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Have you ever tried to purchase something only to realize you didn’t have enough money?  Worse yet, you had no idea where the money went?  If you reviewed your cash flow statement on a regular basis this wouldn’t happen.

What is a Cash Flow Statement?

A cash flow statement (aka Statement of Cash Flows) presents the movement of cash and cash equivalents over a specified period.   A company’s cash flow statement provides a bond between the income statement and the balance sheet.  Additionally, it allows owners to determine where the company’s cash was produced (inflows) and dispersed (outflows). 

All cash flows are classified under three categories: operating, investing and financing activities.

Operating Activities

Operating Activities = Net Income + Depreciation & Amortization +/-  1 Time Adjustments +/- Changes in Working Capital

Figures considered under operating activities represent cash inflows (revenue) and outflows (expenses) from the primary revenue sources of the business

Net Income as presented on the income statement is the basis used to calculate the cash flows from operating activities.

Make the following adjustments to determine the cash flow from operations:

  1. Remove non cash expenses like depreciation, amortization, bad debts, etc
  2. Reclassify income and expenses like interest expense, and dividends appropriately
  3. Deduct non cash income such as gains on revaluation of investments
  4. Record changes in working capital (e.g. an increase in accounts receivables)

Investing Activities

Investing Activities = Net Capital Expenditures of Property, Plant, and Equipment (PPE) +/-  Long Term Investments

Cash flow from investing activities includes both the inflow and outflow of cash resulting from the purchase and sale of assets other than its primary product. For example, the revenue generated when a vintner sells wine is classified as an operating activity, whereas the proceeds from the sale of the building from which the wine is sold would be classified as  investing activity.

Financing activities

Financing Activities = Cash Received From Issuance of Equity or Debt – Dividends to Shareholders – Purchase of Outstanding Equity or Debt

Uses of cash reported in the financing activities include repayment of short-term loans and/or long-term loans, the retirement of bonds payable, the purchase of a company’s own stock, the declaration and payment of dividends, and other decreases in long-term liabilities and stockholders’ equity.

Cash Flow is King

Having good cash flow is crucial to success which is why the cash flow statement is one of the “big three” financial reports.   Cash flow calculations provide information on profitability, liquidity, risks, future growth, dividends, etc. They are some of the most important tools for value investment analysis of investment opportunities.  They also enables owners to use historic information to form projections of future cash flows on which to base financial decisions.

Failure to utilize the cash flow statement as part of your regular financial review is asking for trouble.  Without it you are making decisions based on an incomplete picture of your financial health of your business.  If this report is missing from your arsenal of business tools, I highly recommend you add it.  

As always, if you need help interpreting the information presented in this or any of your financial reports, please seek the guidance of a professional.


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