well as deposits paid to suppliers or received from customers and dividends received.
Financing cash flows – for example, issuing and repurchase of shares and bonds and payment of company dividends if applicable. Loans are also included in financing activities.
Why is it Useful?
The statement of cash flows gives you a valuable measure of cash flow in and out of the business over a given period. It shows the ability of the business to pay its bills and fund its operating activities. This gives you a picture of overall performance.
It also shows the relationships between assets, liabilities, equity and cash accounts. It shows changes and movements over time, whereas the balance sheet and profit and loss reports show account values at a single point in time.
The statement of cash flows gives you vital information on your business.
- How strong is your cash position?
- What is the long-term outlook for your business?
- What activities generate the most cash flow?
- What is the relationship between your net income and your operating activities?
A useful metric is free cash flow, this is simply operating cash flow minus capital expenditure such as building and equipment.
Cash flow from operations – capital expenditures = free cash flow.
It shows what’s left over from operating cash after expansion and upkeep costs. A positive balance implies the business has cash left over to give back to shareholders, pay off debts or invest in R&D or acquiring other companies.
It can be useful to ascertain if a company’s free cash flow is, and has consistently been, greater than the dividend paid. That’s another figure you will be able to find on the cash flow statement, under financing cash flows.
If your business is growing, you’re looking to expand your business, or you have a tremendous amount of investments, chances are that calculating your free cash flow can be beneficial.
If you’d like to understand your financial statements, cash position and future outlook in more depth, arrange an advisory session today. We’ll help you identify and appreciate the strengths of your business.