The cash flow statement (CFS) is one of the three financial reports generated by businesses to gauge financial position, health, and efficiency. It details the amount and timing of cash flowing into and out of a business, and uses data from the profit & loss (P&L) statement and balance sheet. Today’s post will give you an overview of what the CFS is, what you’ll find in the report, and how you can use it for making smarter business decisions.
What is a Cash Flow Statement?
A cash flow statement covers changes in the actual net cash exchanged in and out of the business over a specific period of time - for example, a year ending on December 31, or a month ending on January 31. While the data inside the CFS is taken from the other two primary financial reports (the P&L and balance sheet), it calls out the cash activities related to three areas: operations, investing, and financing.
Here’s a snapshot of what each section covers:
- Operations: This is a direct result of the business’ core activities as well as its services and / or products. For instance, it would reflect completed sales for goods and services, payments made to employees, or payments to vendors or on bills.
- Investing: Generally, this section covers large, cash-out expenses, such as capital purchases for new equipment or real estate. It may also reflect cash coming in from the sale of an asset or capital.
- Financing: This section reflects any impacts on cash - either in or out - due to changes in debt, loans, or dividends. It may also reflect equity from fundraising efforts.
A CFS also reflects a company’s liquidity, or the amount of cash available to meet immediate and short-term obligations. These measures are important because they reveal a company’s ability to cover its current liabilities.
It should be noted that cash and revenue are not the same thing. A CFS does not include transactions that are not considered completed (for example, purchases made on credit but haven’t been paid for), so it doesn’t necessarily reflect some items that appear on the balance sheet, such as accounts receivable and future earnings. Cash flow statements are typically generated to reflect specific periods of time (such as months, quarters, or years), as opposed to being a snapshot in time.
Another measure is that of solvency, or financial soundness, and quality of earnings (earnings associated with the company's primary operations versus those generated from financing and investing). The CFS works in conjunction with the balance sheet to show how capable a company is of paying off long term liabilities along with any interest accrued by debts. Investors and analysts use this information to determine the health of the company and its ability to thrive in the future.
How to Utilize a Cash Flow Statement
The cash flow statement readily reveals where your cash is coming from and how your company is spending it. Comparing the CFS from one time period - month, quarter or year - to another reveals growth or decline. This can help you determine not only how well your operations are running (efficiency); it also helps you determine if you can pay down any debts while still remaining in a cash positive position.
Investors and potential buyers use the CFS when evaluating the health of a business; generally, more cash on hand is preferable to less, since it indicates the flexibility to finance growth.
A CFS is used in coordination with the other two types of financial statements (the P&L and balance sheet) during major decisions for and about your business. Taken together, they provide a complete picture of how healthy your company is and reveal data pertinent to creditors, potential investors, and your own financial advisers.
If you have any questions about how we help businesses prepare and analyze financial documents, contact us here.