Cash flow statement

Quick definition

A cash flow statement show how much money a company earns and spends over a given time period.

Key details

• Cash flow statements form one part of three primary financial statements that paint a picture of a company’s health
• Cash flow effectively tells you how much available money a company has at a given moment
• The cash flow statement tells you what a company spends its money on over a given year

What is a cash flow statement?

Cash flow statements list the flow of cash into and out of the company during a specific operating period. Other names for cash flow statements include funds flow statement and statement of cash flows.

In the most general sense, the cash flow statement shows how a company earns (cash flowing in) and spends (cash flowing out) its money during an accounting period. Instead of showing absolute cash amounts of a company for a particular operating period, a cash flow statement shows changes within a business over time. As such, the statement is an excellent measure of the liquidity of a company. One can use the statement to determine a company’s short-term viability. While an income statement might hint towards a company’s profitability, the statement of cash flows only reveals a company’s liquidity.

Components of the cash flow statement

Accountants organize cash flow statements into four major categories:

Operating activities

This section shows the source of a company’s cash. Notably, the section captures activities that produce core products and/or services that form the main source of revenue for the company. As such, the more robust the cash flow from operating activities, the healthier the company. Some items from the income statement like net income form part of what the cash flow statement reports under operating activities.

Investing activities

Any changes in assets, investments, or equipment fall under this category. Usually, changes in cash from investing activities constitute expenditure and hence, cash outflows. However, divesting an asset constitutes cash inflow since money flows into the company’s coffers. Continual investment expenditure implies that the company is healthy financially. Often the investments are long-term and include items like land, plant, equipment, and other fixed assets.

Financial activities

This category reports changes in debts and other long-term borrowing items. Other items include the issuance of securities, dividend payment, and repurchase of securities. For instance, the issuance of stock leads to an inflow of capital. On the other hand, repurchase of stock or payment of dividends entails movement of cash out of the company’s account, hence cash outflow. Ultimately, this category helps the accountant or financial analyst to measure the effect of borrowing on the cash flow of the company.

Why is the cash flow statement important?

Several stakeholders use the information in the cash flow statement to make better decisions in relation to the given company. For instance, a financial analyst would want to know if the company generates enough cash to cover the costs of new investments. If the company relies on debt issuance and other borrowing activities to fund investments, one will easily find out.

In addition, a financial analyst might want to know where the company gets funds to pay dividends to stockholders. A keen study of the cash flow statement will easily tell you whether the company relies on debt issuance to pay dividends or takes funds from operations. If the company relies on cash generated from its operations to cover such expenses, then it is financially healthy. Further, such a company is flexible enough to undertake new investments easily.